Buy & Hold Real Estate is the Ultimate Investment: Here’s Why

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Someone once asked John Jacob Astorthe famous real estate investor and America’s first multi-millionairewhile he was lying on his death bed, if he would do things differently if he could start over.

Astor responded, “Yes. I would have bought every inch of Manhattan.”

While the anecdote may be apocryphal, it highlights what my father and many other investors have said: “Every time I’ve sold a property, I’ve ended up regretting it.”

There are, of course, exceptions, and obviously, this doesn’t apply to flippers. But in general, I firmly believe that buy and hold is the best way yet discovered to become independently wealthy. Indeed, a 2012 Federal Reserve Study found that the average homeowner had a net worth of $174,150, while the average renter had a net worth of but $5,100. And keep in mind that all it takes to be counted as a homeowner is the purchase of one single house. Try multiplying that a few times over and see what happens.

Buy and hold real estate investment has multiple, significant advantages over other investments. These advantages can be summed up with one nifty mnemonic — IDEAL.

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The 5 Advantages of Buy & Hold Real Estate: IDEAL

I – Income

Most investments offer either a consistent return (i.e. annuities) or the potential for equity appreciation (i.e. stocks). Real estate offers both. Good buy and hold investments offer positive cash flow from rents that not only offset the expenses and debt service, but also provide a monthly income. The average annuity only pays out 3.27% per year.

A halfway decent buy and hold investor can beat that any day.

D – Depreciation

Flipping is a great business, but one of the biggest cons is that the tax man always gets theirs. Not so with buy and hold.

Related: 10 Real Estate Markets Where The “Buy and Hold” Strategy Actually Made Sense

The IRS allows you to write off the value of any property over 27.5 years. This depreciation counts as negative income, but it’s only negative on paper since the costs of keeping a property in good condition can be paid for out of the rental income.

Thus, the depreciation “losses” wipe out the positive cash flow from the property and remove any tax obligation. Unfortunately, due to the Tax Reform Act of 1986, only active investors can take advantage of this.

E – Equity Build Up

Real estate is the easiest investment to leverage (more on that later).

With a mortgage, unfortunately, comes the obligation to pay it back. Fortunately, the cash flow mentioned above allows an investor to pay back that mortgage without spending any of their own money. Instead, the tenant pays for it.

Furthermore, each month — assuming you don’t have an interest-only loan — part of the principle is paid off, too. Right off that bat, with a 30-year amortization, about 15 to 25 percent (depending on the interest rate) of each loan payment pays off the principle of the loan and adds to the equity you have in the property.

A – Appreciation

Real estate, like any other asset, can go up or down in value.

Many have been scared off by the crash in 2007. However, a look at the long term history of real estate prices is encouraging. The trend is consistently up. In fact, over the past 40 years, real estate has gone up an average of 4.62% per year. The combination of accelerating equity pay down (with each payment, you pay more principle and less interest), and appreciation means that the investor’s equity in any given property will grow exponentially the longer they hold it.

Some have pointed out that the stock market generally has a better return than real estate. This is true, but deceptive. That’s because real estate is generally leveraged at a rate of four or five to one. Stocks, on the other hand, are rarely leveraged much, especially after the massive losses taken by those “buying on the margin” before the Great Depression.

Which leads us to the next point:

L – Leverage

If you invest $20,000 into the stock market, and it goes up 10 percent, you’ve made $2000. If you invest that same money into real estate, you can buy a $100,000 property with an $80,000 loan. Let’s say it only goes up 5 percent. Well, you’ve made $5000. Or in other words, you’ve made a 25 percent return!

So the fact the stock market has a higher return on average is immaterial since your returns with real estate are based on a much higher amount than your principal investment.

One might think this makes real estate more risky than stocks, but that isn’t so either since, as Zack Finance points out, “Stock prices are typically more volatile than real estate prices.” Indeed, a buy and hold investor who invests right can even make it through major downturns like the recent crisis (which saw stocks drop as much as real estate, by the way) with the positive cash flow from the property. Today, housing prices have even returned to pre-recession levels in many markets.

