Editor’s Note: This article is written by Anka Anderssen, for www.macroaffairs.com
For most people, buying a home to live in is the single biggest investment they make in their life. Home values keep up with inflation over time, and owning your own home saves on rent. Rising rents and home prices are a major reason why inflation for millennials is higher than for other generations. But home ownership is not the only way that you can benefit from real estate investing. There is another way for renters to invest in real estate, and it requires less work and less risk than home ownership.
First, I will list some drawbacks of home ownership. Then I will explain how you can continue to rent and thereby avoiding these home ownership drawbacks while still investing in real estate: through investing in a Real Estate Investment Trust (REIT).
Home ownership
Here are some reasons why home ownership may be less than ideal for you:
- There are high transaction costs to buying and selling a home. For example, you have to pay between 2 and 5 percent of the home value to the realtor. If you want to sell a home that has gained in value, you may have to pay capital gains taxes on the increase in value.
- Transaction costs can make home ownership more costly than renting if you have to move every couple of years. It is also becoming more common to have to move for jobs.
- Home ownership is not achieved with a single transaction. Homes need maintenance and capital investments in the form of repairs and possibly other upkeeps. These repairs can come unexpectedly and the homeowner has to take care of them.
- Investment in real estate through home ownership lacks liquidity. This means that you cannot easily increase or decrease your exposure to real estate because you cannot easily sell or buy homes. If you want to add or sell 10k worth of real estate in a single day or week, that is not possible with home ownership.
- Home owners have a large investment concentrated in a single area. This can be beneficial if the land in that area becomes more valuable, but it can also mean that the house is worth less after a few years. This is not the case if you have your real estate investment spread out over many different properties, which brings me to the next section:
REIT ownership
A REIT or Real Estate Investment Trust is a company that specializes in buying or building properties and renting them out—and managing all property maintenance and tenant issues that may come up. These properties can be for example residential, office space, hospitals, or warehouses. Investing in REITs is pretty simple, you can buy shares in a single REIT company or an index that tracks multiple REIT companies. If you are in the United States, Vanguard is probably the best index provider and platform to purchase REITs. Owning an index with different REIT companies offers the following benefits:
- A REIT, or better yet, an index of REITs, is much more diversified than what your investment would be if you only owned a property. REITs operate in all kinds of industries and locations. Your home, on the other hand, is concentrated in a single area that could go down in value.
- A REIT will (just as your landlord should) take care of finding new tenants and performing maintenance on the buildings. If you rent and you also own a REIT index, then you are invested in real estate while not having concern yourself with the day-to-day operations of property management.
- If you decide you want to own more real estate or sell a portion of your investment, that is no problem with REIT ownership. You can buy or sell shares in a REIT or REIT index in small amounts. This means that you get to invest in real estate, but you also maintain liquidity.
Owning real estate
There are still good reasons to want to own a home, such as being free to do any renovations you like or even the feeling you may get from owning your own domicile; however sometimes situations arise when renting makes more sense than buying. Home ownership is not the only – and certainly not the easiest – way to invest in real estate. Through REITs, you can get exposure to the real estate market, invest any (small) amount you want, and don’t have to worry about property management. Therefore, REIT ownership is a good alternative to home ownership for those who want to invest in real estate.
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