Rich Dad Scam #6: Your House is an Asset
This will be the last Rich Dad scam. I hope you take each one into consideration in your financial life!
It seems like every financial “expert” says, “Your house is your biggest asset.” When I wrote Rich Dad Poor Dad, I said that your house was a liability. That was like spraying water on a hornets’ nest. The so-called experts lambasted me. At the time, the real estate market was skyrocketing so this scam was easy to fall for.
Your financial planner, real estate agent, and accountant all call your house an asset. But in reality, an asset is only something that puts money in your pocket. If you have a house that you rent out to tenants, then it’s an asset. If you have a house, paid for or not, that you live in, then it can’t be an asset. Instead of putting money in your pocket, it takes money out of your pocket. That is the simple definition of a liability. This is doubly true if you don’t own your home yet. Then it’s the bank’s asset, and it is working for them, but it’s not earning you anything.
I am not saying don’t buy a house. What I am saying is that you should understand the difference between an asset and a liability. When I want a bigger house, I first buy assets that will generate the cash flow to pay for the house.
What is an Asset?
You must know the difference between an asset and a liability, and buy assets. If you want to be rich, this is all you need to know.
It is rule number one.
It is the only rule.
This may sound absurdly simple, but most people have no idea how profound this rule is. Most people struggle financially because they do not know the difference between an asset and a liability.
“Rich people acquire assets. The poor and middle class acquire liabilities that they think are assets,” said rich dad.
In business terms, assets are your pros and liabilities are your cons. You need assets to offset your liabilities. Once you understand the scams you’ve grown up with, it’s easier to think in those terms—to think like an entrepreneur.
But what exactly are assets?
The simple definition of an asset is something that puts money in your pocket. This is accomplished through four different categories, one of which is real estate. When I say real estate, I don’t mean your personal residence, which is a liability. What I mean is an investment in real estate, which is a great investment because it puts money in your pocket each month in the form of rent.
There are three other primary assets: business, paper, and commodities. If you are an entrepreneur or a business owner, your business is an asset. Paper assets are stocks, bonds, mutual funds, and so on. Finally, commodities include gold, and other resources like oil and gas, and so on.
Kim and I started out making our money in real estate, putting our money to work in properties that we could rent them out and see ongoing returns. After that, we diversified, so now we have some money in all four asset classes.
Invest for Cash Flow, Not Appreciation
It was easy to assume that your house was an asset because it was potentially making money for you in the long run through appreciation. People bought into the scam hook, line, and sinker, taking out home equity loans to buy cars, vacations, TV’s, and more. A lot of Americans got a fast, ugly financial education when the real estate market turned down. They realized very quickly that their homes were not assets.
If there’s one thing the rich do differently than the poor, it’s that they put their money to work instead of working for their money.
What does that mean?
Their money isn’t just sitting around in a savings account, accruing little-to-no interest, waiting for a rainy day. Their money is being invested — and delivering a return!
Different investments produce different results. The question is, what results do you want?
Capital Gains are the one-time profit you make on the sale of an investment. The strategy behind capital gains is to buy and sell. In order to realize capital gains, you must sell the asset. As long as market prices go up, capital-gains investors win. But when the markets turn down and prices fall, capital-gains investors lose.
Sure, you might make a killing off flipping one house if all the stars align—but how repeatable is that process? I’d argue that it’s not, because each time you start a new flip project, you’re facing a host of unknown variables to transform the property and then sell it. You might get lucky and flip it for profit. But you could just as easily flop. The risks are just too high.
Cash Flow is an ongoing stream of income you receive from an investment. You may receive this money on a monthly, quarterly or annual basis, depending on the investment. The strategy behind cash flow is to buy and hold.
Another advantage of focusing on cash flow is that it eliminates the fear of running out of money during retirement. By accumulating assets that provide monthly cash flow, money comes in every month until you decide to sell the asset(s). Additionally, cash flow is what is known as passive income, which is the lowest taxed type of income. This is not always the case with capital gains taxes, which vary depending on the type of asset you’ve invested in and how long you’ve owned that asset. In some cases, taxes can be very high.
Finally, you can start making money from day one—as soon as you get a tenant into the property, the income begins to flow. There’s no need to wait for a property to increase in value to see a return.
Rather than invest for appreciation, my rich dad taught me to invest for cash flow and to treat appreciation like icing on a cake. I encourage you to do the same.
Editor, Rich Dad Poor Dad Daily