Almost no one buys a house with the stated goal of getting rich. We buy houses to live in, garden, raise the kids, etc.
And yet, getting wealthy through homeownership seems to happen….in a big way. The average homeowner in the United States has $274,000 in equity, vastly more than the average retirement savings account, a measly $65,000. And that's if you save at all - half of all Americans have zero retirement dollars.
But why? On the surface, the massive wealth created by homeownership doesn't really make sense, because homes don't really appreciate as much as we think. Sure, they go up in value…but on average, only with inflation.
That means if you bought a $20,000 house in 1947 and sold it in 1997 for $150,000, you made zero profit. Because adjusted for inflation, those numbers are identical.
Sure, some areas go up faster (and if you're reading this, there's a good chance you live in LA, so you know), and some drop (hello Detroit!) but there's a lesson here looking at the averages, so follow along.
So, if the house value only went up with inflation, meaning it didn't really appreciate at all…how are Grandma and Grandpa paying for Junior to attend NYU?
It's simple. And it's all about how homes are financed.
When you buy a home, you typically put 20% down. The bank gives you the other 80% (your home loan). But here's the rub: the bank is not your partner. They leave ALL the profit to you - they just want their monthly interest - your housing costs.
Say your house goes up 6% in value. Whoop-dee-doo. But you get 6% growth on your share…and on the bank's share.
So you pocket that 6% appreciation on your 20% chunk, AND on the bank's additional four 20% chunks. You get the 6% added to your downpayment FIVE TIMES. A measly 6% appreciation in your home value, grew your downpayment by 30%.
Read carefully - the (inflation-guaranteed) appreciation of the average house, with a 20% downpayment, returns FIVE TIMES that into the owner's home equity. Every. Single. Year.
This is true whether your mortgage rate is 2% or 10%. Yes, we know it's more complicated than this: there are costs (mortgage, maintenance, insurance, taxes) but also benefits (rents go up/your mortgage is fixed, tax benefits, you moved to the next hot neighborhood that has appreciated double), but we're talking big picture here…
And here's the big picture: your home equity is building exponentially because you are making money not just on your share, but on the bank's (much larger) share of the investment. The bank isn't cut in on your profit. It's incredible.
