Why Real Estate Investment
Real estate investment offers you key advantages you won’t find with other asset classes. These are the key advantages that make real estate investing IDEAL (Income, Depreciation, Equity, Appreciation, and Leverage.). IDEAL is a term that refers to the many ways real estate investing can help build wealth and increase income.
Each of these makes real estate investments a valuable addition to any investment portfolio. Having all five gives you an opportunity to accelerate wealth-building potential.
Whether you have physical properties or realty investment trusts (REITs) shares, investing in real estate can add steady income to your bank account. Rent payments have been a major factor in real estate assets generating steady, reliable income over the years.
This secure income stream can replace a person’s salary if they are looking to retire. Stocks and other retirement investments don’t offer the same promise. A portfolio of real estate investments can help you generate cash flow from multiple sources. This will reduce your risk of losing money if one investment fails.
Each unit will bring you income every month if you have multi-family rental properties. When you have enough properties and steady tenants, you will build enough income to replace your regular income so that you can retire whenever you wish, no matter what age.
You’re also accumulating a wealth of untapped assets. You can use your rental property as a virtual ATM if you ever need large cash infusions, such as to pay unexpected medical bills or for a trip around the world.
REITs offer investors the chance to participate in large commercial, industrial, and residential real estate transactions. Due to their tax-advantaged structure REITs must pay the lion’s part of their profits to shareholders as dividends. This guarantees an income stream.
ETFs and real estate mutual funds often hold shares in REITs and pass at least some of the dividends to shareholders. You have the option of either reinvesting dividends to purchase more shares or cash payouts.
Depreciation, a special accounting expense, tracks the decline of asset value for wear and tear. This is a good idea for most assets: cars lose their value the moment they leave the lot, and machines that have been in use for more than ten years begin to wear out.
Most assets don’t last forever. Real estate is a property where the value can increase as well, so depreciation provides a rare benefit: it’s an expense that turns into real-life cash.
It reduces the taxable profits of your real estate investment asset and may offset some of your other income. This is a complex tax area so make sure you work with a qualified CPA.
If you have a property that has a tax loss as a result of depreciation and another property that produces taxable income, the loss on the first property can be used to reduce the profit on the second property. In certain cases, the tax loss may be used to reduce income other than salary.
The tax jackpot also works for indirect real-estate investing (funds or REITs for example), though it is not quite as lucrative for the investor. REITs, for example, pay more income than they make because depreciation does not incur a cash expense. This is a boon for investors.
Equity is the amount of property you own completely. It’s the property’s value minus any outstanding mortgage debt. Your equity will increase as you pay off the mortgage loan. Your equity will also increase as property values tend to go up, which can add to your equity.
You can build more wealth as your equity grows. You can borrow against the equity to make a downpayment on your next investment property. Although your equity in the property is temporarily reduced, you still have full equity and you now have two income-producing properties.
This is true even for underlying properties of indirect real estate investments such as REITs. These strategies can be used strategically by the holding company to maximize your investment and its value.
Appreciation is when an asset’s value increases over time. It is the opposite of depreciation. Real estate is one of the few assets that appreciate which makes it a highly desirable investment.
There is only so much land that can be used for human habitation. Land is a finite resource. Demand will naturally outstrip supply. Prices rise when demand exceeds supply.
This doesn’t necessarily mean that property values will increase in a straight line. As we saw in 2008, they can also decline with an economy in trouble. Different areas have different property values. They rise and fall at their own pace. However, overall real estate values in the United States tend to increase, which means that you will not pay tax on any appreciation until you sell.
Leverage refers to the idea that you can buy something and not have to pay the full price. You can leverage in Real Estate by using a mortgage to purchase a property and only paying a fraction of its total cost.
Even though you have only paid a portion of the purchase price you still get all the benefits. All income, equity, appreciation, and tax write-offs are yours.
This is impossible with other investments. You can’t buy financial investments with leverage without using a margin account. There are also other concerns to be aware of when using these accounts. We won’t get into all that here.