Case-Shiller Realt Estate Price Index 1890-2016
It’s been tough to avoid the headlines the past few weeks that the stock market’s been riding a bit of a roller coaster. In fact, many advisors are cautioning clients that the market is overdue for a correction. In other words, sooner or later, it will go down.
After the real estate crash of 2008, many people lost faith in real estate as an investment. However, if you’ve seen the movie The Big Short, you know in many ways, that crash was caused by the stock market too.
So perhaps it’s time to take another look at real estate as an investment.
Here are ten reasons, despite the crash, that real estate is still a good investment.
- It provides cash flow. Both real estate and stocks should give you a positive, monthly cash flow that you can either reinvest or use to support your lifestyle.
- Unlike dividends, rent keeps pace with inflation. I recently visited a retired friend. She shared with me the one thing she failed to account for in her retirement planning was the rising cost of utilities. After all, how can anyone possibly predict what they will be 20 or 30 years from now? The good news for rental property owners is that rent will always keep pace with inflation. In other words, as the cost of goods and services go up, so will the cost of rent. That means, your income will rise as your personal expenses do, hedging against inflation.
- Appreciation. While you should never bank on a predictable number, looking at history, it is reasonable to expect that your property will be worth more when you sell it than it cost you to buy it. Evidence of this can be found in the Case-Shiller 100 year housing index pictured above. Note the two most dramatic downward slides in values came after the stock market crash of 1929, and again in 2007 (see The Big Short).
- Tax Advantages. While December’s tax law changes affected homeowners, real estate investors fared much better. In addition to continuing to enjoy deducting mortgage interest on investment property, duplex owners may also still claim depreciation as a tax credit. A tax credit is an amount that may be counted against the amount of taxes you owe.
- You can buy low and sell high. As an individual investor, you’d have to be Warren Buffet to know everything about a company you buy stock in. And let’s face it, even Uncle Warren misses now and then. However, if you assemble a team of good advisors and a Realtor who knows the market, you will always be able to find “a good deal”. There are always pocket areas where there is an opportunity, and a patient investor will know who to consult to find them. Whether you fix or hold the property, you can wait and be able to sell for more than what you paid for it.
- You can paint it. If you have a stock that’s struggling and losing value, you can do one of two things; sell it or wait for it to bounce back. If your real estate is struggling, on the other hand, you can do something about it. Whether you refresh the paint, mow the yard, update the kitchen or lower rent slightly to get it occupied, you have the power to help steer the ship back to profitability.
- You can borrow against it. As you pay off your mortgage and the property appreciates in value, banks will allow you to refinance and take some of that equity out to buy more investment property and continue to build wealth.
- You get other people to pay it off over time for you. You only need to have a percentage of the purchase price to put down on an investment property. You don’t have to pay for it in cash. Look at it this way, if you put $20,000 in an IRA, would your co-workers contribute to it until you had a $100,000 in it? If so, I’d like to apply for a job at your company. Yet if you buy a $100,000 duplex and put $20,000 down, your tenants will be glad to pay it off for you.
- You don’t have to pay taxes when you sell unless you want to. Uncle Sam will allow you to do what’s known as a 1031 Tax Deferred Exchange. While there are a lot of important rules to know about this, and it’s imperative you consult your tax advisor before doing one, the gist of it is as long as you don’t touch the proceeds of your investment property sale and reinvest the money in real estate, you can avoid capital gains tax.
- If you leave it to your kids, they don’t have to pay capital gains tax and depreciation recapture. Your kids may not want to be landlords when you’re gone. And if that’s the case, they can sell your property and pay inheritance tax on the proceeds. They are not subject to capital gains tax or depreciation recapture.
Of course, real estate isn’t all panda bears and kiwi fruit. It does have a few drawbacks:
- It isn’t liquid. If you sell stock, you don’t have to stage it, put it on the market or wait for a buyer. You simply decide to sell, call your broker, and a few days later there’s money in your account.
- Management. Let’s face it. Real estate investing at any scale is a part-time or full-time job. Do you really need or want another job in addition to the one you have? The good news is there are competent professional management companies out there. You simply need to do your research.
- Taxes. If you sell and choose not to reinvest, you not only pay capital gains tax (just like you do when you sell stock), you also pay depreciation recapture back to the first day of your investing career. This tax bill can be staggering. There are strategies around this, but you will need to make sure you have an exit strategy in mind and ready to execute.
Yes, I’m a Realtor. So I’m somewhat biased. But as a real estate investor myself, the pros outweigh the cons. Real estate is a great way to diversify your investment portfolio and make sure, no matter what, you can spend your retirement the way you want to.