If you’re relatively new to retirement planning, you may assume that a diversified investment portfolio only requires a mix of stocks and bonds held in a 401(k), IRA, and/or personal holdings.
However, investing in real estate can minimize the impact of market volatility on your total portfolio while providing passive cash flow.
Adding real estate holdings to your portfolio can be a low-risk investment that begins earning for you now as well as when it’s time to liquidate.
Owning investment properties can provide steady income with relatively low risk. You can sell when prices are high or liquidate when you retire.
There’s also inflation to consider. Investors who are seeking a reliable hedge against inflation often opt to add real estate to their portfolios for two reasons:
- Its limited supply and consistent demand often drive property values higher during inflationary periods.
- Investors who buy rental properties will benefit from a steady cash flow of rent payments from their tenants. Since inflation drives prices higher, rent rates can increase, too.
Another benefit is that adding real estate to your portfolio gives you the freedom to exchange some low-risk stocks for higher-risk items. This may help you reach your retirement goals faster.
Options for Adding Real Estate to a Portfolio
Since commercial real estate (CRE) investments are often out of reach for individual investors, we’ll focus on residential real estate, guiding you through the acquisition and management basics.
Let’s begin by taking a closer look at the two real estate strategies popular with investors building a retirement portfolio.
First, we’ll look at converting a starter home into a rental property.
First Home, First Investment
One attractive feature of real estate investing is that it coincides with a common goal: buying a first or “starter” home. This is because you’ll build equity from the day you move in.
Real estate or home equity is defined as the amount that’s been repaid on a mortgage plus any appreciation in value. Your equity can grow quickly when property prices are rising.
For example, if you purchase a home valued at $325,000 and make a $25,000 down payment, your investment will have $25,000 equity from move-in. If this home is re-appraised two years later for $375,000, that adds $50,000 to your equity.
If you’re comfortable in your current home, you have another option: purchasing a second property to rent. Your tenants’ rent payments can cover this property’s loan payments.
Acquiring Additional Real Estate
While investment benefits are similar, the guidelines for taking on a second mortgage will be more stringent.
This option is suitable for homeowners who have sufficient assets to purchase a second property without the need to sell their existing home. Financing options may be limited as lenders generally require more available cash and a higher credit score.
No matter which option you choose, your responsibilities as a landlord are similar.
From Owner to Landlord
While managing a rental property has its own challenges, it has two major benefits: improving your current cash flow and increasing your savings when you’re ready to liquidate.
While some investors enjoy interviewing their tenants and carrying out repairs themselves, others opt for hiring a property manager who collects a set fee.
Your next step: finding financing for your next home, whether you plan to make it your primary residence or rent it.
Transitioning to a New Home
Depending on your assets and credit score, you may qualify for more than one home loan. While you can use savings to cover your down payment, you may be able to utilize your future rental property for these two options.
- A cash-out refinance for your existing home.
- A home equity loan or line of credit (also known as HELOC).
If you’re adding to your portfolio without moving from your current home, your financing guidelines will be different. Here are the details.
Financing a Separate Investment
While you may qualify for more than one mortgage, guidelines may differ. For example, some loans will only finance a primary residence.
If you’re buying a rental property, you may also need to prove you have cash in reserve to cover several mortgage payments during the times when the property is not rented.
When you’re ready to secure financing for your new home, you’ll want to seek out a knowledgeable lender that offers a full array of mortgage programs. Arnaiz Mortgage could be one such lender for your specific situation, but be sure to research thoroughly and conduct due diligence before committing.
Making Smart Investments
While careful real estate investors can enjoy financial and other rewards, there are still a few risks to consider.
Hiring one or more pros to inspect properties, screen tenants, and check every contract and lease document before you commit is crucial to a solid purchase and, ultimately, a solid investment portfolio.