There are many reasons why real estate is better than other investments, and they go beyond tax efficiency.
Many on social media will discuss short-term rental tax treatment, real estate professional status, cost segregations, and bonus depreciation as benefits to real estate investment, but in fact none of those make the top four reasons why someone should invest in real estate. They are:
- Leverage – It is difficult to find investments where you can pay 20% of the value but you receive 100% of the asset. This is what a mortgage will do for the investor. When you buy mutual funds or stock, say $100,000 of Tesla stock, you will receive $100,000 worth of that investment. In contrast, real estate allows you to use leverage to buy something worth more than the investment. That same $100,000 buys a property whose fair market value is $500,000.
- Bargain Shopping – A diligent real estate investor can look for rental real estate bargains. When you buy $100,000 worth of Tesla stock, it is worth $100,000. When you buy real estate at a bargain you can invest $100,000 in a rental property whose fair market value could be more than the sales price of $500,000. It may actually be worth $700,000, for example. How is that possible? Who would sell a property worth $700,000 for $500,000? There are many reasons. It could be a difficult personal situation such as divorce. It could be complications of inheritance: seven grandkids inherit grandma’s farm in Iowa, but they all live in California and they just want to sell the property and be done with it. Real estate lets you look for those bargains. Of course, the opposite is true: you could buy a property with a fair market value lower than what you expect, so you need to be sure do your homework.
- Force Appreciation – You can work to increase your real estate investment’s value. If you wanted to increase the value of your Tesla stock what are some of the things you could do? You could hope. You could pray. You could write letters of encouragement to the board of directors hoping they will have a good day and perhaps perform better to increase the value of your stock investment. Not very likely. In reality there is little you can do to directly increase the value of your stock market investment. With rental real estate you can dramatically increase the value of the property with small improvements such as paint, new light fixtures, cosmetic fixes, or general yard clean-up for better curb appeal. These allow you increase your earnings with higher rents. With commercial properties (office space, warehouse space, 5 or more apartments), an increase in income results in an increase in the value of the property.
- Refinance – Real estate allows you to redeploy the investment no cost. If you want to get cash out of your investment you would have to sell the stock or mutual fund, which would require payment of ordinary income tax rates (if held less than one year) or capital gains tax rates (if held for more than one year). Real estate has the advantage that you can refinance and take out equity in the form of a new mortgage, which is not taxable income. You could then invest that cash-out refinance money into another rental real estate property that at least covers the basic P.I.T.I. (principal, interest, taxes and insurance) expenses.
In addition to these main four reasons, there are many benefits for investing in real estate, including cashflow, equity paydown by the tenants, depreciation, and appreciation of equity over time.
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Please understand that I cannot give you specific investment or legal advice, just guidance in these areas, and you should consult a professional licensed in these areas for specific advice before making any final decisions.
