One of the common beliefs I’d like to overturn is the idea that one shouldn’t count their primary residence as part of their net worth. This belief is propagated by some in the wealth management industry because wealth managers only earn fees based on your liquid net worth. Ideally, some wealth managers would also like you to believe that your 401k, IRA, and any tax advantageous retirement account are not part of your net worth either.
Interestingly, the other group of people that believes a primary residence shouldn’t be included in one’s net worth is the socialist who looks to protect the feelings of renters who don’t own any property. Their logic is: if renters can’t include their place as part of their net worth, neither should anyone who perhaps saved for years to come up with a down payment and took some risk to buy. In the socialist’s mind, it’s OK to discount completely a $200,000 down payment or a 100% increase in home equity.
Let’s analyze a simple example to illustrate my contention that all savings and equity you’ve accumulated in your lifetime should count towards your net worth.
Your Primary Residence As Part Of Your Net Worth
Let’s say you own three, paid off properties worth $200,000, $500,000, and $1,000,000. You also have $300,000 worth of stock. You have no liabilities, no savings and no other assets to keep things simple. Your net worth is clearly $2,000,000. According to the wealth manager and the socialist, however, it is not.
Wealth Manager’s Point Of View
If you live in the $1,000,000 property, the wealth manager will say your net worth is only $1,000,000 ($200,000 property + $500,000 property + $300,000 stocks). But practically speaking from the wealth manager’s point of view, your net worth is really only $300,000 because that’s the figure used to calculate fees. Even if you decide to rent out your $1,000,000 property and live humbly in your $200,000 property, the wealth manager’s business eyes still only sees you as being worth $300,000.
From the wealth manager’s perspective, one way to increase your net worth is to sell one of your properties and decide to keep the proceeds in cash or buy liquid investments such as publicly traded stocks or bonds.
Although I eliminated property taxes, insurance fees, maintenance fees, and freed up time by selling my rental house in mid-2017, I exposed myself to venture debt, real estate crowdfunding, and transaction fees through my reinvestments. Alas, there is no escaping investment fees. At least my reinvestments are 100% passive now.
Robo-advisors like Betterment have drastically lowered management fees from 1% – 2% to 0.25% or less. However, the problem with robo-advisors is that unless you tell them what percentage of your net worth they are managing, they will automatically assume they are managing your entire net worth. Therefore, it’s up to you to make sure their asset allocation corresponds with your risk tolerance.
Socialist’s Point Of View
If you decide to live in your $1,000,000 property, the socialist will also say that your net worth is only $1,000,000. But if instead you decide to move into your $200,000 property, it’s unclear whether the socialist will agree that your net worth is now $1,800,000. After all, the wealthier you are, the more concerned the socialist is.
In the spirit of equality, if socialists assign no value to the equity in your primary residence, then they should also assign a negative value to your net worth for renting. After all, the return on rent is always -100%. Therefore, the negative value assigned can simply equate to the cumulative cost of rent over time. The longer a person rents, the higher the negative value assigned to the renter’s net worth e.g. -$240,000 value to net worth after 10 years of spending $2,000 a month on rent.
In other words, renting will always be a drag on your net worth if the socialist is fair, no matter how much you use your disposable income to invest in other risk assets like stocks. At some point, the cost of renting might even outstrip your investment returns as you reduce risk in retirement and receive lower returns.
Now That’s Not Fair!
Since most of you are not wealth managers, most of you will agree how inaccurate the wealth manager’s assessment of net worth is. But given that roughly 37% of the US population rents, I can already hear a huge cacophony of complaints that it’s wrong to assign a negative value to rent, but okay for the socialist to completely negate all the home equity built up in your primary residence. After all, it is human nature to be completely inconsistent in thought.
One of the common arguments socialists make is, “You’ve got to live somewhere!” True, but after living somewhere for 30 years, who has the ability to live rent free, earn rental income, sell their property tax free up to $250,000 / $500,000, or pass on their property to their children at market value to avoid paying any capital gains tax? Only the homeowner.
Another argument socialists make is, “The return on rent is not negative! I get a place to live!” So does the homeowner, but with the added optionality of making a potential profit in the future.
It’s a tough pill to swallow that each rent check paid is never coming back, but acceptance is important for moving forward.
Let me be clear that I don’t believe renting is for losers. Renting is a fine choice for many people, especially people who are not yet sure of where they want to establish roots. I just want to challenge the double standard where some people believe the equity value of a primary residence must be completely expunged from a net worth calculation whereas there is no negative value assigned to a renter’s net worth calculation. You can’t have without doing the other, unless you’re delusional.
Think Clearly With Minimal Bias
In order to build wealth, you must be rational in your thinking. Liquidating your entire retirement portfolio because you find Donald Trump to be a vile man is not rational since he is pro-business. Expecting to go straight to the corner office because you’ve been working a couple years is not rational since you have colleagues who’ve worked for decades and are still not there yet.
I know none of you are socialists reading Financial Samurai, so please don’t think like one. It’s understandable to be biased towards stocks and against homeownership as a renter. The same goes for the 30% of homeowners in America who have no wealth besides their primary residence. Just realize that in 30 years you will kick yourself for not owning a primary residence just like you will kick yourself in 30 years if you don’t own stocks. Think about your children’s point of view when it comes time for them to invest in order to recognize the power of inflation and compounded returns.
If you would like to include your primary residence as part of your net worth, feel free to do so. Being able to rent out my old home after buying a fixer upper in 2014 was a fantastic way of monetizing the value of my primary residence. So was selling.
If you don’t want to include your primary residence as part of your net worth, that’s fine as well. Conservatively valuing your net worth might lead to greater wealth as you spend more time hustling. Just know that when you die, the government will include your primary residence in their estate tax calculations.
Recommendation To Build Wealth
Manage Your Money In One Place: Sign up for Personal Capital, the web’s #1 free wealth management tool to get a better handle on your finances. In addition to better money oversight, run your investments through their award-winning Investment Checkup tool to see exactly how much you are paying in fees. I was paying $1,700 a year in fees I had no idea I was paying.
After you link all your accounts, use their Retirement Planning calculator that pulls your real data to give you as pure an estimation of your financial future as possible using Monte Carlo simulation algorithms. Definitely run your numbers to see how you’re doing. I’ve been using Personal Capital since 2012 and have seen my net worth skyrocket during this time thanks to better money management.