Why Buy Real Estate Now?

The LRC Client Theory…

We ask our clients that choose the present as the proper time to buy, why they feel comfortable doing so.  So far, they have consistently responded with the following ideology.

Future Inflation:

Inflation increases the value of assets across the board…especially real estate.  As the inflationary actions that the Fed has thrust into place begin to work, the markets will bottom, inflation will ensue, and real estate values will increase.  Also, although mortgages in theory could also go higher, the underlying assets are worth more, and although credit is tighter, 30 year mortgage rates continue to be historically very low.  It may take some time to see this occur, however, those buying now do not have a very short expected time frame…they are not short term real estate “flippers.”  Also, since most purchases are pre-construction it takes about 18-24 months for the property to be delivered anyway, giving the cycle some time to form a bottom and for outlook on real estate in general, and especially the finest real estate to change.  

Real but Delayed Demand:

Buyers that are acting today believe that demand trends are real, and that they have just been delayed.  Buyers believe and it has been documented by many censuses and third party studies that for example, in the next ten years over six (6) million Americans and Canadians will acquire second home/ investment real estate in Mexico.  Similar demand projections exist for millions of Americans, Canadians, and Europeans to acquire second and investment homes in the Caribbean, and most desired Latin American countries.  If the demand is real, and delayed by fear, credit restrictions, and an economic downturn, it is critical to notice and move before it is restored.  For once the cycle turns positive, pent up demand will flourish, the herd will be back, and prices will be going higher once again.  Many buyers choose to engage and position before this move so that they can maximize their long term rate of return and real estate capital appreciation.

Supply of the Finest Real Estate is Finite

Although there seems to be an infinite supply of repeatable primary residential housing available, the same is not true for five star, new construction resort real estate, located in the world’s finest locales.  Real estate project cancellations, and delays make the best and approved projects that are moving forward even more unique, rare, desired, and less risky now and in the future.  The best projects that are moving forward no longer have to compete with lesser competent real estate ventures, and many benefit from the lack of new originating projects. 

The projects getting built and selling consistently will also benefit because the right real estate will not be just another development, and will not have to be concerned with over-crowding in a particular area.  These projects will become the most desired addresses and will help define the communities in which they reside.  They will be the hubs of their locales and once credit again becomes available, resort real estate developers will get back in the game to satisfy all of the pent up demand, but they will do so around and behind the leading, delivered communities.

Purpose/Timeline:

The buyers investing their hard earned capital into the finest pre-construction real estate opportunities globally right now ARE NOT the storied flippers using leverage to pick up as many $200k condo’s as possible and hoping for a quick buck upon delivery.  That type of irresponsible speculator has been washed out of the marketplace and can no longer use the leverage model with no capital to finance and flip their way to riches. 

Present buyers have very strong cash positions and are looking to invest their capital with at least a several year timeframe.  In many cases he/she is looking to enjoy some of their time at the residence once it is delivered and is happy to be patient.  Also, since most pre-construction real estate takes about 18-24 months from ground break to delivery, buyers are able to invest their capital at ground level pricing now and can wait for the market to correct and the cycle to turn before they ever even have to commit their final payments and take ownership of the property. 

In a couple of years, the cycle should turn and reward the patient buyer with a significant appreciation premium in the face of much pent up demand pushing prices higher.  In the end, sophisticated buyers will be in the desired position of choosing to sell for a significant profit or holding on for awhile to enjoy their luxury second home property. 

Summary:

Increased inflation causes increases in asset prices, especially the finest real estate.  This  combined with future increases in demand caused by real demand trends and pent up ability to buy, combined with shrunken supply that will eventually need to expand to meet demand will drive the next long term luxury second home real estate investment appreciation cycle.  Our clients that are buying now say that it isn’t if it will happen, it is when it will happen.  They feel that if they wait until the “all clear” sign and the global economy recovers to act, it will be too late and they will be forced to compete with increased global demand for the finest real estate… and the easy money will be gained without them. 

But it is hard.  It is hard in a chaotic world of bubbles, greed, system risk, and financial difficulty to summon the discipline and perspective to “zig” when everyone else is “zagging,” or hiding with their head under their pillow!  But as Warren Buffet said in his 10-17-08 NY Times article…. “If you wait until you see the robins to take action…you will miss the spring.”

