The question of whether real estate is an asset or a liability is not a new one. Back in 2009, Harlan Landes, at the time a.k.a. Flexo, took issue with Robert Kiyosaki‘s definitions of asset and liability:
An asset is something that puts money in my pocket.
A liability is something that takes money out of my pocket.
I could see his point in that Kiyosaki recast the definition of the words. The proper accounting definition would say that an asset is something that is owned, while a liability is something that is owed.
The two definitions have different contexts. Kiyosaki's definition focuses on cash flow. An asset is cash-flow positive, while a liability is cash-flow negative. The accounting definition focuses on value. An asset is worth money to the owner, while a liability is worth money to someone else.
Is real estate an asset or a liability?
At the time, my wife and I lived in a house that had a mortgage against it.
Fast-forwarding to today, I own that house free and clear and rent it out. My wife and I live in another house that still has a mortgage and, as of a couple of years ago, has a lien for the solar panels we put on the roof.
The first house is now a cash-flow asset to me since the collected rents are more than the expenses.
The house we live in now is a cash-flow liability because of the two loans and lack of appreciable income. (We do get some money by selling solar renewable energy credits (SRECs) from the production of the solar panels, but that's less than $100/month.) From a value perspective, we probably could sell the house, pay off the loans, and still end up with money left over. In that way, it's an asset.
Is it better to own or rent real estate?
A big question precedes this, though: Is it even a good idea to buy instead of rent?
At the time I bought the first house, I was pretty naive and got lucky. (Fun fact: I signed my loan papers for that house on September 11th. Yeah, that September 11th.)
My apartment at the time was around $700-$800/month. The house I ended up buying was nearly twice the square footage and, after a 20% down payment, the mortgage payment was “only” $610/month.
The timing to buy at that point was good, but I honestly didn't give it nearly the thought I should have. I didn't even go through a couple of basic calculations before signing on the dotted line:
- Maintenance and other costs. A good rule of thumb, all other things being equal, is to budget 1% of the purchase price per year for maintenance costs. That would have been about two months' rent right there. Plus there were all of the other costs of home ownership, like mowing the lawn, taxes, insurance, and more.
- Price-to-rent ratio. This measure was favorable by today's standards. The purchase price was less than 20 times the annual rent I was paying, even considering that I was buying more square footage.
There are more, but those are the big ones.
Given that a residence is a cash-flow liability, it makes sense to consider how much of a liability it will be, and whether or not it's better to just have someone else (i.e. your landlord) bear that expense and risk.
Should you own real estate for its income?
We bought our second house in 2010. We were in the fortunate position that we didn't need to sell the first house to fund the purchase of the second. This meant that I could rent the first out.
Getting into investment properties this way, in hindsight, was a lower-risk way to do it. We at least knew the property well. Diving into another new-to-me property for investment would have been a lot riskier.
A decent number for an annual return on investment for a rental property is around 10%. That's calculated by taking the annual net income (rent minus expenses) and dividing it by the cost of the property (purchase price plus startup expenses).
That's a giant step for all but seasoned investors to take, but there are ways to invest in real state in much smaller chunks. Here are a couple:
- Landa. This app allows you to buy small shares (basically the cost of a lunch) in hundreds of properties across the country. Check out Landa here.
- Ark7. This is a service similar to Landa. DINKs Finance has a detailed review of this.
Bottom line on whether to rent or buy
Regardless of your decision as to whether real estate is an asset or liability, it's a good rule of thumb not to get into something that is beyond what you can afford. The buy-vs-rent decision is an important one, and it's best not to rush into it if at all possible!
Great thoughts! I agree that Kiyosaki has points for practicality, but shouldn't our goal be reducing confusion? An RK fan who goes to an accountant to get help with his or her taxes will be laughed out of the office if he argues that the house (whether a live-in or investment property) is a "liability."
