Traditionally, when individuals want to invest their hard-earned money, they normally turn to the stock market. Whether it’s through their personal 401k (which can include matching funds from their employer), or through the services of an investment advisor, owning stocks has its advantages.
With stocks, you don’t need a lot of upfront money to enter the market, and owning stock doesn’t require a lot of your time. One hopes for an increase in the value of the stock and that it will generate dividends as income for the investor.
But for some investors, the stock market is too risky and erratic, and it doesn’t offer the kind of control they seek. For those kinds of investors, real estate can be a great – and profitable – alternative.
Strategy is Key
Whether you’re preparing for retirement, contributing to a college fund, or interested in generating additional income, individuals need an investment strategy that meets their goals and budget. That strategy will often be determined by one’s financial situation, tolerance for risk, and investment goals and style.
Compared to stocks, real estate is not as liquid and it tends to require more time and money. But it can provide a regular income stream and there is potential for substantial appreciation.
When you invest in real estate, you are purchasing physical land and/or a building. Most real estate investors make money by collecting rents and also through long-term appreciation, as the value of their property goes up. Also, since your real estate can be used as collateral, it's possible to purchase additional properties, even if you are unable to pay cash outright.
For many investors, real estate is appealing because it is a tangible asset that people can see and hold. It is also an asset that is, for the most part, within the control of its owner. As long as they buy smartly, finance properly, recruit responsible tenants, pay attention to the numbers, and maintain the property scrupulously, an investor is likely to experience success over time.
There are three main benefits that are relevant to an investment in real estate – capital growth, rental yield, and tax benefits.
Capital growth – Capital growth is the continuous growth in the value of your property. Generally, in order to realize capital growth, you have to hold onto your asset over a longer period of time.
For example, let’s say you purchased a property in 2010 for $300,000 and it grew 5% in value each year. In 2015, your property would have a value of $383,000, and you would have a capital gain of $83,000, minus any expenses and taxes.
Rental yield – Rental yield is the money you generate from rental income, minus the expenses that result from owning the property. With the right property, you should be able to create a steady and dependable income stream.
Tax benefits – Owning an investment property offers a variety of tax advantages. You are able to claim the expenses you incur from owning the property; you can exercise a deduction for depreciation, and you are permitted to engage in negative gearing. Negative gearing means investors are allowed to offset any losses they incur against their taxable income.
Not Without Risk
As we saw in the housing and banking crisis in 2008, and what we’ve seen recently due to the COVID pandemic, investing in real estate is not without risks. Markets can experience bubbles in housing and the value of properties can decline.
In addition, there are risks of natural disasters, destructive tenants, shoddy maintenance, etc. that can cause unexpected expenses. But over time, year after year, an investment in real estate has proven to be reliable, steady, and profitable.