I published an article about house as consumer goods over the weekend that was meant as a draft. So instead of fixing that post, I'll finish my thought in this post. Houses are consumer goods.
A house is not an investment. A house is a place to live.
Definition of Consumer Goods From Answers.com:
Goods bought for personal or household use, as distinguished from Capital Goods or producer's goods, which are used to produce other goods. The general economic meaning of consumer goods encompasses consumer services. Thus the market basket on which the Consumer Price Index is based includes clothing, food, and other goods as well as utilities, entertainment, and other services.
Definition of Investment from Answers.com:
An asset or item that is purchased with the hope that it will generate income or appreciate in the future. In an economic sense, an investment is the purchase of goods that are not consumed today but are used in the future to create wealth. In finance, an investment is a monetary asset purchased with the idea that the asset will provide income in the future or appreciate and be sold at a higher price.
From the definition above, which category does a house fit into? Most people (brainwashed by bank and real estate agent marketing) will say that a house is an investment. I will show why it's a poor investment.
The House as an Investment
The only way a house can be seen as an investment the appreciation angle. Unless you have a money tree in you back yard, your house isn't generating income.
When you purchase a home, you assume it will go up in value. The typical number is 3 to 4% a year. This 4% corresponds to the rate of inflation.
According to Robert Shiller's, Irrational Exuberance real house prices (adjusted for inflation) "increased 0.4% per year from 1890–2004, and 0.7% per year from 1940–2004."
I'm trying to find the return of the stock market for this same period. If someone has a link or resource please leave it in the comments. The typical number given for the stock market is 11% return. However, you'll have to adjust that number for inflation and taxes as I believe that number is the raw return.
As far as I can tell this does not include maintenance costs. Add up the cost of a lawn mower, snow blower (or the services), the price of painting, replacing siding, shingles, sidewalks, driveways, planting and later trimming and removing trees, you've got a hell of a liability, not an asset.
What about taxes? What about insurance. How do those 2 items affect your bottom line. Last time I checked those were expenses. Just like an automobile (another consumer good) you have to pay taxes (licensing/registration) and insurance (automobile vs home owners) every year.
I'm not talking about rental properties or houses purchases to fix and flip. I'm talking about the home purchases a primary residence. A home is a place to live. Some people make money when they sell their houses. The fact is that they probably don't count for inflation. Yes their house was much cheaper 30 years ago but so was everything else.
The House as a Consumer Good
A house is subject to fashions. The floor plan will fall into and out of favor (split foyer vs ranch, etc). The appliances will be unfashionable probably before they become nonfunctional.
Consumer goods wear out. When we but a DVD player we know at some point it will break. Or it will be replaced by a new format (Blu-ray). We know at some point our home will look dated. Fashions will change, the brick will go out of style. Large foyers will go out of fashion. Wood flooring will be replaced by tile then carpet (it's happened before).
In short the house will wear out. And the government won't even let us write off the expense of repair and replacement.
The IRS Says a Home is Not an Investment
If a home is a capital asset, then why can't we claim depreciation on our "investment?" First, a family is not a business and if you try to run it like one I feel sorry you. Emotional decisions overrule financial decisions in a family much more often in business (hopefully or the business won't be a business for long).
Deprecation is a business expense taken against a capital asset (think computers, trucks, buildings, etc). Physical assets wear out over time so their value goes down. This happens to houses to, but as home owners we're stuck with the bill but we typically can't write off home repairs. The US tax code does not treat a residence as an investment.
Why I Paid Off My House
So if it's such a bad investment, why did I pay off my house? One word: risk. I paid of my house to reduce risk.
I think people tend to underestimate risk. When we look at an investment prospectus, we only look at the historical returns. We are very bad (usually) about estimating the risks associated with mutual funds, stocks, etc.
A paid-off home is one way to remove yourself from the path of fate. Too many of us are Fooled By Randomness.
Next time, we'll talk more about risk and why even people who have a duty to help us may in fact harm us.
Tags Home House Investment RiskRelated Posts
- A House is a Consumer Good
- Gas Prices – Part 1 – Why Does Gas Cost So Much?
- Interest
- Why Is Debt No Longer a Bad Thing?
- Should I Buy a New House?
Comments
2 Comments so far
"I'm trying to find the return of the stock market for this same period. If someone has a link or resource please leave it in the comments. The typical number given for the stock market is 11% return. However, you'll have to adjust that number for inflation and taxes as I believe that number is the raw return."
Here's the one that I like to use:
http://politicalcalculations.blogspot.com/2006/12/sp-500-at-your-fingertips.html
From Jan. 1890 to Jan. 2004: The compound annual return of the SP500 was 4.8% (without dividend reinvestment) and 9.55% (with dividend reinvestment). The compounded annual inflation during that time period was 2.84%.
From Jan. 1940 to Jan. 2004: The compound annual return of the SP500 was 7.32% (without dividend reinvestment) and 11.57% (with dividend reinvestment). The compounded annual inflation during that time period was 4.13%.
Good post. My only criticism is the lack of discussion about the value of rent abatement or rent avoidance that owning provides.
The true impact of any purchase should be determined relative to the other available options. If you compare long-term renting v. long-term owning, my guess is that owning will come out on top almost every time (assuming that you properly account to rent increases over time).
The value of an investment isn't just the money that it puts in your pocket, but also the money that it prevents from leaving your pocket.