Flexo: Well, the accountant, if she were smart, might say: "You're right, your house is a liability, but let's do it my way just to keep the IRS happy." š
Hi, I wrote the same article a few months ago and I thought of posting here as a comment. Look at how people reacts. Great thoughts!
http://www.millionaireacts.com/517/house-asset-or…
The house is also an asset even if you DON'T rent it out, because it eliminates a cash outflow (rent). Is eliminating a cash outflow equivalent to generating cash?
In the long term, owning the house should generate cash – save rent and appreciate (we hope!).
Good point but you pay a mortgage instead.
Interesting post, thank you š
"Asset" and "Liability" are balance sheet terms. What Kiyosaki describes and you expound on in your last paragraph belong on the income statement. "Income" puts cash in your pocket and "Expenses" take money out of your pocket.
Your house is an asset that generates lots of expenses.
I can see Kiyosaki's points; it can make sense to view possessions as assets or liabilities on the basis of cash flow. (Particularly if you are investing your money primarily for the purpose of creating income, as Kiyosaki advocates.) Being aware of whether your house (or other assets) is bringing in money or requires an outflow of money is useful knowledge for budgeting and financial planning.
BUT, trying to do a wholesale rewrite of financial definitions seems like a heavy-handed way of making the point. At the least, it leads to discussions like this over the difference between financial assets and cash flow assets. It's probably best to just use the financial definitions, and talk about 'cash-flow generating properties' rather than Kiyosaki-definition assets.
I think that it is useful to have a space for critically analysing the language we use to define things- of course this has to be heavily vetted.
Funny timing. I just read that chapter of Rich Dad Poor Dad again yesteday.
I like RK's definition, because it challenges the widespread belief that your house is your biggest investment in life.
As far as an investment goes, it's not that great (this assumes that you're going to live in the house you bought). It may outpace inflation, but it may not appreciate any faster than stocks, and it still costs you money regardless of what the value is..
On the other hand, a traditional investment may lose value over time, but it wouldn't cost you anything just to keep it.
I think where the definition falls a little short is that some people may take it as "Ok, then I should always rent", when really, it's not meant to be applied to the rent/buy decision. That decision should be made on a case by case basis.
I have to say I think this is one of those things that can be taken with a grain of salt. I like the points you made in your post. I think in the long run what is a liability (the house) can become an asset if properly managed.
I think it's funny that you picked the boat as your example. In Kiyosaki's Cashflow 101 boardgame, most of the cards you draw are investment opportunities of the other-people's-money-financing variety. A few are millstones around your neck, and the worst card of that sort in the game is The Boat.
If we all made decisions based on their effects on cash flow, we would all be leasing cars. I totally believe in renting in today's market, but I still disagree with RK and his redefinition of asset.
Funny timing. I just read that chapter of Rich Dad Poor Dad again yesteday.
I feel like a groundskeeper working for a home that keeps losing value. I'm starting to think it's time to look at an investment property to create some positive cash flow that can offset our sinking home asset.
A great analysis. Ultimately thought, I think we need to take a broader view of homeownership.
1) Kiyosaki is correct in that it creates an obligation to pay, but for most people the choice is mortgage payments or renting, so either way you’d have to pay. In this case, its not clear that the assertion that “your home is a liability” is useful.
2) Homeownership is positively correlated with networth. So, Kiyosaki will have to explain why it is that home ownership INCREASES your wealth. If it were a liability, wouldn’t its effects be to DECREASE your wealth?
Ultimately, we may be better off if we real Kiyosaki not for technical or instrumental advice, but rather for inspiration.
Kiyosaki is like Suze Orman. He is an expert in selling books and seminars and not much else. We are his “assets” because we keep buying them.
I guess I look at these things through the long term. Yes, I have to service the debt on my house and I have to fix things up, paint things and keep things nice so it is costing me money to have it.
Hopefully though, in the long term it will end up being sold for more than the price I paid for it and more than all the other money I have put into it in the meantime.
