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Q & A with America’s Real Estate Professor: Investing retirement in real estate

Zillow • Sep 5, 2013 at 4:03 PM

Investing Retirement in Real Estate

Q. My grandmother is 55 years old and has recently inherited approximately $3 million. She is considering investing a large portion of that inheritance in the real estate market. Kindly please advise her on following with regards to her interest to invest in the property market. Thanks, Yancy S.

A. First, she needs to go to a competent financial advisor and educate herself on diversifying her retirement assets. No one, especially an older person, should invest a “large portion” of their wealth in real estate. It must be spread out among many different assets – things like stocks, bonds, cash, investment real estate and a home. She and her advisors should decide what percentage of the money is going to real estate – probably 25 percent or less. I’ll respond to your very detailed follow up questions below.

Q. What are the various types of property investments she could invest in and which types do you recommend someone her age should invest in and more specifically why?

A. I’m going to assume you mean direct investment in physical real estate assets – as opposed to stock market real estate investment trusts, joint ventures or partnerships. Real estate investments can be in:

- Already built and operating properties, or

- In a development type of deal like building a home community for sale or building an office building.

Do not touch any development deal or let her try development herself. There are a million reasons why most novices lose most of their money trying these ultra-risky ventures.

That leaves us with operating already built properties.

Beware that all real estate is extremely high risk and real estate investing is fraught with issues, complicated, time consuming, and can cause significant hassles, lawsuits or bankruptcy. So get some professional advice from an experienced, long-term property owner. Avoid the real estate “experts/consultants” who advise others but don’t actually own any real estate themselves.

Residential apartments are generally lower risk on the real estate risk spectrum. This is because you can more easily get them rented by dropping the rental rate. Commercial properties – retail, office or industrial – can be vacant for years depending on the property. So you might prefer decent quality, newer, well-built, decent cash flow apartment buildings. The cash-on-cash returns are not going to be great, but as you are aware, the less risk the less return.

Q. Further, what is the risk/return profile of real estate [property] as an asset class in comparison to other asset classes?

A. Extremely high – probably close to a junk bond profile. The more you educate yourself and take the time to do the proper due diligence, so as to avoid bad properties, the lower the risk. That being said – extremely high risk.

Here’s the problem. Too many people buy real estate with their only thought that, “it will go up in value over time” and “won’t be too much work” and they’re going to get rich! And to experienced investors, that’s a real funny story!

Q. Are there any significant tax and regulation implications to investing in real estate versus other possible asset classes that she should be aware of?

A. Yes, check with a CPA or tax professional in the geographical areas where you would like to invest. They will have to look at your grandma’s entire financial picture to give good tax guidance.

Q. How should she go about managing her property investments to maximize her expected return on investment?

A. Only time and ownership teaches us how to better maximize our return on investment. A competent property management company – and her managing the management company – will help. Hopefully she, or you, can also find some experienced investors that will give you a full, honest accounting of the risks and rewards of property ownership. And then you can think through what they’ve told you and take the course of action you feel is best for grandma. Good luck.

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