Just like the debate on RRSPs versus mortgage paydown (check the comments to the previous post), the debate on whether a personal residence is an asset or liability pops up every now and then. The reason the debate endures is that both sides have valid arguments:
Asset:
- Everyone needs a roof over their head and a house provides value in the form a rent that would otherwise have to be paid. A personal residence can be thought of as a bond that provides interest that could be used to pay an equivalent rent with the added benefit that the “interest” is tax-free.
- The equity built up in a home can be tapped using a secured line of credit, which can be used to build a diversified portfolio of assets and the interest on the loan will be tax deductible.
Liability:
- Unlike assets like stocks, bonds or even income properties, any increase in the value of a personal residence cannot be realized unless a person is willing to downshift or move to another area where homes are cheaper. Increases (or decreases) in the value of a home have a largely neutral effect on the net worth statement.
- Houses have liabilities like mortgages, property taxes, maintenance and other expenses attached to them.
I personally view our residence as an asset because of the imputed value that it provides. If we don’t own a house, we have to live somewhere. Let’s say that we rent a two-bedroom apartment instead (we live in a detached two-storey home, but people tend to rent a smaller place than they own), which would cost us, say, $1,000 a month. So, our house provides us a value equal to $12,000 a year (yes, I am ignoring property taxes, maintenance etc., but then a house would rent for $1,700 per month). Assuming a 5% risk-free interest rate and a tax rate of 25%, I would need a portfolio of $320,000 to produce an equivalent cash flow. As long as the market value of the personal residence is less than a reasonable estimate of its equivalent value, I would count it as an asset.
