Investing in real estate can be like profitable and pleasant… Whether you choose your primary residence or invest in speculative or rental properties, discerning investors can make a lot of money. However, as with any investment, buying a property comes with many risks.
As of mid-March 2021, there are many macro and microeconomic factors that can make real estate purchases risky. Aside from these short-term issues, there are some long-term inherent risks to real estate purchases that may make some investors pause. Before plunging into the real estate game, consider if these 10 factors outweigh the potential gain you might see in your purchase.
Last updated: Mar 19, 2021
According to Realtor.com, the available home supply has dropped more than 48% over the past year. Not only does this drive up prices, perhaps more importantly, it means that what you want may not even be available. So it leaves you in the position of either buying what you really don’t like and paying a higher price for it, or waiting for a better opportunity to get what you want. You should never feel rushed to invest, so don’t be afraid to take a step back and think twice before investing in this property market.
Prices are skyrocketing
House prices plummeted in the first three to six months of 2020 as the coronavirus pandemic plunged the economy into a tailspin. In hindsight, it was a good time to enter the market. Since then, however, house prices have skyrocketed. While real estate tends to be regional in nature, prices have skyrocketed across the board, with in some cases double-digit percentage change in a matter of months. Overall, median list prices in February 2021 were up 13.7% over the prior year.
If you are confident that prices tend to regress towards the mean, it may be time to ride out this price explosion, which some observers call a bubble.
To find out: 8 insider tips to get rich on real estate
Inflation may be looming
In response to the coronavirus epidemic, the Trump and Biden administrations have injected huge stimulus money into the economy. The most recent law – a $ 1.9 trillion stimulus package – is the largest public spending bill in history. Many economists believe that all this excess capital flowing into the economy will cause inflation. Coupled with the likely increase in consumer spending as the pandemic weakened, some believe inflation could rise sharply.
While slowly rising inflation can often be a tailwind to house prices, when inflation rises sharply, it usually wreaks havoc on all capital markets, including housing.
Explanation of economics: What is inflation and what does it mean when it rises or falls?
Real estate is not liquid
While real estate can provide solid long-term returns, it is one of the least liquid investment markets. While you can liquidate a stock in a nanosecond by simply opening a deal with an online broker, it usually takes weeks or months to sell real estate. If you urgently need to withdraw the money you have invested in real estate, you may need to lower the price to a sale level to get things started faster. In most cases, this makes real estate an unsuitable investment for short-term investors.
Property incurs additional costs
Buying a property is not as easy as negotiating a price and transferring money. Real estate operations come with numerous additional costs that make it difficult to make a profit in the short term.
For example, in addition to the purchase price of a home, you will have to pay many additional fees, from title insurance and home inspection fees to property taxes and lender expenses. In general, the final cost of your transaction can be 5% or more than the selling price – and this is before you invest any additional money to change, update or renovate the property. If you plan to sell your property in the future, your final costs are likely to be even higher, as they average between 8% and 10% of the transaction value.
You can’t get a deduction
One of the often touted benefits of buying a basic home is that you can deduct the mortgage interest from your taxes. However, this only applies to taxpayers who list their tax deductions. After the standard deduction almost doubled in 2018, the standard deduction became quite generous, so that in the 2018 tax year, only about 10% of taxpayers made their deductions. In tax year 2020, the standard deduction for applicants is $ 24,800. This means that nowadays you will need a fairly sizable mortgage if you plan to deduct the mortgage interest.
Refunds may be market dependent
While the tide has lifted all boats to some extent in 2020, in most cases, real estate returns are highly market dependent. Remember the old adage about the three most important things in real estate: location, location, location? If you are an investor, this is a pretty accurate statement. This means that you cannot just buy random real estate thinking that “real estate always pays off.” Just as if you are buying stocks, you will need to analyze the property you are about to buy to determine if it has a chance to outperform.
Everything from government policy to weather conditions, demographics, school districts, and crime statistics affects the definition of what is a good real estate investment, and it may take a professional eye to account for all of the relevant elements.
Your highly leveraged purchase
Most people consider home investing to be safe, consistent and reliable, but in reality buying a home is a highly leveraged purchase. The traditional “conservative” recommendation to invest 20% when buying a home means that you are dealing with 80% of the value of the home. If the price of your home drops by 20%, this does not mean that you have lost 20% of your investment, it means that you have lost 100%!
Think of it this way: If you buy a $ 100,000 home and put in $ 20,000, you owe the remaining $ 80,000. If that house drops 20% in value to $ 80,000, you could sell it and pay off your mortgage, but you’ve lost all of your $ 20,000 upfront investment.
Some loans are even more lenient in terms of a down payment. FNMA offers a 3% mortgage option while VA offers a 0% mortgage option. In these cases, you have even more leveraged funds. Indeed, leverage works both ways, and you can get a similar amount if your home gets more expensive. However, many people do not understand how a small amount of money increases their leverage.
Pricing is the best guess
Unlike the stock market, where buyers and sellers actively provide market prices in real time, property pricing is not transparent. While you can use transactions of similar properties in your area, known as “comps,” to estimate the value of your home, the real value is what the buyer will pay for it. This may be completely unknown until you list your home for sale. Internet real estate provider Zillow is often used as a benchmark for home prices, but actual sales can be well above or below the “current market prices” offered by Zillow and other providers. This adds another layer of complexity and complexity to real estate investments.
Investment property requires a lot of work
If you are looking to invest in real estate to generate rental income, you should know that it is not as easy as it might seem. Yes, if you can permanently rent out your property, you can earn more than paying off your mortgage, but the whole process is much more complicated.
First, you need to find a tenant who is willing to pay the rent you need. Once your tenant settles in, you will be on the hook for maintenance, repairs and any complaints your tenant may have that often seems to come in in the middle of the night. If you have a naughty tenant or someone who consistently pays their rent late, you may find getting them out of there is more difficult than you think. Investing in real estate to generate rental income can be profitable, but all the work required means it isn’t for everyone.
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This article first appeared on GOBankingRates.com: 10 reasons to think twice before investing in real estate