Is Now the Right Time to Buy Real Estate?
Many people are asking me as to whether now is the right time to buy real estate or not. On one hand, there are many investors who believe that it’s best to wait on buying real estate now due to the uncertainty of the economy. The COVID-19 pandemic has decimated many businesses, with massive unemployment numbers and unprecedented business closures. While there is some widespread opening of the economy, nobody is confident that we’ll be able to get back to the low unemployment levels the country was at prior to the pandemic.
On the other hand, there are many sponsors and passive investors who believe that now is a good time to purchase real estate. I’m a big proponent of this school of thought, as I believe that there are still deals to be made, especially in the multifamily property arena. While there might not be as many deals as there was pre-COVID-19, due to the misalignment between buyers’ and sellers’ expectations, there are many potentially lucrative deals out there. This misalignment is based on the buyers’ expectations that it’s a depressed market due to the pandemic, so prices should be much lower. The sellers’, on the other hand, feel it’s a sellers’ market because of reduced inventory, and are holding fast on prices.
Just to shed light on my approach to purchasing properties, as a former lawyer, I’m conservative in nature. When I look at deals, I’m always looking out for any potential negatives, as well as ways to mitigate the impact of those negatives on any deal. That’s part of my training as a lawyer and it’s how I approach all of my real estate investments. My conservative approach has paid off, as our properties are doing quite well despite the COVID-19 pandemic.
Multifamily Properties are Still Performing Well
Multifamily properties are still performing well for investors despite the fact that we’re in a global pandemic. When COVID-19 hit, there was an initial decline in rent collections, but the decline wasn’t that significant. The media played a role in stoking panic with investors, capitalizing on the fact that so many people were filing for unemployment and would most likely stop paying their rent. But the reality was that occupancy and collections remained steady, with anywhere from 92% to 95% of tenants paying on time.
Low Likelihood to Lose Your Investment if You Buy Multifamily
When investing in stocks, your entire investment could be wiped out due the volatility of the market as a result of the fallout from the pandemic. A $100,000 investment can turn into $40,000 almost overnight. Real Estate is different; it takes a very extreme situation to actually lose money there, for example, if your building is 30% vacant. In a 100-unit apartment building, that’s 30 units. Even during COVID it’s not likely to happen. While some investors might not realize the full projected returns on a particular property, earning 5% instead of 7% for example, is still a better result compared to the stock market’s volatility.
Before You Invest: Examine the Property’s Performance
Taking a closer look at the property’s performance pre-COVID-19 and its performance during COVID-19 will give you a pretty good idea of how the property will perform once the pandemic is over. If you find that a property was struggling between this past March and June, with collections down significantly, you need to look at the reasons why there was a problem.
The struggle could be a result of poor management, the property’s location, rent competition in the market, or a multitude of other reasons. If you’re able to identify the issue, you may find that the deal is still worth pursuing because the problem may be one that is easily correctable. If the problem is in fact due to COVID-19, you need to take steps to mitigate that problem.
Looking forward, you need to examine what else could impact the property. As I previously mentioned, I’m always looking at what else could go wrong. It’s the lawyer in me, and it’s just the way I work and think. For example, what if the unemployment benefits end? How will that impact the rent collections at a particular property? Unemployment is down, from a high near 30% to about 14%, but the vote on whether or not to keep the government subsidy in place hasn’t happened yet.
Other things to Consider When Investing in Real Estate
Regardless of the pandemic or other factors impacting the real estate market, there are many reasons why a real estate investment is smart. There are many financial benefits with real estate that are not available with any other investment, which makes buying real estate a good move at almost any time.
First, there’s income. People make money by investing in real estate, and they do it in different ways: first, there’s appreciation. The property will generally increase in value over time. You also get cash flow – real estate provides investors with a monthly recurring cash flow from rents. There’s also mortgage reduction; the mortgage is paid down by tenants which increases your equity in the property.
