Why your first home should be an investment property.

Many homeowners in America feel that their house is a great investment. The fact of the matter it’s not and here’s why. An investment is the action or process of purchasing goods in hopes for a profit or material gain. Most people believe home ownership fits this definition for the following reasons:

  1. Buying a home takes significant capital to purchase.
  2. Real Estate has historically increased in value over time even with bubbles and crashes along the way. This enables a home owner to sell at a profit later on given this fact.

So why isn’t owning a home an investment for most homeowners? Because the true cost of home ownership is not what you paid for the property. Insurance, taxes, maintenance and interest all eat away at any potential profit you may make once you sell. For example lets assume you purchased a home in 2017 for $150,000. You take out a 30 year mortgage on 120,000 (20% down) with an interest rate of 4%, property taxes are $1700 a year, and insurance is $800.00 a year. You then sell that home 10 years later for $235,000. Lets look at the return on that investment once the property is sold.

Purchase Price  150,000
Down Payment (20%)  $   30,000.00
Closing Costs  $     6,500.00
Mortgage Principal Paid  $   26,165.00
Mortgage Interest Paid  $   44,304.00
Property Tax over 10 years  $   17,000.00
Insurance over 10 years  $     8,000.00
Maintenance over 10 years ($500 per year)  $     6,000.00
Approximate capital spent on property  $ 137,969.00
Sale Price  $       235,000.00
Sales commission on sale (6%)  $         14,100.00
Remaining Balance on mortgage once sold  $         94,204.00
Approximate net to seller at closing  $       126,696.00
Approximate capital spent on property over 10 years  $       137,969.00
Total ROI after 10 years  $       (11,273.00)

So by looking at this example, even with a 56% increase in property value over the 10 years you would have lost $11,273.00 on your “investment”.

On the other hand, lets say the property you purchase has an extra bedroom and you find a roommate to rent out one of those rooms. Rental income is $300.00 per month and you decide to put that money towards the principal of the loan. Here is how it would breakdown:

Purchase Price  $       150,000.00
Down Payment  $   30,000.00
Closing Costs  $     6,500.00
Mortgage Principal Paid  $   62,165.00
Mortgage Interest Paid  $   44,304.00
Property Tax over 10 years  $   17,000.00
Insurance over 10 years  $     8,000.00
Maintenance over 10 years  $     6,000.00
Approximate capital spent on property  $ 173,969.00
Less Rental Income  $   36,000.00
Total spent by owner  $ 137,969.00
Sale Price  $       235,000.00
Sales commission on sale (6%)  $         14,100.00
Remaining Balance Once Sold  $         50,365.81
Approximate net to seller at closing  $       170,534.19
Capital spent by owner over 10 years  $       137,969.00
Total ROI after 10 years  $         32,565.19

So in this scenario, just by renting the one bedroom and putting that income towards the principal, you have a $43,838 swing in the positive direction. For 1 more scenario, lets assume you didn’t put the rental income toward your mortgage principal. Rather, you used the rental income to help pay your mortgage payment with no additional funds being put toward the principal. You would have profited $24,097

Another fact that I didn’t project in this example is that rents typically increase at least with inflation over time. My projections assumed a renter was paying $300 a month for all 10 years with no increase in rent. Also, a person executing this strategy probably will not stay in the property for 10 years. Instead they may choose to rent the whole property out while they go on to their next. At that point you have a tenant who will be paying the full mortgage (plus potential positive cash flow) on your investment as it appreciates over time thus increasing your ROI.

Anyone can do this and it’s not exclusive to first time home buyers. But in my opinion unmarried, young professionals are ideal for this strategy. By purchasing a home and renting out a room or purchasing a duplex and renting out one unit, you have set yourself up with shelter and a passive income stream. With more and more adults under the age of 35 renting in lieu of purchasing and an increasing amount of renters choosing to have roommates to offset costs; it only makes sense to be the other side of the renting equation. See Forbes article regarding roommates and rentals here.

The obvious hurdles in executing this strategy is saving enough for the down payment and finding a property that has a separate living quarters (duplex, mother in law suite). Good news that you don’t need 20% down to secure a mortgage and I can help you find the right property. Lets get started today!

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google photo

You are commenting using your Google account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s