Billionaire Andrew Carnegie famously said that 90% of millionaires got their wealth by investing in real estate. We wanted to know: Is this still true? Is investing in real estate always a good idea?
Absolutely! However, real estate investing for the regular investor is not a get rich quick scheme. It would be best if you were consistent, and above all, patient.
Why is real estate a worthy investment? Well, for one, it reduces the overall risk in your investments portfolio and increases the overall returns. I'm not saying real estate is the ONLY investing option that is worthwhile. Not.
You should be investing in other assets, such as stocks, mutual funds, indexes, ETFs, bonds - heck, even have some money in a savings account (although that hardly counts as an investment).
According to these nine Advisors in The Oracles, who made millions by investing in real estate, the answer is a resounding yes. Many investors have traditionally turned to the stock market as a place to put their investing dollars. While stocks are a well-known investment option, not everyone knows that buying real estate is also considered an investment. Under the right circumstances, real estate can be an alternative to stocks, offering lower risk, yielding better returns, and providing greater diversification.
Whether it's planning for retirement, saving for a college fund, or earning residual income, individuals need an investment strategy that fits their budget and needs. Comparing an investment in real estate to buying stocks is the right place to start.
The benefits of investing in real estate are numerous. With well-chosen assets, investors can enjoy predictable cash flow, excellent returns, tax advantages, and diversification—and it's possible to leverage real estate to build wealth.
Are you thinking about investing in real estate? Here's what you need to know about real estate benefits and why real estate is considered a good investment.
Do you have enough for retirement? Financial planners usually use the "25 Times Rule" to determine how much a portfolio should be worth for someone to retire safely. If you need $50,000 a year to live on when you retire, then, using the "25 Times Rule" you should have $1,250,000 in stocks, bonds and mutual funds to retire. Then, at retirement, financial planners begin liquidating these assets using a "4-Percent Rule", which means they liquidate 4 percent of the portfolio each year until it is down to zero after 25 years. If you retire at 65, you better hope you don't live past 90, or you'll be broke.
Compared to investors who rely on the stock market to accumulate assets for their retirement, real estate investments take a different approach. Suppose you accumulate $2,800,000 in income-producing real estate. In that case, it will pay $50,000 a year in income and continue to appreciate over the years, not only covering you indefinitely but also leaving you something to pass on to your children.
Here's the exciting part; it only takes $700,000 in investment capital to accumulate $2,800,000 in real estate assets. By comparison, it takes about $900,000 in stock investments to achieve a $50,000 per year annual income, assuming that during 30 years of investing both types of investments yield a 4 percent return.
Real estate has many advantages over investing in stocks, bonds or mutual funds. Real estate offers predictable cash flow; it appreciates, thus keeping up with inflation; it provides a higher return because of positive leverage, and it includes equity growth through debt reduction. During retirement, real estate is a self-sustaining asset, while stocks are a self-liquidating asset. Which would you prefer, an independent asset or a self-liquidating asset?
Housing markets around the country have recovered from the recession, but some investors are asking themselves now: Is real estate a good investment? The answer is a resounding "Yes." Residential real estate investing is still one of the financial cornerstones for the middle-class to reap the rewards with minimal investment upfront. Real estate investors reap huge financial paybacks also. The fact is there are so many perks associated with real estate that you can quickly increase your net worth when you learn the art of investing in good properties.
If there were just one rule of successful investing, it would be "start as young as you can." Although we frequently hear this advice as it pertains to the stock market, there are a lot of reasons to consider real estate investing in your twenties, too.
Real estate can be an excellent investment if you take the time to educate yourself about the process and the best ways to get superior returns. However, most people who are interested in buying rental properties or real estate as an investment never do so. People who don't take the time to learn about investing in rental properties are missing out on a great opportunity. I own 11 rental properties that bring in approximately $5,000 a month in cash flow after all my expenses, including mortgage payments.
One thing I would have done differently is investing in real estate much sooner. I bought my first rental property when I was 31, and I am now 35. The great thing about rentals is the longer you own them, the better investment they become. Plus, when you are young, you have more flexibility in life, fewer commitments, and can take more risk. If you wait too long to start investing, family, work, and experience makes it hard to learn about and buy rental properties.
Home buying is just one of the things you have to check off the list to be considered a grown-up. But is homeownership all that it's been sold to us as?
A Good Investment
A good investment is something that will pay you more than you paid for it. One of the most well known personal finance authors is Robert Kiyosaki.
Kiyosaki's teachings and seminars have generated controversy, but I think his definitions of assets and liabilities in Rich Dad, Poor Dad are excellent and very simple to understand.
An asset is anything that puts money into your pocket. A liability is anything that takes money out of your pocket.
So is a home a good investment? Does your residence put money into your pocket or take cash out of your pocket?
Every month you have to pay the mortgage, insurance, property taxes.
Even if the house is paid off, you are still spending money maintaining the home and paying your taxes and insurance.
Why Rental Properties Are A Significant Investment?
I love comparing rental properties to the stock market because the stock market is the investment vehicle we are all taught to use. Whether it is individual stocks, mutual funds, index funds, or REITs, we are told the best way to save and invest is to put our money in the market. The problem with investing in the stock market is we depend solely on stocks to increase in value. Retirement calculators are based on the stock market. They make us guess when we will die to determine how much we should save. We run out of money if we live too long or hold too much money if we die too soon.
Some people invest in real estate for appreciation, but smart investors invest for cash flow.
Real Estate vs. Stocks
Investing in real estate or stocks is a personal choice that depends on your financial situation, risk tolerance, goals, and investment style. It's safe to assume that more people invest in the stock market, perhaps because it doesn't take as much time or money to buy stocks. If you're buying real estate, you're going to have to save and put down a substantial amount of money.
