One of the richest people of all time, Andrew Carnegie, once said, “90% of all millionaires become so through real estate investing.”
Owning real estate is a great investment strategy because:
- Property is a tangible asset;
- Property investments provide inflation-beating capital growth returns, especially over the long term, providing you with equity for the future;
- The property market is less volatile than the stock market;
- You have more control over your investments than you would investing in the stock market;
- Using leverage can deliver significant returns on investment;
- Properly structured rental returns usually cover day-to-day property costs and can provide an income stream, all while the principal is being paid down;
There are numerous tax write-offs for costs and expenses (including depreciation in the US).
As with any asset class, there are countless investment options and an investor faces a complex risk-reward decision-making process, with considerations such as:
Type of real estate
A good first step is to purchase a buy-to-let property, which will generate income that is nearly tax-free. Your rental property will work for you even when you are sleeping. During retirement, owning several rental properties can generate enough income to cover your expenses, or be used to release equity or sold altogether. You may also have the option to change your primary residence from one to another for personal or tax purposes.
Commercial real estate is becoming more attractive to the “average” investor. Such projects are often major undertakings, meaning there is generally less competition in the market. Leases are generally longer, therefore it’s a more stable source of income. Another advantage is higher ROI, due to the “Triple Net Lease”, where tenants pay for the building’s taxes, property insurance and maintenances costs, in addition to monthly rent, leaving property owners paying no expenses other than the mortgage.
Raw land investing can be considered risky, in that it will not generate any income and may not generate a capital gain when the property is sold. However, it can be a huge opportunity when looking at what can be developed on it, especially if it’s in the path of growth; after all, it’s a finite asset. It’s also a very hands off and inexpensive asset to own; it doesn’t wear out, doesn’t depreciate, nothing can be broken, stolen or destroyed, and costs are minimal. If you want to park your cash somewhere and forget about it, vacant land could be exactly the investment vehicle you’re looking for.
For many, there’s a comfort factor to buying in your home country. However, if your plans include retiring to a foreign country, it’s often worth getting on the property ladder there.
Geographical diversification is also a way to spread political risk. Often, there’s a backlash against foreign ownership which drives governments to implement measures to dampen markets (with the added benefit of filling the taxman’s coffers). Sadly this often affects non-resident nationals as well as “foreigners”. Recent measures in the UK targeting the buy-to-let sector, for example, the phasing out of mortgage interest relief, tighter lending restrictions and restructure of the Stamp Duty Land Tax (SDLT) make owning multiple properties in the UK prohibitively expensive for many. Investing in multiple jurisdictions instead can deliver better ROI.
Immediate and long-term tax implications
The main taxes which affect property investors are SDLT, Income Tax, Capital Gains Tax (CGT). In the UK, as an individual, you’ll pay SDLT at varying rates, tax on your income from the property and CGT when you sell it. With regards to income tax, the phasing out of mortgage interest relief means that your “income” will seemingly go up. This could push you into a higher income tax bracket, and with a personal allowance of only £11,000 per year across all your UK income and a top rate of 45%, you could end up with a hefty tax bill at the end of the year. CGT for individuals is currently 28%.
There are ways to mitigate the tax burden, such as writing off costs, buying within a trust, or buying through a limited company. Corporations pay SDLT at the higher rate, even it’s your first property purchase by the company. However, “income” is treated as “profit”; the main rate of Corporation Tax is currently 19% (tax year 2018/19). In 2020/21 it will be 17%. CGT for corporations is currently 20%. Dividends from the corporation are tax free up to £5,000/year. Thereafter, beyond your personal income tax allowance of £11,000, dividends are taxed at 7.5%. You can also assign other costs to the business as a way to reduce your personal tax burden.
Extent of leverage
Buying property with cash has many benefits, and it’s often a good option for retirees. However, even the very rich still choose to mortgage property. This is because mortgage rates are currently very cheap compared to just about every other type of loan out there, and look to continue being so, giving you a far greater ROI compared to cash buying. Financing means you can deploy your remaining cash elsewhere; liquidity and diversification reduce risk.
It’s important to find that “sweet spot” – perhaps a 75% loan-to-value. This may avoid the need for mortgage insurance, you get a lower rate of interest, and you have an equity investment.
- Extent of costs in order to determine affordability and ROI, including, but by no means limited to:
- Buying: one-off taxes, conveyancing, solicitor’s fees, mortgage arrangement fees
- Holding: leasehold costs (ground rent, service fees, insurance) v freehold costs, management fees, income tax, maintenance and repairs, mortgage interest rates, vacancy costs
- Selling: One-off taxes, sales commission, solicitor’s fees, mortgage exit fees
With so much to think about, you’ll require a well set out plan and extensive research in order to make a fully informed decision. Our experts offer end-to-end support, assisting with strategy, international real estate identification and evaluation, and expat mortgaging.