Some Effects of The Federal Reserve's Actions On

 The Luxury Second Home Real Estate Market

Over the past couple of months the Federal Reserve of the United States, and other Federal Reserve Organizations around the world have implemented and plan to implement unprecedented levels of liquid into the financial system of the United States.  These actions have been critical in abating and battling against a death spiral of broad asset deflation and investment de-leveraging.  To combat rapid asset deflation it makes sense to implement a broad array of inflationary measures.  In simple terms, when assets are deflating in a distorted manner due to system risks and a lack of confidence outside of normal economic cycles, at a speed that could cause an economic depression, every effort to stop it is necessary.

However, implementing inflationary measures of this size and scope is a tricky game as once the deflationary cycle is forced to bottom; global economies could be faced with an issue of inflation.  Inflation is a battle that the US Federal Reserve knows how to battle very well, and at this time would be a welcomed change.     

The effects of decreased credit and liquidity overall has had a dramatic effect of both the price and availability of real estate in many different sectors.  For the purposes of this post we will focus on the effects on global pre-construction luxury second home – investment real estate since this sector is our core business.

The immediate effect has been the lack of new mid-tier developments being launched in the countries in which we represent pre-construction real estate.  Developers that planned or had planned to embark on new real estate projects and were depending on bank financing and or leverage to be able to build have mostly postponed or cancelled their projects for the present time period. 

Because of stricter qualification levels and unfavorable lending terms it has become nearly impossible for many developers to secure available lines of credit and financing to begin a new real estate project.  If possible, many developers in the mid-tier level ($300k - $500k per residence) have decided and/or been forced to wait to begin pre-sales and real estate development until the credit markets open more and better financing becomes available. 

Real Estate project postponement and cancellation has happened less in higher end developments ($500k - $3M) and those that have already broken ground with secure funding.  These real estate projects are the highest end developments in the most desired locales globally, and continue with construction and sales at a consistent level.  Believe it or not, several of the real estate opportunities we represent outside of the US, have just implemented across the board price increases due to rapid sales and the launch of new phases.

What is the Rescue Plan?

Without getting stuck on the intimate details of what was proposed in the initial plan by Treasury Secretary Paulson, that was eventually voted down earlier this week, the proposed plan is best described as one which is aimed at addressing the present critical weakness in the core credit  system of America.  

According to the statistics presented at the US Senate hearings, the good news is that 95% of the US mortgage market is what is called “money-good.”  This means that 95% of the mortgages held in the marketplace are being paid on-time, in full, every month.  The issue is really with about 5% of the mortgage market made of those that are no longer paying, are late paying, are foreclosing, have foreclosed, or are preparing to do so.

In effect, the plan proposed by Treasury Secretary Paulson was basically to create a US federally backed US primary residential distressed real estate fund.  The goal of the plan is to have the US government purchase the distressed assets (i.e. mortgages) from the private and public companies that want to sell them at a discount to what they were worth.   Purchases would be made over time and would likely amount to about $50 Billion per month in the beginning with a cap at about $700 Billion, although it is doubtful that all of this money would be used.

The government would hold the assets and once the market recovered a bit would be able to sell them at a profit much like a distressed asset hedge fund or leveraged buy-out firm (LBO).  Proceeds of the operation would go to the taxpayers whose money is being invested to create the fund.  Of course there are many terms and conditions to the ideology of the plan that are being forced into bill by both democrats and republicans.  Regardless, the mission and object of the plan is the same.

Is the Plan a Wall Street Bailout or Main Street Rescue Plan?

Much of the US public thinks that Secretary Paulson’s efforts and proposed plan are an intention to bail out the Wall Street elite and to keep additional firms from suffering the same fate and some before them.  This would be true if the issue was just with Wall Street Firms and had not been proliferated and extended to many Main Street companies in the form of investment, and if there wasn’t a “Pearl Harbor” like seizure of the credit markets.  Because this has become an attack on the system, it is necessary for the last line of defense, the US Federal Government, to intervene and stabilize the financial credit system in the short and longer term.  For without a credit or lending system, there will be no inventory on retail shelves, cars in lots, money for payrolls, or in ATM machines.  The short term credit markets need to work without the fear and lack of transparency that exists today.  The failure of this system is not an option and its preservation is necessary for people everywhere to maintain a reasonable standard of life as many know it in the United States.  Further, in past instances where the government has intervened when the system has been threatened the plan has worked, achieved it objective and run operationally profitable.   

What will be the effect of the plan?

