People routinely believe that the house they own and live in is an asset.  They also believe it’s the greatest asset they have.

Your House is a Liability

The reality is that your house is not an asset.  It’s the bank’s asset and your liability.

This distinction is crucial for individuals who rely on their house as their retirement nest egg.  They invest in a 401(K), pay off their mortgage, and sit back thinking they will have a secure retirement.  Unfortunately, the opposite is true.  Your house will always be a liability and drain money from your pocket.

How The Transaction Works

To understand why your house is a liability for you and an asset for the bank, think about this distinction in terms of financial statements.  On your balance sheet, you have an asset column and a liability column.  The bank’s balance sheet has the same two columns. 

When you buy a house, you need a mortgage–a loan–from the bank to finance the purchase.  This arrangement leaves the buyer with a debt to the bank.  You owe the bank money that it gave you to pay the seller for the property.  Because you can’t pay back the bank all at once, the bank puts you on a payment plan for a fixed period of time–15 years, 30 years, 40 years, etc.  During that time, you make monthly payments of principal and interest to the bank.

Your Liability

The result from this arrangement is that your house–via these monthly payments–takes money out of your pocket every month.  If you look at your balance sheet, the items that take money out of your pocket are listed in your liability column.  Because your house does just that, it’s a liability.  

Even if you pay off your mortgage (which takes the average person two to three decades), that house continues to be a liability because you still owe property taxes on a yearly basis.  It never ceases to drain your pocket.

The Bank’s Asset

The money you pay on a monthly basis to reduce the outstanding balance of your mortgage goes into the bank’s pocket.  If you looked at the bank’s balance sheet, the house is listed in the asset column because it represents a constant stream of monthly cash flow.  Only when you finish paying off the mortgage–15, 30, or 40 years later–does that house cease to be an asset for the bank. 

In the meantime, however, the bank makes a ton of money (in the form of interest) off of you over the term of the mortgage.

What You Should Do

Does this mean you should never buy a house or apply for a mortgage?  No.  If you have the money, and if you’re investing in income-producing assets, you can certainly purchase a house.  The points I am trying to make are about priorities:

1) People sometimes rush too quickly into buying a house.  I made this mistake and learned from it.  The smaller your down payment, the more money the bank makes off of you.  The longer the term of your mortgage, the more money the bank makes off of you.  People stretch themselves to buy a house because they feel renting is a waste of money.  But you shouldn’t go into such debt and take solace in the mere idea that you’re a homeowner.  You need to analyze and understand the mechanics of your financing and whether it’s a decision that’s going to drain a tremendous amount of money from your pocket.

2) People often think that making their mortgage payments operate like “forced savings” and build up a secure nest egg for their retirement.  The problem with that logic is that, if you do that–and a 401(K)–and nothing else, you’re in trouble.  The volatile state of the economy and, in particular, the falling U.S. real estate market and the dollar, require that we make additional investments.  We need more assets–those that put money in our pockets–to secure our retirement and our financial freedom. 

These two mindsets plague most Americans.  If buying a house is too expensive, it is OK to wait.  In the meantime, you don’t have to pay the bank hundreds of thousands of dollars in principal and interest, and you won’t have that liability on your balance sheet.  In addition, you can take your money and invest it in starting a business or in owning small rental properties, etc.  That will create an asset or two (or three or four) for your balance sheet.  The money you invest will produce high returns and passive income.  Then, before you know it, those returns will help you buy the house of your dreams.

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