In the long run, real estate and stocks both go up. So if you can survive the downturns with positive cash flow, you’ll be just fine in the long term.

We’re Going to Need a Longer Mnemonic

There is a theory floating around academia called the “efficient market hypothesis.”

According to Investopedia, “The theory states that is impossible to beat the market because stock market efficiency causes existing share prices to always incorporate and reflect all relevant information.” The theory is highly controversial, and I think the 2007 crash basically refuted it.

Nevertheless, the theory’s problem is that it overstates its case. Namely, the stock market is mostly efficient — not completely efficient. All of the stocks are available to any given investor, and there is a wealth of information on each of these companies that is easily accessible. But as the crash showed, relying on the masses to interpret that information correctly is by no means guaranteed.

Still, the stock market is close to being an efficient market. The real estate market makes no bones about it; it is undeniably an inefficient market. There are no motivated stock sellers out there. If someone wants to sell their stock, they just sell it. Not so with real estate. Selling a house is much more difficult.

Motivated sellers or unrealized value-add opportunities create a wealth of potential bargains for real estate investors that stock market investors could only dream of. The fact that real estate isn’t as liquid as a stock is usually seen as a disadvantage to real estate, but because that makes the real estate market inefficient, it’s actually an advantage.

Related: Top 10 Reasons to Buy and Hold Real Estate

So for example, if a real estate investor buys a property for $100,000 that’s worth $120,000 with $20,000 down and an $80,000 loan, they have already made a 100 percent return. Furthermore, this significantly reduces their risk. After all, if you have a 20 percent equity cushion, the market could fall 20 percent — and you wouldn’t have lost a penny.

Buy and Hold Versus Flipping

This really shouldn’t be phrased as a competition; after all, flipping is a great business, and there is no reason that flipping and holding must be mutually exclusive. Indeed, I think flipping is one of the best ways to raise the money necessary to hold real estate.

That being said, there are several major benefits to holding that should be noted.

The first is the tax advantages listed above. The second is that holding real estate creates passive income, whereas once a flip is done, the income potential of the property has ended. Because of this, holding real estate is more easily scalable. Namely, if you flip 10 houses one year, the next year, you will start with zero. If you hold 10 houses, the next year you start with 10. And as the equity builds in these properties, it will allow you to refinance out and buy more properties, which creates the opportunity of exponential growth.

Conclusion

Holding real estate is the ultimate get-rich-slow scheme. By finding good deals and holding them, investors can create residual income, while also growing their equity exponentially through principle pay down, appreciation and leverage.

In other words, it’s the best investment around.

Do you agree? What’s your investing strategy of choice? Have any counterpoints to offer?

Please — don’t forget to leave a comment below!

About Author

Andrew Syrios is a real estate investor in Kansas City and a partner in Stewardship Properties along with his brother and father. Their company owns just over 500 units in four states.

33 Comments

  1. Good article and I agree with the premise, but I have to disagree with the implication in the intro that buying a house will increase your net worth. In short, correlation does not equal causation. I would suggest that it’s actually the other way around: people who have a higher net worth are more likely to buy rather than rent.

    • Jiri Vetyska

      Not necessarily, maybe people with higher incomes will more likely buy RE then their poorer peers, but that still doesn’t reflect net worth. There is one reason why people who own RE have on average higher net worth – home equity. It is the fact, that as RE appreciate, that money doesn’t show up on your account, it’s out of sight and thus will not get spent. On the other hand renters spent ton of money on rent (30-50%), and whatever is left over spend on food and other stuff. So yes, you can see a solid correlation.

  2. Thanks Andrew,

    Great article. I agree that buy and hold is the best real estate investing strategy, and to me, it’s the only one in the realm of real estate investing.

    What I also explain to my clients is that there are five different ways to make money in the buy, hold, and rent strategy:

    1. Unrealized capital gains. We almost always buy a property below market value to capture equity. After two years we either sell or refinance to use that equity to buy additional properties.

