In a world with no shortage of investment opportunities, investors have a lot of choices. As the number of options increases, real estate maintains its importance as a critical piece of any portfolio. Here are just a few of the many reasons why.
Real Estate Creates Cash Flow
For many investors, cash flow is a big draw. In a world of low-interest rates, it’s hard to find risk-adjusted yield in the form of cash flow from operations. For most categories of real estate, but especially for multi-family, cash flow is a major attraction.
Real Estate Is a Tax Shelter
Depreciation rules allow investors to take non-cash depreciation expenses and reduce their tax burden. “Rolling up” via a 1031 exchange is another tax advantage that allows investors to defer capital gains taxes on the sale of an investment if they move that capital into another real estate investment of equal or greater value. Few other investments have this combination of tax benefits.
More Competition Leads to Appreciation
Creating supply in real estate is an expensive and time-consuming effort. Just ask any developer. But once you own a well-located real estate investment in an area of growth, you tend to see increased value as cash flow improves by way of rent increases and demand from buyers. More competition from buyers leads to appreciation and often increased cash flow.
Investments Help You Build Wealth & Equity
Most all investments are designed to do this, but with real estate, there’s a sense of security and fairly easy ways to measure the investment’s ability to generate wealth. Although REITs (Real Estate Investment Trusts) are sometimes publicly traded on the stock exchanges, most real estate ownership is not and therefore not subject to the volatility of the stock market.
With real estate, we have measurable revenue, expenses, debt and replacement reserve costs, a net cash flow, and the ability through examining comparable sales to measure the value of the asset at any one time up against the amount of debt we hold on it. Some investors are drawn to the simplicity, security, and stability of real estate.
Real Estate as an Inflation Hedge
Because most real estate is financed with debt and the revenue is tied to the income generated by the people or businesses that pay rent, investments in real estate tend to travel along with or surpass the rate of inflation, making them a useful downside risk protection in many portfolios.
There are exceptions, but most real estate investments have a formula to size up risk. Easy-to-measure vacancy losses, tracking new building permits to size up the competition, long runways to develop that competitive property, and the fact that most of us have rented an apartment or grew up in a house and have some idea of how buildings are put together all help make that possible.
Returns move around with risk, of course, but measuring risk — while difficult with some investments — is a fairly easy chore in real estate.
Multifamily real estate offers some of the best protection from risk because the property’s risk is spread across multiple tenants. Losing a single tenant represents a relatively small proportion of your overall income, and minor changes in occupancy will not significantly impact cash flow.