When you buy stocks, you buy a tiny piece of that company. In general, you can make money two ways with stocks: value appreciation as the company's stock increases and dividends.
When you buy real estate, you acquire physical land or property. Most real estate investors make money by collecting rents (which can provide a steady income stream) and through appreciation, as the property's value goes up. Also, since real estate can be leveraged, it's possible to expand your holdings even if you can't afford to pay cash outright.
For many prospective investors, real estate is appealing because it is a tangible asset that can be controlled, with the added benefit of diversification. Real estate investors who buy property own something concrete for which they can be accountable. Note that real estate investment trusts (REITs) are a way to invest in real estate and are bought and sold like stocks.
There are a number of considerations for investors when choosing between investing in stocks or buying real estate as an investment.
Investing in the stock market makes the most sense when paired with benefits that boost your returns. But those perks are not always available, and there is a limit to how much you can benefit from them. Investing in the stock market independently can be unpredictable, and the return on investment (ROI) is often lower than expected.
Comparing the returns of real estate and the stock market is an apples-to-oranges comparison—the factors that affect prices, values, and returns are very distinct. However, we can get a general idea by comparing the total returns of the SPDR S&P 500 ETF (SPY) and the Vanguard Real Estate ETF Total Return (VNQ) for the last 20 years:
Ten reasons to invest in real estate:
Real estate has a predictable cash flow
Cash flow is the net spendable income derived from the investment after all operating expenses and mortgage payments have been made. An excellent real estate investment should provide you with 6% or greater cash flow.
Real estate appreciates in value.
Since 1968, appreciation levels for real estate have been 6 percent per year, including during the downturn in the economy beginning in 2007, according to the National Association of Realtors.
Real estate can be leveraged.
The most important advantage of real estate investing is LEVERAGE! It is the use of borrowed capital to increase the potential return of an investment. In real estate transactions, leverage occurs when a mortgage is used to reduce the amount of investor capital required to purchase a property. The annual return on a $200,000 property with a $20,000 net cash flow purchased with cash is 10 percent.
Now, let's assume a loan of $150,000 is amortized over 30 years at 5 percent interest, but 75% of the money required to purchase the property is borrowed, even factoring in the cost of making the mortgage payment, the annual return more than doubles to 22 percent.
Once you have built up an equity position in an investment property, you can leverage that investment for cash in one of two ways: Secure a second loan against the increased equity or refinance the original loan amount plus the increase equity. This frees up money to buy another investment property.
Real estate provides equity buildup.
Most real estate is purchased with a small down payment with the balance of the money being provided through debt financing from a lender. Over time, the principal amount of the mortgage is paid down, slowly at first, and then more rapidly toward the end of the amortization period. This principal reduction builds equity.
Real estate is improvable.
One of the most unique and attractive advantages of real estate is that it is improvable. Because real estate is a tangible asset made of wood, brick, concrete, and glass, you can improve the value of any property with some "elbow grease" and "sweat equity". Whether the repairs are structural or cosmetic, do it yourself or hire someone, the principle is the same. You can make your real estate worth more by improving it.
Real estate coincides with retirement.
When real estate is purchased, the cash flow is lower, and the principal reduction on the mortgage is less. Over time the mortgage is paid down or paid off, and the cash flow increases. In some respects, it's a forced savings program, yielding a greater amount as time goes by, which is a perfect investment for retirement as it increases in cash flow down the road.
Real estate is tax-deductible.
Tax codes allow various deductions for the normal expenses incurred in owning real estates, such as property upkeep, maintenance, improvements and even the interest paid on the mortgage. The deductions can offset income and reduce your overall taxes.
Real estate is depreciable.
Depreciation is a non-cash expense permitted by tax code that depreciates the value of your investment property over time. However, the value of your investment property is actually appreciates. The depreciation deduction allows a real estate investor to generate larger positive cash flow while reporting a lower income for tax purposes. This creates a higher return than you may initially realize.
Real estate has a lower tax rate.
If your investment property is sold after a year, the gain is subject to capital gains tax rates which depending upon your tax bracket is generally 15% or 20% which is usually less than one's tax bracket.
Add It All Up
When you add it all up, the question "Is real estate a good investment?" seems like a no-brainer. Of course, it is! There are no other investments that offer the same record return on investments with such low initial costs.
Rental properties can be an awesome investment that allows you to retire early. It is not a get rich quick scheme, and it is not easy to do. Real estate investing takes time, flexibility and ambition to make it work well. The sooner you get started, the easier it will be, and the better off you will be later in life.
There is no right answer for everybody. It would help if you looked at your reasons for buying or renting a home against your short and long-term financial goals.
Then you can decide what is right for you and your family.
I am choosing freedom. The freedom to live wherever I want, to do whatever activities I want while the income streams I build up over my working years support all of my expenses in early retirement.
But we want to show you that you don't have to follow the same path that everyone else follows to owning your first house.
So before you gather up your credit report, tax returns, pay stubs, and bank statements and start scouring open houses looking for the right home, ask what the right home means to you.
There is one final advantage to a real estate investment and that it is understandable and easy for most everyone. It's easy to purchase, it's easy to finance, and there are no insurmountable financial barriers to entry. It's easy for most investors to improve their properties, and it's easy to use the tax advantages.
Some real estate investors begin by purchasing a duplex or a house with a basement apartment, then living in one unit and renting out the other. This is a good way to get your feet wet, but keep in mind that you will be living in the same building as your tenant.
Additionally, when you set up your budget, you will want to make sure you can cover the entire mortgage and still live comfortably without the additional rent payments coming in.
As you become more comfortable with being a landlord and managing an investment property, you may consider buying a larger property with more income potential. Once you own several properties, it becomes easier to purchase and manage more properties—and earn a greater return on your investments.