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Advantages Of Real Estate Investing
As we have discussed earlier, the different types of investors in the real estate market all have a common goal of earning a return on investments. But every investment has its pros and cons, whether it is the stock market, commodity market or real estate market. So in this unit, we are going to learn a few advantages of real estate investing and consecutively, in the following unit, we will discuss a few disadvantages. Starting off with the advantages:
A. Appreciation of Value over Time: Real estate appreciates over time, generally at a slightly higher rate than inflation. Real estate is a tangible asset that derives value from Land as well as the structure created over it. It’s nowhere like stocks where prices might plunge to even zero. US Housing Prices data indicate that real estate prices could continue to rise indefinitely. As a matter of fact, with few exceptions, the average sale price of homes sold in the United States has climbed steadily year-on-year from 1963 to 2007—when the housing bubble burst and the Great Financial Crisis (GFC) of 2008 ensued. This below chart from the Federal Reserve Bank of St. Louis shows the average sales price of houses in the United States since 1963. The areas highlighted in grey indicate recessions. The key takeaway here is that even after fall of 2008, prices have inched up further and are presently near record highs.
B. Rental Income as a Steady Cash flow: Just like stocks, real estate also provides the possibility of dual-income. In case of stocks, dividends are treated as short-term income where in case of real estate, rental income fills the void. The owner of the property can earn regular steady income from rentals. Depending upon the geographical area & location, rental income can be quite significant in terms of yield.
C. Portfolio Diversification: Another benefit of Real estate investing is diversification of portfolio. This means the addition of real estate to a portfolio of risky assets leads to lower volatility and higher return per unit of risk. Real estate has almost no direct correlation with other popular paper-based assets like equity, debt, etc. Real estate outperforms other assets during an economic recession along with the benefit of stable yields.
D. Unique Tax Benefits: Real estate’s unique tax benefits allow the investor to grow their wealth over time. For instance, tax benefits can be claimed for the purposes of real estate investment using home loans. The following are the tax benefits available in India for the first property investment:
- Deduction –
- Section 80C of Income Tax provides a tax deduction of a maximum of ₹1,50,000 for principal repayment.
- Section 24 of Income Tax also provides a deduction of interest paid on home loan maximum of ₹2 lakhs per year.
- Section 24 also provides a standard deduction of 30% to Net Annual Value irrespective of expenses incurred on the property.
- For the second house property, Section 80C deduction is not available, but the complete interest component is eligible for deduction under section 24.
E. Great Inflation Hedge: The duo of rental income & value appreciation certainly beat inflation. As the prices of pieces of everyday items go up, so do rent and property value. However, the one thing that does not increase is your EMI. So whilst your annual rental income increases, the cost does not. For 12 months ending Mar 21, the inflation rate in India is 6% and annual gain from your stock portfolio is 10%, your actual profit is only 4%, as the purchasing power of the money decreases with the rate of inflation.
F. Provide Leverage: Real estate investing also provides you benefits of leverage which might be beneficial or detrimental depending upon one’s usage. Let us understand leverage with the help of an example:
Case 1: You purchased a house worth ₹60 Lakhs. Out of this amount, you paid a mere ₹15 lakhs (25%) as down payment.
A home loan was availed for the balance ₹45 Lakhs.
The EMI was fixed at ₹45,000 per month.
Suppose in one year, the property value appreciates by 10% in a year to ₹66 lakh.
What will be your profit?
Profit will be approximately ₹6,00,000 – ₹45,000×12 (EMI) + ₹60,000 (Principal paid) = ₹1,20,000 (profit).
Case 2: Instead of buying property of ₹60 lakhs, suppose you decided to buy within your means.
Hence you bought a property of value ₹15 lakhs.
Suppose in one year the property value appreciates to ₹16.5 lakhs (10%).
What will be your profit?
Profit will be approximately ₹1,50,000 – ₹15,000×12 (EMI) + ₹22,500 (Principal paid) = – ₹7,500 (loss).
This is the benefit of using leverage.