The effect of the plan will be a couple fold.  First, companies with securitized debt investment products on their balance sheets will have the opportunity to sell these products into the US Federal distressed asset fund, albeit for less than they bought them for.  This will provide these companies the opportunity to clean up their balance sheet and shed the “Anaconda” from their operations, putting them in a position to be able to do business and lend money out to those who require it a reasonable rates and requirements.

Second, the Paulson plan will bring stability and a forced bottom to the US primary residential marketplace. Needed liquidity in the credit markets will slow down and possibly halt the streams of US foreclosure requests that are originating daily by the thousands.  Many people will have the renewed opportunity to stay in their homes and satisfy the terms of a re-negotiated mortgage.   Confidence will return to the buy and sell side of the system and pent up demand (i.e. buyers) will have the confidence and the credit available to return to the marketplace and begin buying again.  Buying in the marketplace will reduce the inventory of homes available on the market and will stabilize prices, inventories levels, and will finally get the market to bottom with better prospects on the horizon. 

The third and equally important thing the plan will do it restore confidence and trust to the marketplace and the US credit financial system overall.  Much of what occurs in economic cycles is as based on trend confidence and momentum of the system itself and how people feel about what is going on and the prospects moving forward.  Right now, many are questioning the US credit system and a system and its ability to work.  Banks don’t trust each other and are afraid to lend each other money because they think the guy across from them will be the next to blow up, and everyone is scared to do anything because it feel like  you reaching out to catch a falling knife.  This is destructive because nobody makes money or makes the right decision in a state of panic, and when everyone is in a state of panic and fear, losses and down cycles extend more severely and unnecessarily.    

Implementation of the plan will relieve the fear in the system and will provide the much needed liquidity to the credit markets to get it flowing in an orderly fashion.  There will actually be an operational, systematic credit market once again in the United States.  At the same time peoples trust and confidence in the system will be re-established and banks will be able to lend to each other and to main street firms with confidence once again.  Once things return to “business as usual” the entire mood of the marketplace and business overall will be restored and everyone will be able to take a deep breath because they will feel better about the direction of things that are so critical to the way that they live their lives.  This will make a monumental difference in the length and severity of this crisis and US residential real estate downturn overall.

The Paulson Plan

Bailout or Rescue Plan?

Position Document: Legacy Resort Consulting

We have been getting a lot of calls from many of our clients over the past couple of weeks asking us how we are feeling about things on Wall Street and Main Street and what our general position on the treasury proposed rescue plan.  Some of the most common questions have been So how did we get here?, What is the plan?  What are the eventual effects of the plan?  And Is this really just a Wall Street bailout in disguise? We have spent a lot of time sharing our professional position on these critical topics and decided it best to share our overall position with everyone via our Blog.

It is to be noted that our position on this topic and time period in general is based on the overall theory, principals and spirit of the rescue plan.  It seems that with every passing day another senator or congress person is trying to attach their personal agenda to a continuously modified plan that is not yet finalized and at the time of this document a final version still has not been released to us for review or for “house” vote. 

So…How Did We Get Here? 

A Brief Synopsis:

By: Legacy Resort Consulting

Do you have a couple of days??...In all seriousness…although we are not economists or Wall Street professionals, we are often in touch with both and follow market trends and situations very closely as they directly affect our lives and the lives of our clients. 

To dive deep into the details of what has occurred over the past few years to get us to this point could and will be a novel someday.  The following is our opinion and our 10,000 foot overview of how we got hear based on our research, analysis and experience. 

Much of what is presently occurring will be traced directly back to a legendary excesses in the US primary residential real estate market, loose regulations and restrictions on lending practices, and organizations that exercised extremely poor judgment and business sense with respect to unsustainable leverage and risk tolerance in securities developed and secured by the originated mortgages in the forms of CDO’s, SIV’s and other investment tools.  For years, these loose mortgages and the investment vehicles created from them were issued and proliferated around the world during a sustained US market primary residential housing boom.  Folks that were unqualified by many standards for credit were receiving loans without documentation of anything and were in some cases buying houses with little to no down payment.  They would get into adjustable rate mortgages with a short term lead years teaser rates that were affordable in the short term but would go up in time via a mortgage recast.  However, these buyers didn’t care because they would either sell “flip” the home for a profit before the rate increased, or would refinance the loan into a lower fixed rate note using the “guaranteed” equity gained over the next couple years as the new down payment.

This method worked well as long as the US primary residential market was growing consistently year after year which it was.  Home ownership was increasing annually, home owners were making money, securitized debt investors were making money, and everyone was happy….until the wheels fell off the wagon and it all turned.  Everyone seemed shocked to discover that no market or asset class goes up in a straight line forever.

