SS26: Why Do People Invest In Real Estate?

Charles discusses why people invest in real estate and why it is a superior asset class.

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Talking Points:

There are many obvious reasons to consider investing in real estate – owning a physical asset, saving money (if your mortgage is comparable to the price you would otherwise pay for a rental), and tax benefits (capital gains on selling an investment property are 15-20%, which are typically lower than the ordinary income rate).

Today we are going to look at some of the less obvious, but equally important reasons to consider allocating a portion of your capital into the asset class that has created 90% of all millionaires over the last two centuries.

Rate of Return Comparable to the Stock Market
– The U.S. stock market as defined by the S&P 500 index, has historically returned just over 9% f rom 1825-2019.

– Since 1940, the median home value in the United States has increased at an annualized rate of 5.5%.

– On the surface, this 3.5-4% difference is fairly significant, it only takes into account property price appreciation without any potential rental income.

– We would also contend that with the stock market currently at an all-time high (as measured by the Wilshire Total Market Index compared to U.S. GDP) it will return far less than 5% annually over the short/mid-term, making real estate a more attractive option.

Consistent Source of Passive Income
– Unlike the majority of stock investments (except for the very few publicly-listed businesses with consistent dividend histories going back 20 years or more), a residential, commercial or industrial rental property will provide the owner with a consistent monthly income, provided a reliable tenant is in place of course. Far less volatility also goes without saying.

– If you control your maintenance costs by doing preventative maintenance where applicable, the remainder of your costs are easily predictable:

Insurance and property tax minus a deduction of mortgage interest and maintenance costs = your total operating costs

Long-Term Investment

Some will view this as a negative, after all you cannot wake up tomorrow and liquidate your investment property like you could a stock. But this actually works in your favor, here’s why:

Unless we are talking about merger arbitrage or other more complex short-term market-based investment strategies, the very best investments take time to appreciate and mature.

Just like with a prize-winning thoroughbred, you have automatic blinders on, as there is no daily ticker symbol to check to see whether your investment has gone up or down that particular day, week or month (which is irrelevant even for most stock investments).

The only thing you have to think about is regular maintenance, no more keeping up with market announcements, what the Fed is doing, earnings releases, and the like. This saves you both time and sanity.

Other Reasons
– Leverage: As you build up equity in your property, an equity line of credit can be used to acquire other income-generating property, however, we would be careful with this, as over-leverage can leave you vulnerable and in a far worse predicament than having none.

– Tangible, physical asset: In the most uncertain times (like today), physical assets are a safer bet over their digital (and much more volatile) counterparts.

– Real Estate gains are deferrable: The current tax code, under a 1031 exchange, permits a gain on the sale of an investment property to be transferred from the property being sold to a new property being purchased, thereby deferring the payment of any tax on the sale of the property.

Transcript:

Charles:
Welcome to Strategy Saturday; I’m Charles Carillo. And today we’re going to be discussing why do people invest into real estate? There are so many obvious reasons to consider investing in real estate, owning a physical asset, saving money. If your mortgage was comparable to what you’re paying in rent. Also tax benefits, mainly being that capital gains tax at 15 and 20% is usually considerably less for this person than your ordinary income rate. But today we’re going to look at some less obvious, but equally important reasons to consider allocating a portion of your capital into the asset class as greed at 90% of millionaires over the last two centuries. So compare the returns to the stock market. The us stock market as defined by the S and P 500 index has historically returned just over 9% from 1825 to 2019 since 1940, the medium home value in the United States has increased at an annualized rate of 5.5% on the surface.

Charles:
This three and a half to 4% difference is fairly significant, but it only takes into consideration price appreciation, not potential rental income. And if we’re investing for cashflow, there’s definitely going to be rental income. We’re also contend that with the stock market currently at all time highs as measured by the Wilsher total market index, compared to the U S GDP, it will return far less than 5% annually over the short and mid term, making bill state a more attractive option, consistent source of passive income. This is my favorite part of investing in real estate. Unlike the majority of stock investments, except for the very few publicly listed businesses with consistent dividend history is going back 20 years or more. Our residential commercial or industrial rental property will provide an owner with consistent monthly income provided a reliable tenant or reliable tendencies in place, which far less volatility just goes without saying now there’s a lot of things you can control the property, preventative maintenance.

Charles:
If you’re taking care of the property and this mans correctly, you’re going to have a lot of predictable costs in the future. You’re going to know, Hey, my roof has to be done in seven years or this hot water heater has got two more years left on it. When you’re doing this, you can put away the correct amount of money every month. And that allows for you to still have consistent income. And then when those large cap ex items come up, capital expenditure items come up, you’re able to have the money from your reserve to pay for them. Another great point is a long-term investment. This is also another one of my favorites. And most people find this as a negative. You’re not liquid, it’s not liquid asset. And there’s ways of getting money out of real estate pretty quickly. And you can do that by refinancing it, which is probably the easiest and best piece since it’s tax free.

Charles:
But if you’re purchasing a property and you can’t sell it right away, it removes a lot of emotion from it because if you’re the poor to sell a property, it takes time. And in a normal market might take 3 30, 60, 90 days, right? Three months almost maybe to sell a property from the time that you listed to actually getting money in hand. So in that time, I’ll prepare, preparing for that. There is a lot of emotions can be put on the sidelines and it allows you to kind of stay focused on what your plan was from before. Also knowing that when you’re going into real estate investing that it is 5, 7, 10 years. Now, obviously there’s some people that do on a much shorter term than what we do here at Harborside partners is we’re buying for cashflow and we’re buying for property appreciation once we’ve added value.

Charles:
So it’s really important to put your blinders on since there’s no daily ticker symbol to check out and you don’t know exactly if your property has gone up or down real estate is takes a play, all that emotion here, investing. The other reasons that we like is leverage as you build up equity in your property and equity line of credit can be used to acquire other income generating properties. However, we would be careful of this because over leverage can leave you vulnerable. And in a worst case scenario, if having none at all. So it’s much better to when you’re using leverage, leverage can be used as a benefit, but it can also be very dangerous. If used incorrectly is a tangible physical assets. We said before. So physical assets, much safer bet and much less volatile than other investments real estate gains are deferrable.

Charles:
So this is a very important with real estate. There’s tons of tax deferment options between all the depreciation and then between this one, the 10 31 exchange. These are probably most widely known and permits to gain on the sale of an investment property to be transferred from the property, being sold to a new property, being purchased, thereby deferring the payment of any tax on the sale of the property. This is extremely important. It’s also important that you need to have professionals that have done this before, when you’re planning on doing it, but it just shows what is possible with investing in real estate and what people invest in real estate when you’re comparing it to other asset classes available today. So please remember to rate, review, subscribe, please submit comments and show topics at global investors, podcast.com. Look forward to two more episodes next week. See you then

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