    2. Cash Flow. This is the best in my opinion. An investment is just not an investment without cash coming back into my pocket each month. Cash flow from assets is the only way to achieve financial freedom.

    3. Principal Pay Down. Every month the tenant pays rent (or else they’re outta there) which also covers the mortgage. The return is low in the beginning, but increases each month.

    4. Appreciation. We never count on appreciation, but it’s pretty nice when it occurs. And it usually does.

    5. Tax Advantages. Using leverage (like the financially savvy always do) and depreciation we legally pay little to no taxes.

    I sure do love the real estate game!

  3. Nice article showing the benefits of buy and hold. I want to begin building my portfolio, but I’m concerned about the economy crashing again (some analysts believe it is starting) and renters not paying. Is now a good time to be buying property with a mortgage when this is possible? What are you doing to protect against this? It seems to me the only options are to pay cash and find renters that won’t t lose their jobs (not always easy). How did you fare during the last recession, if you held properties then? I know an experienced investor that almost went bankrupt from it.

    Don

    • Don,

      When following the best product, best price model it’s difficult to lose. This means you have the nicest properties with the best prices. Don’t be greedy. You should also target lower, middle-class properties. These will always be in demand.

      Be sure to also pay attention to the local job market. Seek out local economists and subscribe to their newsletters. If the local job market is on edge, they should be able to give you a heads-up well before the market catches on. If that’s the case, and you’re uncomfortable, by all means sell your properties and ride out the storm. Just be sure to buy again during the next buyer’s market.

  4. Unfortunately buildings get older and deteriorate. Moreover, there is a limit to how long you may depreciate them – 27.5 years. Hence there is no true “hold” stage (is in “infinite hold”) for the “buy-and-hold” strategy. One should always sell within 2-5 years period to maximize the gains and roll these gains via 1031 exchange to the bigger property. Repeat until the latest property is relatively new (can easily outlive the owner) and have so much of cash flow so that grandchildren may feed off of it. BTW, these grandchildren will inherit the property on the step-up basis and start depreciating it again while still paying no capital gain taxes. Hopefully they will be able to repeat the cycle.

      • Denny,

        It really depends on your building’s financials. If you have big gains there and some cashflow you may want to sell that building and buy another one that has a value-add opportunity and would produce bigger cashflow when stabilized. If you just sell and buy, the capital gains on your sell will be taxed as long term gains. However, with 1031 exchange you can roll your gains into a new investment while deferring taxes. This allows you to have larger downpayment (by the amount of taxes that you don’t have to pay) and thus buy a larger apartment complex. That’s it in a nut shell.

        Nick

  5. Brooks Rembert on

    Awesome article. My wife and I became reluctant landlords several years ago, but have recently decided that it really is a great way to help supplement a military retirement. We decided to jump in with both feet and are in the process of ratifying the contract on our first rental home.

    I’ve always dreamed of stock market riches, but real estate, I’m now convinced, is really the way to go.

  6. Like any market participant, private-equity and hedge funds can be as wrong as anybody, but these “professional” property acquirors generally, with some exceptions, hold properties for 5-10 years, before the long disposition process starts over the following five years – to still have room for depreciation allowances – short of 27.5 years, remain in high appreciation phases without addressing obsolescence in waning years, keep cash-flow buzzing before the inevitable neighborhood decline, reposition their holdings closer to the current path of progress, and optimize their portfolio’s equity for timely 1031 (and implicitly IRC 1021 exchanges for SFRs and 1-4s) exchanges for investment properties. This was an outrageously clear exposition of the “buy-and-hold” strategy for us. Thanks!

  7. I started as Buy and hold, bought them in bad shape , renovated and rented out.
    When I started with ambitions of growing my business as investor, I did refinancing and became frustrated with the appraisals.
    One of the appraisals was so absurd that I just wanted to sell right away. Bought the building for 665K, the bank said the building was unlivable. I spent more than 130K, did refinancing a year later, and the value came at 715K, 50K more after having done 4 new kitchens and 4 new bathrooms, new plumbing and new electrical. I mean, it was unlivable before and now with all brand new was only worth 50K more.

