It is a fact that real estate owners have a higher net worth than renters. This has not only to do with home owners paying down their mortgage. To get the same effect renters could just save and invest right? No. In practice that doesn’t happen. The reason is inflation.
Real Estate versus Earned Income
A lot of studies show us that families owning their homes have a higher net worth than families that rent. However, a lot of their net worth is tied up in bricks. Their net worth is their home. It is the market value of the home, minus the outstanding mortgage amount.
So, real estate owners have a higher net worth than people who don’t own real estate. Also, I think it is safe to assume that people who invest have a larger net worth than people that don’t invest.
Then why are people that rent their homes, but invest on the side, not worth more than their peers who just own a home but don’t invest? The reason is simple. You cannot save and invest and beat the power of inflation. Inflation makes everything more expensive. Usually, investing in a well balanced portfolio of stocks and bonds will outpace inflation. Most investment portfolios will not outpace inflation in home prices.
Let’s Do Some Math
When inflation is a given fact, all prices rise with it. So when everything gets 2% more expensive every year, think of groceries, rent, fuel, clothing, it doesn’t matter right? As long as your income rises with inflation as well you’re safe. Wrong!
There’s two reasons why you can’t keep up with inflation if you don’t own your home. The first reason is simple. If you rent and invest, but don’t own real estate, even when your salary goes up with inflation, the government takes a large chunk of that income. That means that prices are getting higher, but your salary isn’t going up in real terms, it’s going down!
The second reason is that even though on average all things rise with inflation, the actual euro (or pound, franc, etc) amount depends on the value of the asset. Say your rent goes from € 1,000 to € 1,020, which is a 2% rise, real estate will go up a lot more than that in euro terms.
When you put down 10% in your home, even a modest 2% increase in value will yield a 20% return on your deposit. Just think about that. Where do you get 20% returns? Of course, house prices will go down some years, and go up other years, but traditionally follow inflation in the long run.
Why Real Estate Owners Have a Higher Net Worth
Going with the median value of Dutch houses, € 263,000 in 2017 according to the National Bureau of Statistics), that value goes up a whopping € 5,260 per year given inflation is on average 2% per year.
Our renter friend, if he wants to increase his net worth by € 5,260 as well, has to earn about € 10,000 euro’s extra in gross income since the government will take a large cut of this fantastic raise. A raise that is maybe a bit too good to be true. The median income in The Netherlands was € 37,500 in 2017. That means the renter has to get a 27% raise, just to stay even with the home owner.
Because remember, even if the renter is already investing before this magic raise, so is the home owner. The difference has to come from additional income since the renter has no additional assets that rise this much in value. That is how real estate owners have a higher net worth than renters.
Conclusion On Net Worth from Real Estate
So, according to this back-of-the-envelope calculation you are better off owning real estate. Buy your home, invest in rentals. But as always, be sure you’re able to pay for all things that go with home-ownership. You don’t want to see yourself get caught paying for a house you cannot afford, but you also don’t want to miss the boat.
Timing the Market
Consider buying real estate when markets are down. At the time of writing most places in Europe are super expensive. Five or six years ago that was different. In the future, it will be different again. Be ready for that moment.
Timing the market might not be a good idea, especially not with stocks. With real estate it is just as difficult to correctly time the market.
Anyway, only counting on real estate is not the smartest thing to do. My colleague did, and that will cost him hundreds of thousands of euros over his life. Also, it’s wise to diversify your money and not be just in real estate.
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