Many self-proclaimed real estate gurus espouse the idea that you cannot live an asset. By the same meaning, they would therefore declare your primary residence a liability. I believe that this type of thinking is misleading at best and incorrect more often that not. ​

The reasoning behind the claims that housing is a liability are centered on the argument that as long as you live in your home, it is unable to generate rate of return for you. With the failure to generate a rate of return, the industry "gurus" would likely inform you that your house is disqualified from being an asset.

​Rate of returns in real estate involve more than just rental property income however. Just because you do not have positive monthly cash-flow in the form of rental income, does not mean that your primary residence cannot be an investment. 

An asset is can technically be classified as anything that has the potential to produce positive economic value. Unless your house became worthless the second after you signed at closing, it cannot possibly be considered anything other than an asset. Whether your home is an appreciating or depreciating asset however, is an article for another day.

According to data collected by Jorda et. al. (2019) from the time period of 1870 to 2015- over a century's worth of data- equities (stocks) beat real estate returns 8.46 to 6.10% respectively after being adjusted for inflation.

That 2.36% difference (8.46 vs. 6.10) in returns is actually attributed largely due to the inclusion of rental yields into the equation. The reality is, capital appreciation is much closer to 1% over the long term, according to Shiller (2000).

Many will argue that the measly 1% capital appreciation on homes is bringing down the real number associated with total real estate rental yields. They insist that rental yields are much higher than just 6.1%. The only problem is, there is insufficient data to support those claims. The reality is that rental real estate yields are very wide ranging and extremely difficult to predict ahead of time due to known long-term costs associated with the property.

Why are the costs of rental real estate relatively unknown and difficult to predict?
​The expenses associated with owning this property are variable and largely unknown throughout the lifetime holding of any given property.

Consider just some of these unexpected expenses associated with ownership in real estate:

• Legal advice and litigation costs
• Court costs associated with eviction or tenant problems
• Insurance costs - which are often higher for rental properties that primary residence
• Elevated mortgage rates - typically higher than primary residential rates
• Ongoing maintenance costs which are highly unpredictable and sometimes largely based on tenant behavior

There are many more, but these are the biggest unexpected costs associated with rental real estate. 
​
I digress, because we are talking home ownership as an investment, not rental real estate. To evaluate a home as an investment, we will need to know how much a house appreciates over time. This will allow us to measure it's monetary value as an investment.

To find the best answer to this multi-factorial question, we can take a look at the Case-Shiller Home Price Index. This appears to be the best index associated with the national home price index. Keep in mind, the Case-Shiller index excludes new home construction (there is a separate index for that) and focused primarily on resale of existing homes within a given time period. This is good news because most of us in the FI community focus on used real estate for purchase and ownerhsip.

When digging through Shiller's website data (available on his website for free), I found historical data---measured with a 3 month moving average---since 1953 (I chose 1953 as a starting point because that appears to be the year they began updating the index on a monthly basis).

Now, the data is broken into real and nominal values. The difference is crucial. The real home price index is adjusted for inflation and is updated for "today's dollars". The nominal price index does not adjust for inflation.


What's the difference between real and nominal home value?

The real home price index from 1953-2019 increased by 54.16%

• That equates to an annualized return of 0.81% over that 67 year period.The real home price index adjusts for inflation. This means that the value of $1 in 2019 is adjusted to match the value of $1 in 1953. By adjusting for inflation, we are allowed to make an apples to apples comparison. Over time, the real value of $1 has deflated. This just means you cannot buy as much with $1 in 2019 as you could with $1 in 1953. 

The nominal home price index from  1953-2019 increased by 1388%

• The nominal index explains how your grandparents bought their house in 1953 for $18,000 and it was "suddenly" worth $267,840 in 2019. Nominal takes into account both inflation of the value of one dollar as well as capital appreciation of approximately 1% per year. That's how a home originally purchased 67 years ago (in 1953) can increase in value to $267,840 by the year 2019.

So why is there such a difference between real and nominal home prices?
Again, the nominal home price increase is much larger in the example above because it fails to account for the fact that the market value of $1 in 1953 is not the same as the market value of $1 in 2019. This is primarily due to inflation. 

In other words, a single dollar went "much further" in 1953 than it does today. Plain and simple.

