Asset vs Liability – Let’s Set The Record Straight
Is your primary residence an asset or a liability? In economic terms an asset is something that has potential to provide future financial benefit. A liability could best be described as something you need to spend money on.
I spent $140k on my condo. It is a liability for the simple fact that it isn’t generating income for me, besides it costing me money every month to maintain it. I pay an HOA fee of nearly $170/mo and I pay around the same every month for property taxes. Like most of my posts, I write them because it forces me to research whatever kind of shit that is rolling around in my brain.
Some believe that their real estate property is an investment but that is generally erroneous. Sure, it may go up enough in value to make up for the cost of you living in it but that is quite unlikely. After you account for property taxes, mortgage interest payments, repairs and the various costs involved in insuring and appraising, selling or buying that property then you aren’t left with much.
Some only look at the numeric value of their home without taking the above into consideration, more specifically without taking inflation into consideration. If a house was bought for $500k and sold for $675k a decade later many would assume they made a profit. However, $675k is what the original house is worth after 10 years of average inflation. If you spent no money selling it, maintaining it, paying for insurance and real estate taxes then you only broke even. Take out 6% of realtor fees, 1% a year of property maintenance costs, 0.75% a year of property taxes (after accounting for the tax deductions) and 1% a year of renovations to fix depreciated decor and you would need to sell that house for $840k in order to turn a small profit.
In all fairness, I didn’t take into account how much you would have paid had you rented instead. But, I am making the point that a private residence by itself is simply not an investment.
How Can You Make Your House More Of An Asset And Less Of A LIABILITY
Nothing in finance is black or white which is something I love about this field. Even one’s primary residence can become less of a liability and more of an asset. Let’s talk about ways of achieving this.
Rent vs mortgage is an easy one. In some areas it can be cheaper to buy your place rather than paying rent. However, take into consideration the selling costs mentioned above. A good buy vs rent calculator worth playing with is this one. Just remember to use comparable properties when comparing the rent vs buy prices. You may or may not have to pay a down payment in order to purchase the home, another factor to consider. And though some mortgages may be low, PMI and high property maintenance costs, as well as property tax may flip the math back more in favor of renting.
A quirky home or a traditional condo/townhouse outside of hot real estate markets likely won’t appreciate as much as other homes. They may have lower cost of entry but if their value goes up only with inflation you may be better off renting, otherwise you just added another liability to your portfolio.
If you can run a business out of your home there are tax deductions you can take for the home office and whatever else you spend in order to maintain your home office. More importantly, if you can use your home office to make money then you can generate income which may make your home investment even more favorable.
Before you buy your home it would be good to do the math to see if it has potential to be a good rental property. There are all sorts of ways of doing the math on that. The factors that people have a tougher time computing are vacancy, property management costs and maintenance/repairs. Check out a site like biggerpockets.com, sites like this have really useful forums on which you can post your questions and get helpful feedback from those with years of experience.
Let’s say the house you purchase goes up in value; it has lived up to its asset claim, and by selling it you could pocket a decent profit. How likely are you to sell and get up and go if such an opportunity arises? It’s not easy if your kids are in school or if all the other homes in your price point have appreciated as well. Some deals are great but if they come at inopportune times then they are essentially worthless.
The final one I want to throw in there, similar to the home office generating income, is some sort of income from renting a part of your home out. Though AirBnB has gained popularity it seems to cause quite a few parties grief. Overall these peer-to-peer sharing websites are gaining popularity as technology bridges all of our excess wealth, allowing us to profit from what one person has and another person doesn’t.
Besides AirBnB, don’t forget more traditional ways of renting out the space in your home, as long as you are okay trading your privacy for income. Examples are renting rooms through Craigslist, renting a basement or attic to an artist. Renting out your garage or parking space for someone else’s storage needs. Renting your backyard or front yard to someone doing urban farming or of course farming the space yourself.