As you get closer to retirement you need to start thinking a little differently about how you approach your investments. When you were younger you could afford to put your head down, save as much as you can and accept the wild volatility of the markets in the short term. Once you are in retirement, your focus changes to wanting to make sure you can create an income stream that you won’t outlive. While you still need plenty of growth to create a rising income stream over a 30-year retirement, you might consider allocating your portfolio in a more conservative fashion. In fact, creating a rising income stream in retirement is very different from building wealth while working in your 30’s and 40’s. The strategies you use to create a rising income stream throughout retirement are very different from the strategies you use to build wealth in the first place.
Creating a steady stream of income is something that retirees like to accomplish. Things like Social Security and pensions can provide such income. Real estate is another investment vehicle that can also provide a nice income in retirement. Many of our clients have enjoyed a lot of success and built tremendous wealth through their real estate investments.
With inflation being a real concern and interest rates still at generational lows, investors are starving for yield and looking for income while at the same time wanting a hedge against inflation. Investing in real estate can be a wonderful way to diversify your investment portfolio, create income and serve as a hedge to help fight off the ravages of inflation.
Another feature people like about real estate is the preferential tax treatment you receive when investing in it. You can depreciate the building and take advantage of things in the tax code like 1031 exchanges to keep the tax bill lower on your investments. With the step-up in basis rule still in play, passing real estate on to your children and other heirs is also a very tax-efficient way to leave a legacy.
In addition, people like direct ownership of real estate because the volatility of the asset appears to be less than the stock market. Because home prices aren’t reflected on a publicly traded market which fluctuates daily, (like the stock market) this gives the impression that real estate valuations are steadier. While we have seen major price declines in real estate (think 2007-2012 or the early 1990’s) it has been a fairly steady asset class. If purchased in the right location, real estate has been a good wealth building tool for many of our clients.
As the population continues to increase, people need a place to live creating increasing demand for housing. There are several asset classes within real estate such as single-family homes, multifamily homes, commercial and industrial properties as well. Depending on your preference, you might consider exposure to several of these to diversify your real estate portfolio.
There are several methods or approaches to investing in real estate. You do not need to be an expert before investing in real estate. For these reasons, we recommend that you incorporate it into your retirement strategy.
Things to know before investing in real estate
Before you go into real estate, there are several things you should know. These include:
- The method
- The type of property
- The nature of the investment (passive or active real estate)
- Your knowledge about real estate investment
- Your budget
- The pros and cons
The pros of real estate investment
- Real estate investors have a number of financing options.
- As you build equity in the property, you can use the property to finance the purchase of a new one.
- It serves as a source of passive income.
- If you invest in real estate, your capital will be intact while you keep earning significant income.
- It is a store of value. When you invest in real estate, you are building equity. The property appreciates with time, and you earn more returns if you decide to sell it.
- Real estate provides leverage. With only a 20% down payment for a property, your returns are magnified due to the use of “other people’s money” in the form of financing the majority of the purchase price.
- Real estate is fairly stable so long as you keep the location a solid one. It also has the possibility of being less volatile although we all remember the disaster of 2008-2011 in the real estate market.
- Real estate has the potential for appreciation.
- You will enjoy tax benefits if you invest in rental properties.
The challenges of real estate investments
Although real estate investment is quite lucrative, it has a few challenges. These include:
- The cost of investing – If you plan to purchase a rental property, the upfront cost may be high. Also, you should expect maintenance and management expenses. Real estate management also requires your time unless you are hiring property managers. However, hiring property managers will result in extra expenses. In addition, you should expect vacancies and other unplanned expenses.
- Bad tenants – Sometimes, you may have bad tenants that will damage your property or fail to pay rent.
- Real estate is an illiquid investment – If you invest in a property and later decide to sell it, finding a buyer may take time.
- Complications when sharing properties – As compared to other investments, it is more complicated to pass on real estate investment in a will.
- Difficulty in finding good tenants – You need to conduct rigorous tenant screening to find good tenants.
- Competition – The competition for quality tenants can be intense in some locations.
Different ways to invest in real estate
Even when there are some challenges in real estate investment, it is one of the best options for your retirement plan. The challenges should not prevent you from investing. Instead, it should guide you on the best method to deploy.
Below are different ways to invest in real estate:
- Real estate crowdfunding. Here, numerous investors pool resources to purchase massive properties that are unaffordable individually.
- Real estate investment trust (REIT). When you choose REIT, you avoid the hassles of managing the property, getting the appropriate house, or finding renters.
- Commercial properties. These are properties that tenants use for business purposes. They offer higher returns than others.
- Residential rental properties. This method is lucrative if you hire property managers to market the property, search for tenants and maintain the house.
- House flipping. This involves purchasing dilapidated properties at an affordable price. After that, you renovate and sell them for more income.
The bottom line
For your retirement, you need to take fewer risks and your focus should shift to creating a durable income stream. Real estate can be part of your diversified portfolio and retirement income plan. Successful real estate investing does require careful planning, so you want to be wise with your approach to it. We advise that you consult real estate experts before you settle on any method of real estate investment. Please feel free to give us a call with any questions you may have or if you would like to explore this in more depth.