    6 months later I put it for sale without doing any extra work, and it sold for 900K and appraised for the sale price by the buyers bank. I mean, the appraiser was wrong by just 200K, only 200K wrong…
    I only had 200K stuck in equity… plus the other 20% equity I had before

    Now I am selling everything and buying double the properties, double the value, I will be able to double the cash flow.

    I will only do buy and Hold if I cannot get appreciation or added value from the purchase.
    This is actually the advice From an author and investor in apartment buildings/real estate.

    Buy low, rehab/improve effiencies, sell.

    I am turning now into a flipper since refinancing makes no sense.

    Filipe

  8. 7% of the worlds 2000 plus billionaires baked their cakes in real estate – and none of them were flippers. I just read Ken Fishers’ (another billionaire) book, the Ten Roads to Riches and in it, he absolutely poo poos flipping.

  9. “And then there was a real estate analyst/investor who drowned in a stream that had an average depth of only 2 inches.”

    Andrew, obviously you are a real estate investor who has experienced success in your investment selections but I feel compelled to point out some of your errors.

    Since you started by quoting Astor who knew how to invest with hindsight, any stock investor can do the same. If a few people knew that Microsoft and Apple and Intel and Berkshire Hathaway etc (ad nauseum) would do so well, they would have bought the stock. A few really bright investors would have also shorted Enron and Worldcom. Hindsight investing makes everyone a billionaire.

    You point out the low payout of annuities (on average 3.27% per YEAR – the average problem alluded to above). You then state that “a halfway decent buy and hold investor can beat that any day.” Does buy and hold investing come with a guarantee that no matter what happens in the economy with interest rates and fluctuating stock markets and real estate gyrations, recessions and slowdowns that year in and year out the buy and hold investor has a guaranteed check? Annuities do come with that guarantee. Yes insurance companies (annuity issuers) do go bankrupt but their are back up guarantors in place that continue the annuity payouts. Does real estate have these back up guarantors?

    Very little equity accumulates in the early years of a 30 year amortization mortgage. Create an amortization spreadsheet and check the numbers.

    Leverage is a two-edged blade. While yes, small *increases* in the value of a highly leveraged asset can produce extraordinary returns — small *decreases* in the value of that same highly leveraged asset will generate extraordinary losses and can wipe out the investor’s (borrower’s) equity and have the lender knocking on the door with foreclosure papers. (See Detroit … and lots of other places at different times)

    The major reason that stocks and most other financial assets show higher volatility is that they are priced and traded every day, every hour, every minute and every second … even 24 hours in regards to some financial instruments that are traded globally. Is the house that you own as an investment priced AND TRADED every day? NO. At best real estate assets are appraised (but not traded) a few times per year (if the asset is up for sale).

    If you think that the property that you own will decline in value significantly over the next year along with all of the homes in the same area, can you do anything to protect your investment TODAY? NO. With many financial instruments, an investor can buy a put option that works like an insurance policy. If the value of the financial instrument declines, the value of the put option increases. Many financial instruments can also be shorted.

    And of course, financial instruments also provided a MAJOR advantage over real estate – Liquidity … the ability to sell (or buy) (or sell then repurchase) the financial instrument with just a phone call or a few mouse clicks AND have the proceeds from that sale available in an instant.

    In short, there are differences between real estate investments and financial investments. Making comparisons between the two asset classes should contain disclaimers of the limitations of the comparisons.

    • I don’t agree, No one could guess Enron would be faking the accounting.
      Just now a bank in Portugal went bankbrupt and everyone was surprised, no one could have guessed they were faking the accounting.

      Yes, you can earn tons in stocks, but only as a CEO or a big stock owner where you will have control on the destiny of the company, Or you play the game of luck ,perception, emotions, short term policies,etc…

      RE is more assuring although still not 100%
      As of now I can invest in RE and be almost 100% sure I am not going to lose money if I study the same way as you would study a company. WIth stocks, it;s very difficult since you are not the one that decides the destiny of the company.

