When it comes to determining whether your home is an asset or a liability, the answer lies in the perspective and stance you take. If you look at your home from a financial perspective, as most do when they purchase a primary residence, the home is an asset as it has value, it is something that you own, and not only can you borrow against it but you can also sell it for cash and increase its value. On the flip side, if you look at your home from a business standpoint, it is a liability as it costs you money and does not earn you an ongoing income; it has no cash flow. In this article, we will explore why your home is a liability and what has lead many to believe that homes are an asset when they are not.
What Is The Definition of an Asset and a Liability?
In order to understand whether your home is an asset or a liability, you first must know what an asset and a liability are. According to Investopedia, an asset is anything of value that can be converted in cash or cash equivalents. For individuals, this could be private property, investments, or household furnishings and collectibles. For organizations, this could be something that generates revenue or a benefit from using or owning the asset. A liability, on the other hand, is denoted as a state of being responsible for something. In business, this could be a current or long-term liability such as debts paid over a long period of time or monthly utilities and payroll expenses. When we simplify this down, generally speaking, an asset will earn you money and a liability will cost you.
Why Your Home is your Biggest Liability
One of the major reasons why individuals think that their home is an asset instead of a liability is because they can earn a profit from it when they sell due to appreciation and home equity. Unfortunately, the problem with this line of thinking is that to influence the value of the home, you have to pump more money into it and you cannot convert that equity into cash until you go to sell it. Beyond this, it would be naive to believe that the growth that the housing industry has experienced in the past decade is going to continue to achieve the same growth in the future. If it doesn’t, this means that your projected equity value may actually plummet. In addition to this, when you sell your home, you are only going to receive the value of the home within that period of time, which may not line up with your expected long-term value. Often individuals will walk away with less than what they expected to receive.
Liabilities That Your Home Creates
Beyond being a liability itself, a lot of individuals dream of retiring and reaching old-age in their homes, so even if you were looking to convert that home into cash, it may not actually happen. Your home also creates a ton of liabilities, from your mortgage principal and interest to the fact that you need to maintain it, repair it, renovate it, and pay taxes on it. You also must take care of the utilities, landscape it, and insure it. Finally, even if you were to sell your home for twice the amount you paid for it when you originally bought it, the total cost of home ownership almost always outweighs the profit you expect to receive from the sale of the home. Why? Interest accrued.
In Conclusion: Should You Forego Owning a Home?
No, not necessarily. There are some tax benefits you can receive with owning a home that you cannot get while renting and once you own your house with the mortgage paid off, your expenses are going to decrease drastically. When you get a mortgage that you can actually afford and a home that is in a good location, purchasing is almost always the right decision for the long-term, just don’t expect your home to be an asset beyond being a shelter.