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Investment Property: A Great Wealth-Builder

When most of us think of investments we think of the stock market, maybe our retirement fund, and maybe that “business opportunity” last year with a colleague.  It is easy to describe investments one-dimensionally; something we invest money in today that we intend to sell for a larger sum years later.

Investment real estate however builds wealth simultaneously four ways:

1. Appreciating asset.  Possibly the most well-known fact of real estate is that it grows in value, or appreciates.  With the exception of a few brief periods over the last century, real estate has steadily risen in price, partly due to demand, but also due to other increases such as lumber and the desire for high-end finishes.  Similar to the stock market, real estate in general has risen in value over time.

2. Income-producing.  Rental real estate produces income once the property is leased.  While this income is taxable to the investor, many expenses become deductible that are not in a principal residence.  Rental income can produce up to double-digit returns annually.

3. Debt reduction.  A third and maybe lesser realized benefit is the reduction of mortgage debt.  With stocks, rarely do we borrow money to invest.  The value of stock is typically measured from its highest value, and wealth is measured from zero.  Not so with real estate investments.  Typically a fraction of the investment is bought with your money, while a bank or lending institution lends the remainder (leverage).  This allows wealth building in two directions simultaneously — growth through appreciation of the asset’s value, and growth in the reduction of debt borrowed from the bank — paid for with rental income.

4. Tax deduction (depreciation).  Arguably the least-known benefit of investment real estate is depreciation expense on a tax return.  Residential real estate is depreciated over 27.5 years and commercial real estate over 39 years.  To put real numbers on paper, a rental home purchased with net real property value of $275,000 carries a $10,000 annual write-off against income.  For many properties, depreciation alone offsets more than six months of rental income!

Regardless of your risk tolerance to investments and time horizon to invest, real estate is a great diversification to historical stock-based portfolios.  Real estate is a great way to earn income today and tomorrow, while holding an appreciating asset that in most cases can be sold for a profit years later.

  1. Comment by Ira
    June 18th at 10:26 am 

    Excellent post. The only thing is that income producing real estate is not a passive investment. It is a business. You have to treat potential tenants as borrowers, looking to obtain credit from you, because you are lending them your property in return for their rent payments. So you have to have a system in place to judge a potential tenant’s credit worthiness and other attributes to put them in charge of your asset.

    Further, you have to be prepared for the late night or weekend calls about a broken pipe, no heat or AC, no electricity, and to be able to deal with it on a timely and cost-efficient basis.

    So, if you are prepared to put the necessary systems in place in running your real estate business, it is a wonderful way to grow your wealth.

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