PRIVATE MORTGAGE LOANS VS OWNING REAL ESTATE

Private mortgage lending can provide a very high return, but no chance for appreciation and no inflation protection.

Owning income properties will provide a smaller amount of current income, but provide inflation protection, capital appreciation potential and sometimes the possibility for outsized gains.

Ownership of real estate can also be leveraged, allowing for the arbitrage between cap rate and interest paid known as mortgage reduction.

For the experienced, knowledgable investor, I recommend splitting your portfolio equally between the two.

Also, IMO, hard money lending requires greater knowledge and has more risk. A good property has to be purchased only once, it can than be held for 30 years throwing off increasing cash flow via rising rents, and appreciating in value. Most HMLs are for 6 months or one year, a new investment must be found, and each new loan carries the risk of a bad investment, however small. So in owning a good property 30 years you have a one time investment risk. 30 years of making a hard money loan turning over twice a year will be making 60 loans, with a fairly high risk that some of them will be bad.

Further, owning real estate you decide when and if to sell; making loans the borrower may pay you off at the most inopportune times. Further, in lending the good loans tend to pay off, the bad ones are hard to collect.

The amount of cash needed to begin a loan portfolio varies with the risk the investor is wiling to incurr and the knowledge and experience of the investor. Obviously, a small amount to invest may mean having a portfolio of a single loan, this is more risky than having more money invested and a diversified portfolio of 20 loans.

The mostly passive investor can achieve a return of 12-14% annually in private lending, the more active investor 16 -20%.

Direct property investment may have current yield of 8-10% for the passive investor, 10-12% for the more active investor. However, this does not take into account price appreciation which historically on commercial property has averaged 5 - 6 % over the last half century. Further, the arbitrage between the cap rate earned and the interest rate paid will enhance the cash on cash return. Part of your income in direct real estate investment will be tax deferred and ultimately taxed at the lower capital gains rate.