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When a Homeowner’s Penny Saved Becomes Two Pennies Earned

A house is first and foremost a home. It is where you sleep, eat, raise your children, take shelter from the storm, and hopefully grow old and happy. That was forgotten by buyers, banks and the government in the run-ups to the late 1980s and mid-2000s housing bubbles. It was ignored by the Wall Street financial speculators who turned mortgages into investment “vehicles” that took no notice of the people paying the underlying loans.

Today, the early signs of a healthy housing market are returning after the crash. We’re again seeing a return on investment for the homeowner. Once again, it is becoming normal to buy a home with the expectation that it is a sound investment in the future. House prices are increasing in many parts of the country, and even with only modest appreciation, homeowners can find their equity – that share of a home’s value not beholden to the bank – grows much faster than their investment in in the house. What that means to the homebuyer is the type of financial return usually reserved only for hedge fund managers and private equity firms using other people’s money to make a lot for themselves.

The fat cats would call it “arbitrage,” or playing the difference between what an asset is worth at one point in time versus what it’s worth at another. “Leverage” is using borrowed assets to raise your own return, since you only have to pay back what you borrow, plus any interest, while you get to keep all the profits.

How does that work for an individual homebuyer? Suppose you buy a house for $200,000 and pay the mortgage faithfully for five years. Then, out of the blue, you get a great job offer a few hundred miles away and decided to sell your home and move. If your home gained only about 2 percent in value each year that you owned it, at the end of five years it would be worth almost $221,000.  Meanwhile, you would have paid about $20,000 in mortgage principal over the period. When you sell, you walk away with $41,000 – the value of the house minus the amount remaining on the loan. You only invested $20,000, so you have effectively doubled your money in five years, even though the house gained only 10 percent in value.

Congratulations. You’ve made it to the financial big leagues, enjoying “leveraged appreciation” on your investment. And you did it safely, while patiently buying equity in an asset that was at the same time a home for you and your family.

With that $41,000, you can perhaps put a down payment on a bigger and better home for your family in your new location, maybe buy a car if you don’t need to upsize your living space, or save the money for retirement or the kids’ college.  It’s your money.  It’s up to you.

OK, there’s that little voice saying wait a minute, I actually paid more than $950 a month on my mortgage, and over five years it was $57,000 I plunked down for the old house, not $20,000. The voice is easily answered. Of your payment, one-third on average went directly toward your ownership of the house, while the rest was interest you paid to the bank. Think of the interest as rent, and think of the principal as savings. Could you have rented that house, or even an adequate apartment, for $650 or $650 a month?  Not likely. And could you have found a bank savings account that would turn a little more than $300 a month put away over five years – $20,000, give or take – into $41,000?

Sure. If you believe in Santa Claus and the Tooth Fairy, too.

But leveraged appreciation is not financial make-believe. It’s for real. And while, as we all now know, home values don’t always go up; they are beginning to rise once again. A penny saved via buying a home just might turn into two pennies earned.

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