      In RE even in a recession you can invest in a way where you will not lose money, invest for cash flow and avoid certain neighboorhoods.
      In RE you can also feel things changing and you have time to react, when rents drop, when economy goes bad, it takes months to really get bad, untl then you can still take action, with stocks, you wake up, the company you bough already closed.

      Anyway, in the end what best works is what it makes sense for you.
      Can you understand and get 50% returns with stocks, great, good for you. I understand RE and can get 50% retuns, so I invest in RE. I don’t understand stocks, they go up and up according to peoples feelings , not according to reality

      • Rusty Thompson on

        Filipe. You are stating things as absolutes that aren’t true.
        The value of Real Estate has as much to do with emotions as the stock market. See the run up that created the RE crash. No matter what was happening in the lending market, people didn’t have to buy the houses. Society told them it was a good idea no matter the reality. The same holds true for Stocks.
        Your ability to truly see what the market is doing is a lot harder than people think. Most will see facts that support their preconceived biases, not the other way around.
        At the end of the day, investing in both is risky & their are ways to hedge your bets in each. A well rounded investment strategy spreads the risk across multiple asset classes. If you don’t you might end up like the owners left holding the bag in places like Detroit.

        • Yes, you are correct, RE can also be emotional, but at least you are not going to see the UPS and downs every single day you see in stocks.
          In Re you can also take a less emotional strategy by investing in apartment buildings. I do not consider single family houses a safe investment , less cash flow, more affected by market emotions, crashes.

          in RE You will see a constant climb to nowhere that will sooner poor later crash, which in my opinion can give you time to Analyze and hopefully make good decisions.
          Spreading the risk through different asset classes is a double edge sword, several authors already proved that. I think that strategy is best for people that don’t know well what they are betting on.

          I know my market very well, I know it so well that I feel people are becoming too greedy, so I am selling and moving to another town.
          I feel i should not invest on a different industry or move to another far away market, I know I would not do as well because I don’t know it well. I get gains of +30% annually, I will never get that on something I don’t know unless I am a lucky speculator.

          If you were a resident investor of Detroit you could have done what so many residents did: move away for better pastures. Detroit fallout took decades to happen, which gave people time to sell and move.

          I feel the level of knowledge to succeed in stocks has to be higher than the one to succeed in RE.
          Personal opinion.

      • Filipe, I STRONGLY encourage you to read The Big Short by Michael Lewis. Mr. Lewis reports on several people who predicted the major economic downturn that occurred in 2007-2008. These few people shorted the mortgage market in various ways. Their predictions were based on the information that they had in regards to what the major players were doing in the subprime mortgage industry. They made small and large fortunes from their investments and only a few were insiders. Indeed, some of the insiders LOST small and large fortunes. Some insiders went to prison.

        Some people predicted that something was amiss at Enron and shorted that stock … and made money. They were not insiders.

        You state: “In RE you can also feel things changing and you have time to react, when rents drop, when economy goes bad, it takes months to really get bad, until then you can still take action” When things start going bad, do you think you are the only one who knows it and that you can sell your properties to an unsuspecting buyer? Or will that buyer lower his/her bids to the point where you incur a loss?

        You touch on another aspect which persuades people into real estate ownership versus owning stocks – CONTROL. Yes, with stocks a shareholder only owns a fraction of the company. With real estate, the investor owns 100% unless he she works with a partner or two. The 100% investor enjoys all of the profits and incurs all of the losses. If the RE investor buys the next property with “The Occupants from Hell” (See long thread started by Will Barnard – an experienced investor), that investor gets to deal with the problems all alone and worse …. still has to make good on the promises made to his/her creditor (mortgage holder).

        If you read the thread about Barnard’s experiences, ask yourself, if that was your property, would you have abandoned your efforts on that one after one year? What if that was your first property, would you still be in the real estate business?
        It all comes down to what drives you and what expertise you have.

