Should I Leverage My House To Invest?

Your Life Is Not A Spreadsheet

Photo by Terrah Holly on Unsplash

I’ve commented in the past that the equity in your home is the most useless form of wealth there is.

  • It produces no income for you
  • It’s the least liquid asset you’ll ever own. You literally must move out of your home to realize the equity in your house

Unless…

There is one way to access the equity in your home without selling it, but it requires a high level of risk. If you have enough equity in your home it is possible to refinance your mortgage, pull out some of the equity in your home and invest it.

This is referred to as leverage. Using borrowed money to invest

You might be thinking “refinancing my house to invest sounds awfully risky”.

It is risky.

Anyone who tells you that using your home equity to invest does not involve significant risk is lying. They are either lying to you or themselves, but they are lying.

Just because something is risky, does not mean it is always the wrong thing to do. Like with all personal finance matters it will depend on your personal circumstances.

Investing with leverage has a downside and upside potential.

The Downside

Leverage is an impressive sounding name for debt. If you refinance your mortgage to pull $50,000 out of your home’s equity to invest, you have just increased your debt by $50,000.

On day one the “net” impact on your net worth is zero. You have increased your debt by $50,000 and increased your assets by $50,000 (assuming you actually invest every penny you pull out).

The first downside of investing with leverage is the temptation to use some of that money to buy a new TV rather than investing. “On paper” many people could talk themselves into using leverage to invest, thinking they will have the discipline to invest it all in a wise and conservative fashion. However, most of us have never had $50,000 sitting in our checking account before. We have not been truly tested by that level of temptation.

The second downside of using leverage is your investments not panning out. If you use leverage to invest in a highly speculative asset like Bitcoin, you are asking for a world of hurt.

Anyone who used leverage to invest in Bitcoin when it was pushing $20,000 a coin is surely regretting that after the value has decreased by 75% over the past year.

Even if you are investing in a conservative portfolio of bonds and Index Funds, there is no guarantee of short term success. In the “long term” index investing, and bonds are almost certain to provide a positive return, but we don’t live in the long term.

We live in the short-term and in the short term if you are borrowing money to invest and things go south, you could be in some hot water very quickly. Especially if you have put your home up as collateral.

The Upside

So why would someone want to use leverage to invest? The answer is simply to increase their net worth. We have all familiar with the concept of risk and reward. The greater the risk, the greater the (potential) reward.

Using leverage to invest is very risky but if things break your way it can supercharge your investment returns.

Let’s say you had $10,000 in cash to invest and refinanced your mortgage to pull out an additional $50,000 to invest (leverage).

If you invest your $60,000 and a year later your investment grew to $66,000 what was your return on investment? While only a 10% return on your overall investment, that $6,000 gain is worth 60% of the actual cash you put up.

If you had only invested the $10,000 in cash your investment would have grown to only $11,000. The same 10% return, but by using leverage you were able to create an additional $5,000 in wealth in a single year.

If you keep that money invested over a 20- or 30-year period, you can see how leverage might help some investors increase their wealth exponentially.

Bottom Line

When you put it on a spreadsheet, leverage investing appears to make a lot of sense. However, our lives are not a spreadsheet. For most people, the “juice is not worth the squeeze”. It may make sense for some sophisticated investors with a high-risk tolerance and a stable income, but for most people, it’s simply too risky.

But please do not take my word for it. Here is what Warren Buffet has to say on the subject.

“It’s insane to risk what you have and need for something you don’t really need. … You will not be way happier if you double your net worth.” — Warren Buffet

To which I will add you will be much more miserable if you put yourself at risk of losing your home.

This article is for informational purposes only, it should not be considered Financial or Legal Advice. Not all information will be accurate. Consult a financial professional before making any major financial decisions