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- Buying a home may be the “American dream,” but it’s certainly not a prerequisite for building wealth.
- Owning a house is expensive, even if you rent it out, and you are never guaranteed a profit.
- Consider REITs instead and maximize your investments in the market to build long-term wealth.
- Find a financial planner near you with SmartAsset.
We are often told that buying a home is one of the biggest investments we can make. But just because it’s the “American dream” and a tangible sign of success for many, doesn’t mean it’s your best bet if your goal is to build wealth.
While real estate can augment your balance sheet and play a role in growing your wealth, it’s essential to understand that you don’t have buy property to get rich.
Let’s bust some of the myths around real estate as an investment that can mislead you – and in the process, show why real estate isn’t a prerequisite for building assets.
real estate is not still a good investment (or an investment at all)
“Always” and “never” have no place in the vocabulary of a savvy investor. There are no sure bets or guarantees, especially when it comes to real estate, because there are so many variables both within your control and those outside of your control.
Factors beyond your control include:
If you want to own or flip properties, you can have a bit more leverage even amidst these variables. You may be able to hold on to a property until the market is more favourable, for example, but then liquidity and expense issues come into play.
Homes are expensive and illiquid assets that incur expenses at every stage of the process, from upkeep and maintenance to the buying and selling transaction. Every dollar spent on costs is a dollar eating away at your potential profit.
When you’re talking about a single-family home that you live in as your primary residence and don’t derive rental income from, the idea of an “investment” completely disappears. At this point, a house is more of a utility than anything else.
For many people, making money, breaking even or losing a real estate transaction is a matter of timing and luck – which is one of the main reasons to bet on real estate as a way to increase the wealth is not the ideal strategy.
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Renting is not wasting money, and buying might be riskier
Maybe you understand that houses are expensive to buy and maintain, but you still feel compelled to invest your money in real estate because the alternative seems worse.
After all, you have the ability to accumulate equity in a home you own. Meanwhile, you’re throwing your money away every month you stay a tenant.
Not so fast. For one thing, it all depends on your location and the prices of rents and homes in your specific area.
When I rented in Boston from 2015 to 2020, renting was actually considerably cheaper than owning – and I took the money I saved in housing costs and invested it in the market stock market for a greater return than I would have obtained by buying and selling a property in the same amount of time.
Renting presents less financial risk than buying a house. The most you pay for your home each month when you rent is the cost of that rent (and a small amount for tenant insurance). When you own a home, the less you are likely to pay each month is the mortgage.
But you’ll likely spend a lot more between all the expenses associated with home ownership, from property taxes and home insurance to upkeep and maintenance (which you think will cost you around 4-5% of the value of a house per year).
Renting also gives you its own kind of leverage: by renting, you are more flexible and nimble with your finances than you likely would be if you were saddled with a large, illiquid asset that may or may not be easy to unload whenever you want. . When you rent, you buy convenience and choice.
You can build wealth while you rent by directing some of your free cash flow into savings, retirement, brokerage accounts, or even other investments like education or starting a business.
You don’t have to buy a property to invest in real estate, anyway
None of this is to say that buying real estate is a bad decision or won’t work in your favor. The point here is that you don’t have to to grow wealth.
And you can even buy real estate without buying physical property. You can invest in REITs or real estate investment trusts. By investing in a REIT, you are investing in a business that professionally buys, sells and manages real estate for profit.
As an investor in a REIT, you receive a portion of that profit in return. There are still no guarantees here, and REITs can and do lose value. But they give you the opportunity to gain exposure to real estate without directly assuming the risk and expense of owning and managing a specific property.
Consider this path to wealth instead: Systematically invest in the financial markets.
Buying a home can be part of your financial plan, but it doesn’t have to be your primary investment vehicle. If your goal is to build wealth, you need a systematic, reliable, tested, and repeatable process to use over and over again over the long term.
This is where real estate is often insufficient for the majority of people. It’s hard to replicate because you need a lot of upfront capital for each purchase and you’re limited to the physical inventory available at a particular location at a given time.
You’re also taking a lot more financial risk than you actually need to earn a reasonable rate of return (since homes are expensive to maintain, tenants are unpredictable, and you’re subject to market conditions in your specific location. if you wish to liquidate).
Besides, it’s just hard! There are much easier ways to grow your wealth, especially if you start early. Namely, it uses a globally diversified investment portfolio to buy in the financial markets.
If you want, what could be the simplest, most reliable and easily repeatable process for creating wealth? Try that:
- Take advantage of all the qualified retirement accounts available to you. These can offer tax advantages (by deferring taxes or helping your wealth grow tax-free). These can include 401(k), a variety of IRAs, and HSAs. Aim to contribute the maximum amount allowed each year to the accounts you can access.
- Once you have reached the maximum of these accounts, open a taxable investment account. This is also known as a brokerage account. Also contribute a fixed amount each year. (We recommend that our wealth management clients save 25% of their gross income each year on a combination of retirement and brokerage accounts.)
- Invest in an inexpensive, globally diversified portfolio. Once you start using investment accounts, set up your portfolio using low-cost investment options (like mutual funds and ETFs). These are baskets of securities that can give you exposure to a range of asset classes and types, but spread your investment risk across a variety of sectors and locations.
- Contribute consistently. Consider using a dollar-cost averaging strategy to help you stay consistent. This means investing the same amount on a regular schedule, rather than investing a lump sum.
- Commit to leaving this money invested for the long term. Compounding only works if you give it time to do so. Once you have your system and investment strategy in place, stick to it. This means not stopping and starting contributions based on how you feel that month, or current events, or what the market has been doing recently.
You don’t need to invest in real estate, use complicated plans, buy expensive products, or know a financial secret no one else knows to grow your wealth. All you need to do is set up a simple system that you can stick to over time, and then get to work.