        If you indeed can make 50% consistently, every year, please share your magic formula.

        • Many more people should have shorted the RE market in 2007/2008, the responsible the that craziness was Wall Street because they were not happy that the RE market was not liquid enough that they could play with, so they started packaging mortages and selling to anyone, so banks did not give a s$%s who was buying a house, the mortgages would be sold to someone millions of miles away.

          Yes, there was one guy shortselling Enron, one guy, why didnt people runaway the next day? perhaps because they could not get complete proof of the allegations…
          No heard of anyone shortselling the portuguese Bank BES…
          Who shortselled on the RE crisis are now shortselling on US economy and Canadian RE for years, and selling millions of books, until now nothing happened, well maybe if we wait 10 more years they will be right…

          Yes, if you get a tenant from hell you will fill you want to throw the towel and sell all properties and give up on RE, same I heard from many people that invested in stocks , even people that invested in the 60s/70s/80s and lost everything on the stock market, they do not want to hear about stocks anymore.
          PS: I do not advise anyone to deal with a property alone. Hire a good reputable property manager that will deal with the headaches and include that cost on your returns. Managing RE can be very stressful.

          I am not saying I get 50% consistently, I hear some people they get 50% on stocks, once and awhile,I can get that once awhile too.
          I can get 35% consistently if you include appreciation using 20% down payment, and around 20% consistently if there is no appreciation. In the Last 6 months is becoming harder and harder to get those returns due to crazy high RE prices.

          Magic Formula: look for properties that can generate 20% cash on cash after rehab, with 20% down. Nee maximum 20% of the purchase value for rehab , and stick with those numbers , do not buy the first you see, wait 8 months if you need to. Study the neighboorhood, talk with someone that knows the area, choose an area that is impoving etc… etc… Not, it’s not easy, it requires patience an quick decision making when something really good shows up.

          I would love too that somone that invests in stocks to teach me how to get returns higher than 20%, guaranteed.

    • probably the most sensible reply i have read so far. the author points out all the good points but did not talk about the perils of margin call on the property when the value falls.

  10. Whether we land-bank and build-new, rehab, or flip depends entirely upon the immediate circumstances of the deal. No “magic bullet” tells us that flipping is always bad – just requires higher potential margins to make a flip feasible. Our private equity source has to be low enough to make the numbers work. As we know, that is hard to do with a straight flip. Rehab can be touchy too – with the added risk of going over rehab budget. Somewhere in between an immediate flip and keeping old assets well-beyond their useful life is the “sweet-spot” holding period, which also can vary based on the site market cycle and the current physical condition of the property or financial condition of the owner.

  11. Frankie Woods

    Absolutely loved this article, and I agree with you on every point. Buy and Hold rules! I say that even as an active stock investor. I like to stay as diversified as possible, but what a great example as too why B&H is a great formula!

  12. i find it strange why the author decides to compare against an annuity amongst all the wealth building vehicle.leverage here is put as a great advantage and yes when the market goes with u its good, but when it goes against you would you need to top up the loan covernant?

    i wonder if you are buying and holding, you should be measuring a leverage performance of 25% gain on your equity, since you should be looking as if you held 100% equity if you are looking to buy and hold. in that case, your yield returns depending on regions should pale in comparison to equity.

    research that i see of the US residential prices seem to indicate the real estate prices keeping in line with inflation, and not making much real returns.

    • Brent Seehusen

      Mortgages in the US don’t require “topping up” the loan covenant when prices decline. That is why leverage in real estate is touted as an advantage, but leverage in stocks is considered too risky by most investors.

  13. Nan Wilson

    So glad I read this today. Been thinking about selling an investment property because we are just covering expenses with the rental income. But we got the house, owner financed at $20,000 less than appraisal. We do have to get a conventional mortgage by October of 2018. Because of your article I realize that we’ll be able to leverage the equity in the house at some point and purchase more. Thanks.

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