 In the end, all markets are based on the theory of supply and demand and eventually will get out of balance and need to correct.  Corrections are normal part of economic cycles and are expected, but in this case things are different because of the proliferated greed, lack of regulation, and intolerable amounts of invested leverage.  These three things combined with some questionable accounting rules such as the “mark to market” rule and others have created a perfect storm of equity and liquidity evaporation bringing the American credit and lending system to a grinding halt. 

Without liquidity, credit, and a market to trade many of the questionable securitized debt vehicles, several well known and respected banks and investment companies were no longer able to sustain their business operations were literally choked out of business.  Reputable, well known firms Freddie and Fannie Mac received the “Anaconda treatment” as well as well known Wall Street names such as Bear Sterns and Lehman Brothers.  The “Anaconda” spread to get some deposit banks also such as IndyMac, Washington Mutual, and Wachovia which were all forced to close their doors and/or open as a merged company fire sold in the middle of the night to the likes of companies like Citibank and JP Morgan with the assistance of the FDIC and other federal agencies to ensure an orderly and successful failure. 

If this was just a US real estate market correction, or a Wall Street problem we might be ok, shrug our shoulders and say boom and bust is the way of capitalism, and only the strong survive.  Failure of some brings opportunity for others and this is how people get ahead.  But this time it is different and bigger because the noxious securitized debt products were acquired as investments by many pension funds, private companies and other entities that touch Main Street firms and “regular” people.  Further, risk in these noxious debt investment products was insured and re-leveraged by many of the largest insurance firms in the country against failure against a cash reserve of about three cents on the dollar in which over exposure has brought some like AIG literally to their short term operational knees. 

So….this de-leveraging cycle has created an issue where the financial credit system of the United States of America is at risk.  Without liquid credit markets from and between financial institutions, many companies in various industries around the country on Main Street and Every Street will fail, causing wide spread panic, loss of jobs, retirement funds, and fear not seen since the depression in the 1930’s. 

The main issue and cause for grave concern is not so much the fact that pension and retirement funds are losing money across the world it is more about the lack of confidence and transparency on other financial institutions that have led the short term credit markets to freeze up.  This freezing up gravely affects many companies and various levels of government because they rely on short term debt to fund their daily operations.  Without a short term credit system in good working order companies all over the country and globe are not able to get money to run their business operations and will be choked out of existence.

 The last line of defense in the system is the Federal Reserve.  In the instance of system failure and seizure it is their job and duty to step in and do everything possible to avert a financial “Pearl Harbor” and keep the financial system intact and working.  This is why Treasury Secretary Paulson has come to Washington, DC with a “bailout” or “rescue” plan that needs to be recognized and passed into law.

Jamaica Real Estate 

PROTECTING YOUR PIECE of PARADISE 

The real estate market in Jamaica is undergoing an amazing transformation.  Given its beautiful beaches, proximity, and charming culture, the world’s best developers have desired for years to make Montego Bay, Jamaica one of the world’s great destinations.  Finally, with the approval and assistance of the Jamaican government, the renaissance of The Gold Coast of Montego Bay is now well underway and is becoming home to some of the finest Caribbean real estate.  Savvy investment real estate folks have taken notice and are interested in getting involved in the early innings of the renaissance.  One question we always seem to receive about Jamaica is in regards to the laws and regulations that are   in place to ensure their real estate investment is secure.  The concern is understood and for many in which this will represent their first non-home country purchase, the question is fair and reasonable.  Fortunately, there are federal laws in place that protect both the real estate buyer and the seller in the short and long term that secure title and occupancy much like a purchase in the United States.   

According to Attorney Mark Golding, there is no reason to be concerned about investing in real estate in Jamaica. “Foreigners have been buying real estate on the island for decades. U.S. investing in real estate here has been well served by our well established and investor-friendly real estate laws.” Golding recommends contacting a local attorney for any particular queries. “A local attorney will be able to provide you with all the local knowledge you need,” commented Golding. 

