There are several ways you can invest in real estate. Typically, direct investments involve purchasing, improving, and/or renting land or buildings. Indirect investments involve purchasing shares in entities that invest in real estate (e.g., real estate investment trusts (REITs), mutual funds and exchange-traded funds that invest in real estate-related stocks and/or REITs, and real estate limited partnerships).
Why individuals invest in real estate
In addition to potentially diversifying a portfolio and acting as a hedge against inflation, there are other financial benefits for investors who choose to put their money in real estate:
- With a primary residence or vacation home, an investor enjoys pride of ownership.
- Owning property offers the potential for significant gains if it is developed and sold for substantially more than the original value.
- An investor can enjoy a stream of income from rental/leased property and take advantage of certain tax credits.
- Real estate can be purchased in many forms, (e.g., shopping centers, industrial buildings, apartments, condos, single-family homes and undeveloped land), offering a variety of choices to diversify holdings.
The tradeoffs of investing in real estate
It’s important to note that real estate may not be appropriate for all investors. It is important to note that there are inherent risks associated with real estate investments and the real estate industry, each of which could have an adverse effect on the financial performance and value of a real estate investment, including:
- A deterioration in national, regional and local economies
- Tenant defaults and local real estate conditions, such as an oversupply of rental space or a reduction in demand
- Property mismanagement or changes in operating costs and expenses
In addition to high initial cash outlays and the risk of loss if the market takes a turn for the worse, perhaps one of the biggest tradeoffs associated with direct investment in real estate is its lack of liquidity. Direct investments in physical property are rarely liquidated overnight. For example, if you want to sell a parcel of land to cover a debt, you might not find a buyer, or a buyer might need some time to obtain financing. If your real estate is unencumbered, you may be able to borrow against it, but you will have to pay interest on the debt, and it may take weeks or months to process your mortgage. When your money is tied up in real estate, it is really tied up.
However, indirect investments have more flexibility. REITs are traded on exchanges and are fairly liquid — if you invest in an open-end real estate mutual fund, you can typically liquidate your shares on very short notice.
If you’re considering real estate as an option for your portfolio, the experienced advisors at Commerce Trust Company are here to discuss your options, answer your questions, and help you navigate the complex process. These three articles may provide further insight regarding this type of investment opportunity:
Is Real Estate in Your Portfolio a Good Hedge to Inflation?
By: Robert E. Whitney, Jr., CFP®, Vice President, Senior Financial Planner
Do your homework to decide if investing in rental property is the right move for your portfolio — and your lifestyle.
Use a Construction Loan to Build the Home of Your Dreams
By: Brian Watkins, Director of Private Banking, Commerce Trust Company, and Greg Benton, Commerce Bank Mortgage Banker
Building a custom home can be complicated and expensive — this type of financing can help.
Is a Second Home in Your Future?
By: Mendy Diel, Vice President, Private Banking Relationship Manager
Purchasing a second home is a decision that should be made carefully and in the context of your total financial life.
Past performance is no guarantee of future results, and the opinions and other information in the commentary are provided as of August 17, 2022. This summary is intended to provide general information only, and may be of value to the reader and audience.
Diversification does not guarantee a profit or protect against all risk. This material is not a recommendation of any particular investment or insurance strategy, is not based on any particular financial situation or need, and is not intended to replace the advice of a qualified tax advisor or investment professional. While Commerce may provide information or express opinions from time to time, such information or opinions are subject to change, are not offered as professional tax, insurance or legal advice, and may not be relied on as such.
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