Investing in Real Estate: Is It Right For You?

Though real estate has historically produced superior returns than bonds, real estate it appears has not out performed stocks. The long term returns for stocks (13.4%) out pace that of real estate (8.6%). A recent report by a well known national financial magazine reveals that when it comes to such areas as performance, cost, diversification and overall effort required, stocks come out ahead of real estate. However in the areas of leveraging (or debt), taxes and volatility, real estate takes the edge over stocks. It is important to note that the use of debt (or leveraging) can enhance the returns in real estate by using mortgage financing as a tool to acquire property. Typically the smaller the down payment one provides, the larger their return on investment at the time of sale.

The drawbacks of purchasing real estate include the fact that there are high transaction costs involved both in buying and selling property. Secondly real estate transactions tend to involve significant amounts of money and are generally complex agreements to complete. Buyers often lack for accurate and complete information about both the property and the market they are buying in. The property may also be subject to regulation either through the developments covenants, conditions and restrictions (CC&Rs) or by local government entities. Also chief among the risks of acquiring real estate are the physical risk of loss due to disasters such as fire, flood and quake, the liquidity risk of having your money tied up in property where it is not easily accessible as well as the risk of changing regulations which could impact zoning and the use of your property. Lastly there is the market and valuation risk involved in the initial appraisal and purchase price of the property. In the event that faulty or inaccurate data is used in the appraisal, there is the risk of paying an over-inflated purchase price.

Before setting out to acquire real estate, ask yourself the following questions: Do you have sufficient funds saved to make at least a 20% down payment? Can you invest the time required to do the basic market and valuation research about the area you are looking at as well as researching the type of property you want to acquire? Will you invest the time and do you have the long-term objective of caring for and maintaining the property after you’ve acquired it? Of course you may hire a property manager to maintain it for you if you do not intend to reside in the property and are purchasing it for its income producing potential, but in any case you will still need to personally inspect the property periodically. If you have answered yes to each of the preceding questions, then you may be prepared to move ahead with your goal of acquiring real estate.