InvestingRealEstate


REAL ESTATE INVESTING

Real Estate Investing means buying, developing, managing and selling property consisting of land and /or buildings for purposes of generating wealth through either income or capital appreciation.

Advantages and disadvantages of Real Estate Investments

Although generally rental income is low it still provides regular flow of cash. However commercial rental property can generate significant income as this can be set as a percentage of revenue from the operating business. It is therefore advisable for those who are keen on rental income to consider working on commercial rental property. This could be huge commercial office space or it could be just factory shells or industrial parks. Residential property can be complex to manage due to unfriendly rental laws in Zimbabwe and other countries. Most of these laws favour the tenant and not the investor. Secondly most tenants at least in Zimbabwe do not maintain the properties well and this cause a depreciation of the property value. Residential rental properties are vulnerable to tenant related risks. At one point we leased out a prime residential property in Marondera to a local businessmen. The next time we passed by to inspect the property the lawn had been neglected and had died, he had started a business of selling fuel on the property from the verandah – diesel spillage had spoiled the external painting. This tenant was a maize farmer and most of his product was now being shelled from this prime residential property. I was greatly disappointed and noted that if I kept this tenant he would completely wipe out the value of the property. I instructed my estate agent to find legitimate ways to have his tenancy terminated.

A major advantage of real estate is that of capital appreciation i.e. since land is not elastic and therefore is not growing, as the population increases there is increased value on the price of land. This leads to marked price appreciation over time. Real estate over time gives some generous returns on investment. In 2001 my mother in law retired from active civil service after a lifetime of work and was granted what was considered a paltry terminal benefits package. I advised her to take a portion of the funds and invest in purchasing a medium density house in Marondera. The property she purchased then has since appreciated in value to about four times the purchase price. At the same time she converted her Zimbabwe dollar terminal benefits into a USD investment. The rentals she gets per month are more than three times her monthly pension payouts. That is the potential of real estate investing. She could sell the property if she wanted and enjoy the fruit of her investments.

There is a finite supply of land and hence it is valuable as price gradually increase with scarcity. An example is how in Zimbabwe local municipalities used to sell land in terms of three or more acres for residential property in low density areas and now most land is sold as about  a tenth of an acre and premiumly. Other have exploited this by subdividing existing properties to produce cluster homes.

With some creativity one can exponentially increase his return on an investment on land. For example a good friend of mine who is a wise real estate investor and property developer purchased a poorly rated residential property in Vainona, Harare for about USD150,000. He renovated the house which was on the property. He proceeded to construct three more houses on the same piece of land because he noted that the house on the piece of land was situated towards one corner of the one- acre piece of land. To finance the development of the three properties he sold one of the properties off plan for about USD180,000. My friend managed to complete the whole construction of these cluster homes and fabricated a good security durawall around the premise and did the lawns. Finally he sold each of the remaining properties for about USD250,000 each. Lets work out the immediate capital appreciation on his investments: Purchase price plus improvements of primary property USD200,000. Total sales USD930,000 {($250,000×3) +180,000}. Include working and associated costs for about USD50,000. His net return before tax was $930,000- $250,000 = USD680,000. This transaction was done on a cash basis because at that time the banks were not financing anything. This to me is unbelievable returns within the eighteen months he worked on the project. Of course we did not factor the stress factor as we could not quantify this. However I believe this kind of return is worth the stress. By having a  working knowledge of the taxation laws he could significantly reduce his tax burden as well.

Real estate has very low investment volatility as there is no daily price fluctuations. This makes real estate investments less stressful as compared to stock exchange investments which have very frequent price fluctuations.

Real estate is the only investment that has upgradable value- i.e. only investment that can be altered or improved to increase value. One can buy a property and then either re-paint it and re-organise it with small amounts of money which results in increased value immediately.

Real Estate suffers illiquidity – in other words it cannot be turned into liquid cash easily. An example is that if one owns a property worth USD80,000 and has an urgent need for lets say USD10,000, it becomes quite tricky to get it out of the property unless one borrows against it from the bank. One can also not partially dispose a property in emergency cases whereas in terms of stock investments one could dispose only the portion equivalent to the cash required. It’s faster to sell stock most times rather than real estate.

Real estate investments require long term commitment of funds. Therefore it requires that the investor be very patient and have a long investment horizon. In most third world countries this requires large initial investments. However in stabler economies properties can almost be bought for free without any cash outlay from outset through clever financial engineering.

The final disadvantage  for rental property is the risk of vacancy of the property that is to say you may not find a tenant for a while and so you end up paying the maintenance charges and operating rates with no income.

I believe however that the total benefits of real estate investment far outweigh the disadvantages. It is an easier way of creating and preserving long term wealth.

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