Investing in Real Estate vs. Stocks - Which Is Best?
For years, the United States Government has encouraged citizens to become homeowners, primarily with tax incentives like deductions from mortgage interest, mortgage points, and property tax. However, if the U.S. Government was held as a fiduciary by encouraging home-ownership, our tax breaks might subside based off recent numbers highlighted in a recent Washington Post article comparing home-ownership vs. stock investments.
As you can see from the figures below, $48,700 invested in 1978 would appreciate to $700,266 via the stock market compared to a low $169,200 invested in a home. While the numbers heavily favor stock investments, home-ownership has its advantages not easily measured in dollars. Likewise, investing primarily in stocks has major upsides like no upkeep. Considering these silent advantages, what is the best investment?
1978 Initial Investment
Home Price Stock Investment
(median) (S&P 500)
$48,700 $48,700
Returns Through 2007
5.3% Average Annual Returns 9.9%
—————————————————————————–
347.4% Total Return 1437.9%
—————————————————————————–
$169,200 Equity Appreciation $700,266
Source: National Association of Realtors
Advantages to Real Estate
Taxes. Tax bills have been significantly reduced thanks to changes in the tax code allowing homeowners to deduct various expenses associated with purchasing real estate including: mortgage points, property tax, mortgage insurance, mortgage interest, and home equity loan interest.
Equity. When a home appreciates, it allows for a low cost borrowing method coming in the form of a home equity loan, which is also tax deductible. When stocks appreciate, they appreciate, that’s all. Arguably, this could be considered a disadvantage because whenever borrowing is involved, interest is going to banks and not into our wallets.
Low-Cost Living. A major advantage to purchasing a home is eventually, you will own it. Once a home is paid for, usually 30 years after the purchase, a significant part of a budget is freed, thus allowing the extra money to be invested in other ways. However, this advantage is wiped away when people continually sell their house in an attempt to “trade-up,” to a bigger more expensive home.
Advantages to Stocks
Smooth and Simple Transactions. Buying and selling a stock can cost as little as $4. In contrast, selling a home can cost thousands – especially in down markets where the seller bears the bulk of the closing costs. Assuming to purchase a $300,000 home, a buyer pays an estimated 2 % of the home’s value in closing costs and also pays an additional 5% when selling the home in real estate commissions. Adding up the total amount paid to buy and sell a home with these percentages, is around $21,000. If this $21,000 was instead invested into the stock market over a 20 year period, could potentially grow to $103,000, assuming an 8% return. I feel that these closing and selling costs are often grossly overlooked because the cost is either hidden in a mortgage payment or in equity – money is money especially when the compound interest is working in our favor.
Diversification. With the purchase of a simple index fund, an investor has the advantage of being heavily diversified over hundreds of companies involving multiple sectors of business. Whereas with the investment in a house, a homeowner has all of the investment in one basket. A fire, flood, or multiple foreclosures in the area could wipe away your home’s equity or significantly reduce it. This is why stocks offer great for hedging against losses with easy diversification.
Liquidity. Stocks have a great upside and that is they give us confidence in knowing the price they reflect, is accurate to the price we will receive when selling. Unlike homes, where you can list your house at a certain price, but actual profits are determined by the buyers and the market.
Hassle Free. Stocks don’t require new roofs, heat pumps, and paint. The ease associated with owning stocks is as easy as your emotions allow. These additional costs involved in home upkeep have the potential to raise the overall value of the home, but like with closing and buying costs, would be worth more if put into the stock market instead.$
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Comments
Thanks for this post. It outlines my current dilemma really well. I think the wise choice for me is to do a little of both. I can still save for a home, but free up some of my income for stock investments.
“While the numbers heavily favor stock investments, home-ownership has its advantages not easily measured in dollars.” I think that’s an important point.
Ideally, people should be able to diversify and invest in both - so if you own your home AND max out your 401(k) (or IRA of you are self-employed), you’re doing quite well.