While those are all positive reasons to invest in multifamily properties, there’s also a big tax benefit – thanks to depreciation. The IRS has very favorable laws for both sponsors and passive investors when it comes to real estate, especially when it comes to depreciation. Depreciation on real estate is based on a 27.5-year lifespan. That means you have 27.5 years to depreciate the property, but there are ways to accelerate that depreciation.
One way is through cost segregation, which allows you to increase cash flow by accelerating depreciation deductions while deferring federal and state taxes. When you purchase a property, there are many interior and exterior components that are separate from the actual structure. By conducting a Cost Segregation study, you can identify property related costs that can be depreciated over 5, 7 and 15 years. Accelerated depreciation tax deductions will provide an immediate increase in cash flow and identifies which leasehold improvements or components can be written off whenever they’re replaced or renovated. It’s like having depreciation on steroids.
Taxes are another good reason to invest in real estate. For example, let’s say that you have profits of $50,000 on your property. In addition, your share of depreciation is $30,000 and you have another $30,000 in expenses. That means you’ll end up with a loss of $10,000 on paper, so you’ll end up paying no tax on your property’s income.
The real estate tax laws allow you to deduct losses against other taxable income as well. In our case, for every $100,000 invested our investors were able to claim $75,000 in losses, which could be used to offset other income regardless of where that income came from. This is another really good reason to purchase real estate now, regardless of the pandemic, because there aren’t any other investments that provide you with those type of tax benefits.
Another benefit of real estate investing is the 1031 exchange, which lets you avoid paying capital gains taxes when you sell your investment property and reinvest the proceeds in a property of a like kind and of equal or greater value. One key requirement though is that you have to identify the replacement property or properties within 45 days, and the exchange must be completed within 180 days (inclusive of the 45 days).
Always Take a Conservative Approach
When it comes to investing in multifamily properties, taking a conservative approach is the right way to go. It’s not only because it’s my philosophy, it’s because you can’t assume positives when it comes to property. For example, you can’t assume that coming out of the pandemic will mitigate all existing problems and that all will be good. It’s just not possible.
Some sponsors and investors feel you can increase rents indefinitely, but it won’t happen. It can be an assumption coming out of a recession, but a conservative approach says it simply won’t happen. There are solid strategies to do value-add renovations to properties and increase rents, but you have to realize that they won’t go on indefinitely.
While some people believe that now is not the right time to purchase multifamily real estate due to the pandemic, others feel that it is still a good time to buy. There are many reasons I agree, including the fact that multifamily properties are still performing well. Occupancy rates are up, and even though collections dropped a bit, the decline wasn’t significant. Before investing, be sure to vet the sponsor. Ask pertinent questions and explore the sponsor’s performance both pre-COVID-19 and during the pandemic. A look at the performance during the pandemic will provide a good idea of how the property will perform post-COVID-19. Look at the key reasons people invest in real estate, including income, depreciation and tax advantages. You’ll find that they provide a good case for investing at any time, including during a pandemic. Finally, take a conservative approach to your investments, as that will pay off in the long-term.
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About the Author
Ellie is the founder of Blue Lake Capital, a real estate company specialized in multifamily investing throughout the United States. At Blue Lake Capital, Ellie helps investors grow their wealth and achieve double-digit returns by investing alongside her in exclusive multifamily deals they usually don't have access to.
Ellie is the host of REady2Scale , a podcast that focuses on the "APS" of real estate: Asset, Process, and Strategy. Each episode discusses how investors can scale their real estate portfolio and/or businesses.
She started her career as a commercial real estate lawyer, leading real estate transactions for one of Israel’s leading development companies. Later, as a property manager for Israel’s largest energy company, she oversaw properties worth over $100MM. Additionally, Ellie is an experienced entrepreneur who helped build and scale companies by improving their business operations.
Ellie holds a Masters in Law from Bar-Ilan University in Israel and an MBA from MIT Sloan School of Management.