The Title Guaranty is a novel product in Caribbean countries, including Jamaica. However, Caribbean real estate buyers now have the option of choosing a private indemnity backed by Stewart Title Guaranty of Houston, USA. With an impressive track record in both the United States and the Caribbean, Stewart Title’s company mission is to enhance the real estate transaction process for all parties involved. Since 1893, the company has been a leader and pioneer in providing buyers, sellers, lenders, attorneys and developers with cutting edge title and real estate transaction services, including primary US-based escrow accounts. The Stewart Title Eastern Caribbean division offers the same industry trusted title guaranty and escrow services to the Caribbean market. For individual real estate purchasers of Jamaican property, the company’s involvement ensures that the transaction will be managed with the protection and professionalism of a United States closing. “We are proud to offer added, customized protection to Caribbean real estate buyers.” said Ms. Faye Finisterre, Managing Director for Stewart Title Eastern Caribbean. According to Finisterre, a growing number of buyers are becoming more comfortable purchasing real estate in the region “The Caribbean is one of the hottest places to invest in a vacation homes. We help increase the comfort level for buyers.” 

“When purchasing a property, one of the most important issues to address for both a buyer and seller is how, and under what conditions, the funds will be safely transferred. In an international transaction this issue is even more important and often complicated, as both the purchaser and seller may not be familiar or comfortable having funds deposited in an unfamiliar jurisdiction or with an unfamiliar attorney or bank,” continued Finisterre. Stewart Title’s management of escrow accounts provides buyers with an impartial and invaluable third party service, including individual escrow accounts to avoid mishandling of money, time management to keep each transaction on schedule and fraud prevention. In the Caribbean and Central America alone, Stewart Title has assisted in more than 15,000 international transactions and guaranteed the title to more than US$3 billion of property value. Stated Finisterre; “We recognize that purchasing a luxury vacation property in paradise should be paradise. Hence we provide a smooth and professional real estate transaction, leaving the new owners to enjoy their property!” In Jamaica, Stewart Title is the appointed escrow and title agent for The Palmyra Resort & Spa at Rose Hall, the new luxury condo-hotel adjacent to the Ritz-Carlton in Rose Hall. Said Finisterre; “We are pleased to continue Stewart Title’s tradition, trust and service by providing full service real estate solutions for one of the Caribbean’s most luxurious and exciting new developments. We look forward to facilitating smooth, comfortable transactions for their buyers.” 

Currently, Stewart Title provides real estate transaction services throughout 8,000 policy-issuing offices in the United States and in more than 30 markets worldwide. The service provider, headquartered in Houston, Texas, was included in the Forbes Platinum List for Best Big Companies in America in 2003, and ranked one of the fastest growing companies in America by Fortune in 2004 based on its financial strength and excellent reputation.

With the laws in place to ensure a secure the rights of the real esate owner, it has made sense for many to become part of the Montego Bay, Jamaica Gold Coast Renaissance. 

 Does it make sense for You to get Involved? 

That really all depends...

Is Real Estate Really an Investment?

Part III 

The Beauty of Leverage and “The American Dream” 

Their Effects on Investment Real Estate Return 

In the final segment of the investigation to determine whether the S&P 500 Index or purchasing real estate is a better investment, we will examine and quantify how leverage and The America Dream benefit real estate investment returns.

In the case of equity investment in a group of stocks or mutual funds in the S&P 500 Index, the return percentage is based on and investment/return ratio of one to one.  This means that if a person invests $500,000 in a stock portfolio gain and loss will be measured against this investment total.  For example, if after year one the stock investor’s portfolio total is $550,000 the investor gained (pre-tax) about $50,000 (ignoring broker/trading fee’s).  This percentage return is measured as the gain divided by the investment (i.e. $50,000/$500,000) which is equal to ten (10%) percent.  In order to gain $50,000 the investor needed to risk $500,000 which is a one to one investment to return ratio.  There is no leverage available in this style of investment and the owner’s entire cash position is at risk.

In the case of investment real estate, leverage works to the benefit of the owner to allow the owner to realize the same gain with less exposure.  For example, if the selling price of a second home was $500,000, the owner in most cases would typically place a down payment of twenty (20%) percent equal to $100,000, and the rest would be financed via a mortgage vehicle.  If after year one, the property appreciated ten (10%) percent to $550,000, and was sold, the owner would realize a gain of about $50,000 (ignoring broker/closing fees), which is the same as the stock investment above. 

The critical distinction is that the real estate investor was able to gain $50,000 on his cash outlay of $100,000 versus the stock investment of $500,000.  This means that instead of a ten (10%) return like the stock investment, the real estate owner’s percentage gain on his investment (downpayment) is 50% or 500% percent higher than the stock gain…even though it is the same money gained. 

