Financial Truth or Myth: Is A House a Good Investment?

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An ongoing debate in the personal finance community is this… is a house a good investment? Or is it a liability in disguise? Welcome to a new ongoing series here at Family Finance Mom, Financial Truth or Myth. I should probably also add a third category, opinion. With each topic I’ll break it down with facts, supported by hard data, and help you discern financial fact from fiction or opinion.

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Is a House a Good Investment?

It’s a common debate – is buying a house actually a good investment? Many personal finance experts claim home ownership to be the path to wealth creation, but is that actually true?

Let’s define some terms, look at some actual data, and find out!

Is your Home an Investment?

For something to be an investment, you have to put money in, with the goal of getting a positive benefit or return over time. For many families, a house is definitely that. You buy it to live in, but you also hope to see it increase in value. So for most people, buying a home is definitely an investment.

Are Houses Good Investments?

So, once you buy a house, do you actually end up realizing that positive benefit, or return, on your investment?

If we look at the Case-Shiller Index, which tracks national average housing prices across the US dating back to the late 1980s, in general, home prices have increased over time. Over the last 35 years, home prices have increased annually by 4.1% with very low volatility, or minimal ups and downs, along the way.

But… can’t you make more investing somewhere else?

Real estate prices, in general, increase slowly but steadily. You can definitely generate higher returns by taking more risk by putting your money in the stock market.

Same time frame as above – the S&P 500 has returned 2x as much annually, but with 3x the volatility. More risk, but more reward.

So, Why is Buying a House a Good Investment?

Two reasons – it’s one of the few things we commit to for the long-term, AND it’s one of the few things the average family can invest in with leverage. Long-term and leverage is the ideal combination for solid investment returns. It’s the same way private equity firms make big returns, and you can do it with your house.

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When we look at the returns we generate on our home, we don’t actually have to put up the full purchase price upfront. We only have to make a down payment, roughly 20% of the initial price. If you bought a median priced house in 1995, today, that house based on the Case-Shiller Index would be worth nearly $500,000. Your mortgage would be nearly paid off, and because you only had to put down $30,000 to buy it, your annualized return is double digits.

That same $30,000 in the stock market over the same time period would definitely outperform housing prices alone, but not with the benefit of leverage. And unfortunately, most banks aren’t going to loan you the money to invest in the stock market with leverage.

What about the mortgage payments? The added benefit of a house – you get to live in it. If you didn’t buy the house, you would be making similar payments in the form of rent, so for simplicities sake, those cancel each other out in these two scenario comparisons.

Are there other costs of homeownership? Yes – taxes, maintenance, insurance, but even if you knock a few points off annually for those, you’re still at least keeping pace with the market, and you’ve got a nice place to live.

When Might a House Not be a Good Investment?

There are no guarantees when it comes to investing, and buying a house may not be the right decision or best investment for everyone. Remember the two keys to its success? Long-term and leverage.

Leverage can be a double-edged sword. It can erase your gains as easily as it can amplify them, so be sure you understand how much you can afford and you can ride out any potential downturns along the way.

More importantly, investment and homeownership should be for the long-term, to insure good investment potential. There are fees and transaction costs. It can take time for a home to appreciate in value enough to overcome those. If you aren’t sure how long you are going to be or want to be somewhere, renting gives great option value.

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