Making an Investment: Real Estate vs Stocks

I know I am very biased. I am in LOVE with real estate and as my hubby will tell you– it’s my addiction.

During the Recession we all heard and saw the impact of the failing Real Estate Market. I know I felt like it was the media’s favorite subject. The number of short sales and foreclosures were reported over and over again and there were tons of articles about people losing their homes. Even today, there are still tons of articles about how millennials can’t afford to buy houses (which you all know I totally disagree with).

Heck, the real estate market is the reason why we are have a $400,000 net worth! I can tell you outright that it certainly wasn’t because of the stock market. I tried that and while everyone was doing amazing, lets just say my mutual funds went down in value.

As a transparent landlord, I will openly tell you that it is very important to buy the right types of homes. I talk about this in depth in my post, The 7 “Dating” Building Blocks of a Great Investment Relationship.

Here’s the thing though, no one remembers that the stock market also experienced a HUGE loss and lots of people lost tons of money. The stock market is as crazy as the real estate market and most people don’t realize that. So let’s compare the owning of real estate as a landlord versus investing in stock.

Author’s Note: For the ease of discussion we are focusing on just stocks (not put options, bonds, etc) versus rentals in real estate (not wholesaling, flips, etc).

The Benefits of Real Estate:

• Leverage. If you buy a house to live in, you can put 0-5% down. If you buy a house as a rental you have to put 20-25% down. With stock you have to pay the whole 100% unless your buy put options.

• Tax Benefits. The IRS has great tax benefits for both personal home ownership and rental ownership. This is great because it allows you to shelter a lot of your rental home profits legally. This is something that you cannot do with stocks.

• Transfer of One Asset to Another, Tax Free. A 1031 Exchange allows you to sell one house and turn it into another house without paying taxes. While there are lots of strings and red tape attached, it is a great way to grow your money in houses before you have to pay taxes. On the other hand, if you want to move money from one type of stock to another,  you have to pay tax on the earnings from the sale of the first even if you buy another stock.

• Capital Gains. The IRS has a great exemption for capital gains right now: $250,000 for singles and $500,000 for a married couple. While with every great tax deal there is always red tape, this is a huge bonus. After living in a personal residence for two out of five years or two out of ten years for military, you don’t have to pay gains. These protections don’t exist in the stock market. The only way you can capitalize on not paying gains is with a ROTH account. If you have a ROTH account you can pay tax on the money before you invest.

• Depreciation. The IRS allows you to depreciate real estate, but not for stocks.

The Benefits of Stocks:

• Don’t Have To Deal With Tenants. Real estate is all about tenant management. Even if you hire a property manager there will always be discussions and responsibilities. With stock, you purchase it and then have no other work other then at tax time or when you have to access it to sell.

• No Large Debt Outlay. When you buy a house depending on how much you put down for downpayment (we strive for 0% but pure rentals require 15-25%), rental houses can require a large debt amount. On the other hand, traditional stocks and mutual funds are simply the amount that you put into them, nothing else. This way, there is nothing else you could lose from investing in them.

• No Capital Costs When Things Break. Nothing breaks with stocks so there are no sudden capital outlays. Stocks can stop receiving their dividend checks when something unexpected comes up, but they won’t have to pay anything to the company.

• No Liability. Owning rentals has liability. That is why we have umbrella insurance and a very tight lease. When it comes to stocks, other then the money you put into the stock, there is no liability.

• Can’t Lose Money. With stocks you can’t lose more than the amount you put into the stock. Since you leverage real estate, it will have to come out of pocket to cover costs if your asset is not doing as well as predicted.

The Benefits Both Offer:

• Resets Upon Death. When you die, both stocks and houses reset based on their value. This means when they are passed on to your kids they won’t have to pay taxes on the value when you paid for the asset on their current cost.

• Dividends and Cash Flow. Both stocks and real estate have the possibility to earn returns. Real estate its called cash flow and in the stock market it is called dividends.

• Appreciation. Both Stocks and Real Estate can appreciate with the markets.

• Loss. Both stocks and real estate can lose value based on the markets.

Personal and Rental homes are both an investment choice for us. They are very much the same as investing in stocks and TSP.

It is always important to look at the exit plan and how it works for your family. There is no one way that works for everyone. We have friends that have done amazing with stocks and others like ourself have done amazing with rentals. The key is to know that both sides have positives and negatives and that you need to evaluate what’s best for you. No matter what you decide it is important to know that you shouldn’t put all your eggs in one basket.

What do you think? Do you prefer real estate or stocks?