Therefore for me, it’s an asset that is owned but might end up being an asset which also puts money into my pocket. It’s all about time.
I think it is a point of perspective on how we spend our money and what we want to spend it on. If it’s important to live in a house and enjoy all the tangible and intangible things that a home typically provides then it is an asset to our way of life. If my priority it to travel and see the world then a house with all its monetary upkeep; mortgage, bills, repair, taxes etc. would become a liability to my desire to only want to travel and not be anchored to a fixed point on this globe.On the other hand even an eagle has to stop, build a nest and …on the other hand some indians were cliff dwellers others lived in a tent. It’s about what makes us happy. What makes RK happy? What does he own that does not create a cash flow? Car, Boat, Clothes, I’m sure we all do things that the next person would not spend their money on. It’s not all about accumulating wealth. I read some place about a person’s wealth, it went something like this…" add up everything that money can't buy and death can't take away and that is a person’s true wealth" maybe some of you have heard it said other ways.
Hey there – I personally own and managed over 50 rental properties. I take care of them , and my tenants. I owe the mortgage companies BIG TIME!!!! I do make a monthly profit of between £3000 – £5000. In ten years time, I will sell half of them to pay off the other half, and I will be in a situation of complete ownership. I know my assets.
It’s really simple, you choose to either make a profit, or generate an income. A house can generate profit or income, depending on if you live in it or rent it out. It also depends on how you maintain and/or improve it and how fast you do all this. Whether you qualify it as being an asset or liability makes no difference, as long as it’s eventually going to put money in your pocket…or take money out, the balance sheet, cash flow, all depends on your current financial ability to pay whatever mortgage and fixed costs (electric, phone, maintenance, etc.) are involved. Every rich person did not start out that way in life, except people who inherit (ie. Mike, Rich Dad’s son), hence not everyone has to work for their money, but only 8% of world population are millionaires…lol Good luck…or should I say, learn and work at it, ’cause nothing comes easy unless you’re selling your looks š It’s all about how you work and how you manage finances.
Russ
Here’s a better way to think of the Asset VS Liability of Home Ownership.
If I had $250,000 in CASH I would NOT buy a house.
Instead I would simply put a security deposit down and pay rent to live in a luxury high rise building on the water with FULL maintenance and No Property Tax or other liability associated with owning a property.
This would leave a tremendous amount of CASH for me to play with in other FAR MORE LUCRATIVE investment ideas than owning a house.
Even if I simply put say $200k of the money into a 5% money market fund I would earn a good amount of money on my money each year.
NOW lets assume I do what 98% of Americans would do, they would either put a down payment on a house and pay interest on the mortgage, taxes, insurance, upkeep, full maintenance bills, etc. etc. etc.
OR they would put the whole $250k to purchase a house with CASH and own it but the problem is all your $$$ are tied up in the house so now you own a house but your still going to have to pay Taxes, Insurance, Maintenance, etc. etc. and now your broke because all your $$$ are tied up in the house…
It’s far better to RENT and have money to play with and invest than to OWN a house and be BROKE.
It’s always better to own your house even if it is mortgaged. Property appreciates in value generaly and with inflation salaries go up annualy whilst your repayments stay more or less the same. Yes you do have to maintain the property but it is a small price to pay for having the security of your own home.
If the house were an asset, the “owner” should get money out of it when the bank auctions it in a foreclosure. At least in some cases, the owners don’t.
The total rent for the same house, for the same period, would probably have amounted to much lesser than the money paid in “buying” it.
The Kiyosaki view of your house as a liability seems to completely ignore the fact that everyone needs a place to live, and that costs money. The question should really be does putting money into a house you build equity in actually SAVE you money in the long run against putting your money into renting. Iād argue that for the long term investor, home ownership will almost always beat renting over the same amount of time.i
I agree with you on the last point. That doesn’t change that your primary residence costs you money, even if it’s completely paid off. That it’s largely a necessary liability is of no consequence.