The housing and mortgage industries do a remarkable job convincing the masses that home ownership is one of the best investments a person can make. Decades of advertisements have left most Americans daydreaming about owning a home, though few understand the long-term financial implications that come with the responsibility.
A recent Fannie Mae survey indicates that more than half of American renters (58 percent) hope to own their home someday, joining the 64 percent of Americans who already do. They cited many reasons for wanting to buy a home, but financial incentives surpass them all: Seventy-one percent said that home ownership protects against rent increases and serves as a good financial investment.
Yet for those who want to be financially independent, buying a house with a traditional mortgage should be the last item on their list. The main reason is that home ownership depletes the wealth-building capacity of most people over time by consuming their hard-earned income and cash reserve while also restricting their abilities to capitalize on other types of investments.
Even the highly coveted “home equity” is nothing more than an illusion. The $50,000 or $100,000 cash equity the average person receives after the sale of the property will be negligible compared to the money he or she will spend on the home during occupancy. The mortgage interest alone can exceed the amount of cash equity. In the first year of home ownership, for example, roughly 85 percent of the mortgage payment will be committed to mortgage interest; five years later, 78 percent of the payment will be devoted to it. When property taxes, maintenance costs, and remodeling expenses are added, the result is often a sizable net loss for the homeowner despite annual mortgage interest deductions.
The situation isn’t quite the same for those who spend cash for a house. Though the number of cash home-buyers fluctuate from year to year, they still comprise a large segment of the buyers’ market. According to a REALTORS Confidence Index Survey report, 23 percent of all home sales in the United States were conducted with cash in January 2017, compared to 35 percent at approximately the same time in 2014.
Even so, a cash-purchased property is not entirely risk-free. First, the owners are not exempt from property taxes, which can be a problem if not paid on time. Local governments can place liens on properties to secure the debt payment. Second, there are concerns about putting too many liquid assets into one class of investment. Some financial advisers argue that such a move minimizes diversification, which must be considered in the overall investment scheme. Nevertheless, I highly recommend a cash purchase instead of a mortgage as long as there’s additional money left over for other types of investments and emergencies.
Cash buyers’ advantage
For investors and other buyers who spend cash on distressed properties or those that went downhill, home ownership provides a unique advantage. It gives a greater sense of home stability and financial leverage: no need to qualify for a mortgage; no need to lose sleep over mortgage payments; and more importantly, no need to pay an exorbitant amount of interest on the mortgage, which is the biggest setback for those who want to become financially independent.
The roughly 85 percent of the mortgage payment that would normally be consumed by mortgage interest in the first five years of occupying the property could be used in a lucrative investment for potentially greater gain. For this reason, young people need to learn how to solidify their financial base before purchasing a home with a traditional mortgage that continues to siphon their hard-earned income through mortgage interests, thus thwarting their chance of becoming financially successful.
Renting for success
For those who cannot pay cash for a house, I strongly recommend renting. Though the situation isn’t flawless, it can be used for financial leverage. Putting it simply, the financial obligation for renters is much less costly. Once the rent, utilities, and renter’s insurance are paid, the monthly obligation is complete. The landlord takes care of all the extras, including upkeep and property taxes.
Though the rent may increase every now then, the cost can NEVER be compared to the on-going expense of the homeowner. In this case, renters have the unique opportunity to BANK most of the money that they would otherwise spend on mortgage interest, property tax, home insurance, maintenance costs, remodeling expenses, and flood insurance. With a slight change of perspective, a person can become highly successful if these funds are used for wealth-building purposes.
When seen this way, most renters can be in a better financial position than the average homeowner. This is where young people can take full advantage over this situation. Instead of anxiously waiting for the opportunity to get approved for a mortgage to buy a home, they need to be re-educated about the disadvantages of home ownership, the mortgage being the worst part of the deal.
Additionally, they need be taught how to stay away from debt while saving money at the same time. The idea is once they become financially stable, meaning having a great deal of liquid assets for security, they may consider buying a home.
I have said and will continue to say that renters can be winners. Though the mortgage and housing industries have come close to calling renters idiots who throw their money away each month, the opposite is true. Renting can be a smart decision for those who want to stash away a huge sum of cash and become financially prosperous.
If you’re considering the option of buying a home, my recommendation is to resist the siren call of home ownership and save money by renting your way to success.
To learn more about your housing option and financial management, consider reading my new book: Pennies to Power: How to Use Your 20’s to Gain Financial Independence for Life.
Thanks for reading.
What are your thoughts?
Do you think home ownership is worth the costs? Would you rather spend money on a home than having the cash accumulating interest in a lucrative investment account? Does renting make sense to you?