One question that people always ask me is I have X amount of savings. How should I invest it to maximize my returns.Âť Recently this question was put to me in another form. The person indicated that they earn a certain amount of money monthly and outlined what car payments were and living and other expenses. It was explained further that the car payments will soon come to an end and thereafter they wanted to know if they should buy a house, or invest in something else.
However the question is posed it simple can be interpreted as, what is the best use of my money? And this is a reality for most people, especially the employed, as one’s income will limit the amount of choices one can make, and this is why it is important to spend your money on what gives the greatest opportunity benefit.
So for example, if you earn $100,000 per month and you have three choices in front of you. invest $50,000 in option 1 that pays 10% per annum, $30,000 in option 2 that pays $15% per annum, or $60,000 that pays 8% per annum – you would first invest in option 2, followed by option 1, and the remainder in option 3. In this way you maximize your returns. This example of course is simplified as risk tolerance has a lot to do with it, which I will explain at another time.
My answer to the question of whether to invest in a house or a business would of course differ depending on the persons circumstances. Some of the variations would include:
If the person did not own a home but is young and lives at home with their parents: the best thing to do would be to invest in a business that will give you a greater return and allow you to buy a house later, while still getting income from the business.
If the person does not own a home but pays rent, then you might advise the person to invest in a new home, as long as the mortgage is not much higher than the rent. That way the person substitutes the rent with a mortgage payment, and therefore builds equity with the payment in lieu of rent, which is not building any equity. The problem with buying a house is the down payment, and an alternative is to use the down payment to start a business that gives a greater return and allows you to be able to buy the house later, while having the revenue flows from the business.
If the person already has a house but does not own a business, in this case the person should assess the businesses viability and determine if it is better than purchasing a new home for commercial reasons.
The person may also have other expenses that are discretionary, and do not generate future earnings, which they can eliminate and put the money into a new house.
What this shows is that the decision of whether to purchase a house or not should be the same investment decision as when making any other investment. The analysis should always be based on the opportunity cost/benefits of the choices you have. I say the choices you have because if you are employed then you may not have considered starting a business and therefore your choices will be different from an entrepreneur.
The incorrect choices people make about the capital in their own businesses and personal income has led to many failures. It is therefore worthwhile to always seek proper advice when making these types of decision, as in the long run it will serve you better.
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By Dennis Chung, dennis@mindyuhbusiness.com
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