Without the consideration of income or an investment property – buying a home to live in is a very very powerful way to build wealth or financial net worth.
You see, a home is an asset measured by the size of the equity. What’s equity you may ask? You’ve probably heard that word before. Equity is simply the difference between the value of the home and the amount owed. There are two powerful dynamics at work to increase the equity which include appreciation and amortization.
Appreciation occurs when the fair market of the home increases. The shortage of available inventory coupled with high demand has contributed to an 18% increase in value in the past year on average for homeowners in the U.S.
Many mortgage loans are amortized with monthly payments that include the interest that is owed for the previous month and an increasing amount that is paid toward the principal loan amount so that if all the payments are made, the loan would be repaid by the end of the term.
If you’ve read my blogs before – you know I like examples. Here’s a great one: A 30-year mortgage at 3.5% interest on a $400,000 loan amount would have a principal and interest payment of $1,796.18 every month for 30 years. After the interest is applied from the first payment, $629.51 would reduce the loan amount, thereby, increasing the owners’ equity.
Quite recently, CoreLogic reported that homeowners with mortgages have seen their equity increase 29.3% since the second quarter of 2020. Equity rich is defined as when combined loans secured by a property are no more than 50% of estimated market value. ATTOM reported that 42% of mortgaged homes in the U.S. are considered equity rich as of the fourth quarter of 2021.
Another advantage of this powerful asset is that borrowing money against the equity of your home is a non-taxable event. Regardless of whether it is a refinance or a home equity loan, the borrowed money is not income and not taxable.
In essence, a homeowner could stay in the home for years. As the home increases in value due to appreciation, they could borrow against their equity as many times as the value will justify. They could then continue to pull money out of their home for decades and under the current tax law, they could die and will the home to their heirs who would receive a step up in basis and the taxes would never have to be recognized.
So let’s think of the home as an investment by looking at the rate of return. Obviously, it is a personal asset that the homeowner will be able to live in, enjoy, raise a family, and share with their friends. In calculating the rate of return, we consider a $375,000 home with a 3.00% 30-year FHA mortgage with a 3.5% down payment. Using an annual appreciation of 3% and normal amortization, the $13,125 down payment in this home turns into a $148,062 equity in seven years. The rate of return calculated is over 40% per year for the seven-year holding period.
So even if you discounted the ROI by half for all the unforeseen other expenses that may affect the real equity, it is still a 20% return on investment which could easily justify why purchasing a home should be your first investment.
It is challenging, particularly in some markets with low inventory, multiple offers, rising prices and increasing interest rates, but the advantages of owning a home are significant. One of the first things you should do is start with downloading the Buyers Guide and make an appointment with a trusted real estate professional.
I can provide Insider Information on Fairfax VA homes for sale. Get you a FREE Market Snapshot Report of Your Northern Virginia Home’s Value, or Search All Northern Virginia Homes For Sale. Put that data you need at the tips of your fingers!