That is why the real home price index is a more useful tool in calculating the expected annual rate of return of housing. The index essentially equates yesterday's dollars with today's dollars by adjusting for inflation. 

By evaluating the change in real home price index figures from 1953-2019, I calculated an annualized rate of return of 0.81% per year of capital appreciation of a typical home over that 67 year period

Admittedly, I will occasionally round up and use a full one percent per year figure in my articles since many market critics will recognize a full percentage point as an accurate figure.
​Now that we have calculated the expected annual rate of appreciation of your home, let's dive into the discussion of seeing your home as an investment.

Most people simply do not even understand the basics of what is considered an investment. An investment is something that you attain now with the prospects of benefit in the future.

Typically, this is referred to in terms of financial gain. However, this is entirely misleading due to the fact that there are many types of investments don't even generate a positive return.

Some examples of investments that fail to generate positive returns over the long-term:

• Actively managed, high-turnover mutual funds
• Failed businesses
• Failed partnerships
• IPO's
• Penny stocks
• Hedged funds
• Leveraged investments---this includes "house poor" individuals who borrowed more than they can afford in real estate

These are all acknowledged as investments, yet they lose money. So sure, your house can still "lose money" if you sell it at the wrong time, but it's still worth something.

Technically speaking, an investment is simply something that you anticipate will be worth something in the future. You hope it will be worth something in the future that is of benefit to you. But remember, beauty is in the eye of the beholder. Your definition of "benefit" is not a universal definition, it is unique to you only. Many would simply be happy knowing that their house will be worth something someday, regardless of how it compares to the original purchase price--especially if it's paid for. 

Yes. At least indirectly it can improve your overall net worth.

One of the best write-ups I have seen on this conversation is found here, written by Michael Bluejay. This guys does a great job of analyzing the entire circumstances of a home ownership in a simple, one-page article. He breaks down the concept of "Rent we didn't have to pay" as line item in expenses.

Rather than reinventing the wheel, Bluejay discusses how the average person will have to pay hundreds of thousands of dollars in rent over a 30 year period---which is also the length of the average mortgage. 

He breaks down the difference in value of two scenarios:

1. Home ownership and value in years 30 and 31 of owning a home; and
2. Renting for 30 years and investing the difference in the market

The math is extraordinary but the numbers are very practical and they do check out. See them for yourself here.

The punchline in Bluejay's article is that by renting you lose over $300,000 over a 30 year period, even if you invest the difference between renting and buying. He recognizes in his example that home ownership may appear to lose money as well, but that's if you forget to include "Rent you didn't have to pay". Basically, this is what he considers to be an objective measure of "having a place to live".

Paying rent over 30 years--at $1,200 per month--would cost you a total of $432,000. At the end of that 30 years you have nothing to show for the $432,000 spent in rent. What's even worse is that this calculation does not even account for the fact that your rent will most assuredly increase over the course of the next 30 years. 

Even if renting costed you $300 less per month than buying---which is lunacy because in many desirable areas renting is actually just as expensive, or even more expensive, than buying---and you invested that difference over 30 years with an 8% return. You would have $407,819. You didn't even break even! Not to mention that you also don't have a place to live after 30 years of hard work. That's a terrible trade-off. 

So yes, home ownership is considered an investment.

First and foremost, let's address the intangibles. Home ownership, subjectively, is:

• A place to call home
• A place to build a family
• A place to own (get it paid off quick!)
• You are in control of the rules (within reason and as long as you're not in an HOA). Paint the walls, remodel the kitchen, change the fixtures, all without needing to ask a landlord for permission.

You get the idea. A home is a chance to actually have a stake in something in the world. Your own plot of land (be careful though, it's not really yours until you pay off that mortgage). 

Objectively, a home is a place to build equity. To realize appreciation, even if it is only 0.81% per year. Further, the faster you pay off your home, the less interest you will ultimately pay. 

Many will argue that mortgages and home ownership will leave you paying nearly 2.5 times the original purchase price. I agree with that math if it takes you the full 30 years to pay off the house. That is why I recommend early and aggressive principal reductions---or buying your house in cash if you are in a position to do so. 

Your home is definitely an investment. Although it does not return as much as other types of investments, it provides many intangibles (highlighted above) that are irreplaceable. 

