Real Estate: Random Thoughts



You need more than one house 

Many say that their house is their biggest and best investment. They bought it 20 years ago for 10 cents, now it is worth a million dollars. They are happy that their home is worth so much, and this makes them feel financially secure.



They've made nothing. Everyone needs a place to live. If they sell that house, they must replace it with another. If they want to maintain their standard of living, they would have to buy another that appreciated at about the same rate, unless they go into a different market. What they perceive to be growth is just inflation. Sure, some properties will grow better and faster than others, but still, the purpose of the house is to use it as a residence, it is not an investment until they make one with it.

If you have two or more houses, you have flexibility. You can sell into a high market, keep the profit after taxes, and wait to buy another - or not. A single residence is not an investment, it is a place to live.

An investment property can be sold installment sale and so turn that house into a 30 year pension that will not be as highly taxable as most other income.

You can exchange the house for another (assuming it is business property), and maybe later convert it to what you really want, and sell your primary residence and keep all the cash.

So, in order to make money in real estate, you need more than one.



I don't like it in the conventional way people market it.

If you make money, the taxes are too high. The tax on a flip is taxed at ordinary income tax rates, which is much higher than capital gains. Worse if you have to pay social security tax too, and you will if your other active earnings are not already over the maximum.

This is not to suggest that shorter term sales can not be profitable. Consider buying that neglected house in a good neighborhood, fixing it up and renting it for a few years. The rents will pay you back for much if not all of your additional investment, and when you sell it is now it receives mostly capital gain treatment.

A flip can be dangerous. You must depend on the market remaining stable or increasing, a declining market will spell doom - but it doesn't for a rental. So buy that dilapidated house, fix it, and rent it - then later - sell or exchange it. Can't exchange a flip.

If you don't believe you can get enough rent to carry the house for a few years - don't buy it.



You can change a house, but you can't change a neighborhood. If you buy a bad house in a bad neighborhood, you can't make it worth much. If you buy a bad house in a good neighborhood, you can not only increase your value much easier, but your neighbor's values will increase too and they will love you for it.

Buy the worst house in a good neighborhood, that is where the potential lies.



When refinancing, interest rate is very important, naturally, and if it works for you, great. BUT plan your mortgage to expire in a certain number of years. It should have a scheduled pay off date to coincide with your retirement planning.

If we have a 30 year loan and are six years into it, then there are 24 years left. We shouldn't get involved with a loan of greater duration than that term remaining. Continually refinancing for 30 years makes retirement all the more difficult. Retirement planning is a simple matter of basic mathematics. We calculate income and expenses. If we have enough income to cover expenses, we're good. If expenses include a mortgage payment, it makes it a lot harder to generate the income to cover it.

I would go so far as to say that if the best you can do for your home is a 30 year loan, it will be done at age 60 if it began at 30. What if you move to a new house? Simple. Don't accept any mortgage that would increase that term. If you move in 10 years, no more than a 20 year loan. If you move again in 6 years, no longer than 14 years. You don't want to retire with 20 years left to pay on your house.

Managing a mortgage is very important, it is a big part of your retirement plan, maybe more important than your 401(k). Managing the mortgage does not always mean refinancing - often it means regularly scheduled overpayments.



This articles on my web site are by no means all there is to real estate. Many books have been written, thousands of pages of tax code to interpret. I hoped to have selected a few topics and peaked your interest just a bit and hope that you believe you did not waste your time.


Thank you for reading and may your tax liability be light - 


Christopher M. Barra, MS, EA

Barra Tax Service

Pensacola and Milton, Florida