References
​1. Shiller, Robert J. 2000. Irrational Exuberance. Princeton, N.J.: Princeton University Press.

A mortgage is a loan used for the purchase or refinancing of a home. Practically speaking, it is the amount of money given to you by a lender for the financing of a home.

The mortgage loan has many parameters including, but not limited to:

• Interest rate of the loan
• Duration of the loan
• Type of financing - conventional, FHA, USDA, VA
• Amortization schedule - interest vs. principle portion of each payment over time
• Escrow account - for property taxes and homeowners insurance
• Private Mortgage Insurance (PMI) - if down payment is less than 20%

Mortgages are typically used when you do not have all of the money upfront for the sale of a home. If you do happen to have the entire upfront cost, you might still choose to mortgage the property if you do not want to give up such a large sum of money, all at once.

Yes and no.

A mortgage is specifically a loan given as financing for a home purchase, or refinancing. As collateral for such a large amount, the home is typically put up against the value of the home just in case you stop making payments to them. If payments should stop, the home could then be used as collateral for "repayment" of the loan. I use the term "repayment" very loosely because you lose more than just a home in this process. In the process of losing a home due to missed mortgage payments (essentially a foreclosure), your credit score will be ruined. 

Keep in mind that this black mark (i.e. foreclosure) stays on your record for 10 years. Avoid this at all costs if you ever hope to receive any other loans or favorable terms on lines of credit.

Lenders typically get into business to lend money, not to own homes. They want your money, not the house. I have heard of many people getting away with up to a year's worth of missed payments prior to the lender foreclosing on the property. This is proof of concept that lenders really don't want to be homeowners.

The initial process of obtaining a mortgage is to receive a pre-approval or a pre-qualification. Be advised, these are not the same thing. These two terms are often used interchangeably, but they differ in some important ways. 

A pre-qualification is solely based on information that you provide to the lender. This is simply a way to help you "ballpark" the amount of money you can hope to spend on a home. This is by no means a commitment nor is it a hard number to use when making home buying decisions.

A pre-approval is a much deeper dive into your history including, but not limited to:

• 30 days worth of pay stubs
• Your residential information from at least the last 2 years
• Financial statements including, but not limited to
  • Checking and Savings accounts
  • Taxable brokerage accounts
• Two years worth of tax returns- W-2s
• Social Security number to allow the lender to pull your credit history/report

​The pre-approval is a much firmer commitment to lend you a given amount of money. Essentially, a pre-approval is a mortgage loan application without a specific property affixed to the loan application.

After obtaining a pre-approval letter (highlighted above), the potential buyer includes this in an offer on a particular home. If the offer is accepted, the potential buyer typically has a period of less than 10 days to officially apply for a loan with a lender. This is the time where most people "shop" around for the best quotes before submitting a formalized application. Beware however, you really do not have a ton of time to do your shopping so move forward wisely.

Around the same time as you are gathering documents for your mortgage application, you will be arranging to have the property inspected (if you choose) and place "earnest money" in an account based on the terms of your contract.

As for the application process itself, the lender will now perform any final verification of employment, income, and assets. The lender will also attain details on the specific property for which you intend to purchase following the seller's acceptance of your offer. The lender will look to have the following done prior to fully approving your loan:

• A property appraisal to confirm the value/condition of the home
• Hiring of a title company to check the status of the title on the home

If everything checks out and terms are acceptable (interest rates, loan duration, loan type, etc.), you will move towards closing on your mortgage.

Closing on your mortgage involves meeting with the lender and your real estate agent (and any other necessary parties depending on your state's rules/regulations). This is where you will sign your mortgage papers. This is also typically when your down payment and closing costs are due, in full.

As always, this is not to be interpreted as financial advice. Check your local rules and regulations as some of the information will ultimately differ according to where you live or desire to live.

Above is a summary of the basic "moving parts" surrounding mortgages. It is important to understand the nuts and bolts of a mortgage since it will likely be the largest financial transaction of your life.

The creation of mortgages permits many to attain home-ownership where it would otherwise be impossible due to limited income and finances. 

There are many more things to know about mortgages. Learn everything you can. Knowledge is power.

Best of luck.