The reason this is true due to the beauty of leverage.  Although both investments produced the same monetary gain, the real estate gain was achieved by 1/5^th of the actual cash amount exposed and at risk.  Leverage enables real estate owners to realize appreciation gains on the sales price of the property, with only 20% actual invested exposure versus the 100% exposure of the S&P 500 Index stock portfolio.  Because of leverage real estate owners are in a position to realize larger gains with less risk exposure over the long term.

The American Dream

Demographics & The Desire to Own and Benefit from Real Estate  

For decades many have considered home ownership to be the true American Dream.  People need a reasonable place to live, raise their families, and call home.  To have the opportunity to actually own a home and call it theirs is something that most aspire to achieve.  Over time, the percentage of home owners in the United States has grown consistently.  Continued rises in population and low interest rates have spurred insatiable demand for real estate ownership.  People have been achieving their dream and owning homes at growing and record levels. 

Some of this growth was unfortunately helped along by unsustainable creative financing, undisciplined lending standards which caused some people that weren’t financially ready to own the types of homes they were able to afford in the short term with the creative financing (i.e. subprime), as well as others like speculators, to suffer the consequences of a market correction. 

All markets correct and they need to.  No market goes straight up.  All markets go up and they go down and the real estate market is no different.  As shown by the chart in Part I, over time the real estate market has peaked, corrected, bottomed and then made new highs.  And it will again. 

In the long term, the demographics and the desire to own the best real estate possible have not changed. In 2008, we live in a time of continued global population expansion, an aging baby-boomer generation, and increased Non-US investment into global real estate.  People desire and will continue to desire second/investment homes in the finest places in the world for life experiences, income, tax incentives and long term value. 

Conclusion

Is the S&P 500 Index or Real Estate the Better Investment?

In summary, due to ultra-negative market sentiment currently surrounding real estate, it was proper to return to the basics, examine historical facts, and compare whether the S&P 500 Index or real estate is the better long term investment.  For many reasons demonstrated in detail in this exercise it is clear that the better investment for one’s hard earned financial resources is real estate, preferably the finest real estate in the most exclusive locations possible. 

Real estate is the better investment for the following reasons:

1.)     Return Consistency:  As detailed in Part 1, the S&P 500 Index over the past fifty years has averaged a return of 10.99% versus 6.67% annual average for real estate.  However, the S&P Index’s gain has been very sporadic and often +/- 20% of the average return.  If your money isn’t in the right place on the right days, the gain could be reduced or missed entirely.  Real estate investment returns, although on the surface appear less, are much more consistent and achievable.

2.)     Tax Advantages: Owning real estate has numerous tax benefits.  Many components of ownership can be taken as income tax deductions, which can lower the “taxable” income of the homeowner and the amount needed to be paid to the government annually.  This advantage is not present with gains in the S&P Index where gains are taxes at least as income.

3.)      Leverage: As detailed in Part III, real estate investors can produce higher percentage returns with less exposure due to leverage.  Leverage is not available in most equity portfolios invested in the S&P Index, where the investment/return ratio is one to one.

4.)      Demographics:  Over the longer term, the desire to own real estate has proven to be insatiable.  Favorable demographics that include an ever increasing population, an aging baby-boomer generation, and increased Non-US investment in global real estate.  These trends will continue and will drive the demand side of the curve for decades to come.

Is Real Estate Really an Investment?

Part II

How income tax deductions benefit real estate investment return

Although we are not tax law professionals and recommend that all questions concerning income tax deductions are best referred to an experienced tax expert; it is important to understand the mechanics of real estate income tax deductions and how they affect the comparison between which investment return is better: the S&P 500 Index or real estate.  Additionally, how each investment may benefit your specific financial position.

In many countries, including the United States, one is able to deduct the cost of numerous second home ownership necessities.  In basic terms, taking a tax deduction against your income means that you are able to subtract the amount of paid mortgage interest from your income, which reduces your “taxable” income, and more importantly the amount that you may owe to the government annually.  Depending on the method of ownership, in most instances, the following components are considered deductable: mortgage interest, property taxes, maintenance/repairs, expenses, and depreciation.  However, monies received through any rentals are considered income and need to be claimed as such.  The ability to claim these components as income tax deductions can lessen your financial responsibility to the government.  The best way to illustrate the benefits of tax deductions is through a short example.

Investment Home Price: $300,000

Down payment: $60,000 (20%)

Mortgage Amount: $240,000

Interest Rate: 6%; 30 year fixed rate mortgage 

Monthly Estimated Carry Cost:

Mortgage: $1440/mth (Principal and Interest)

Taxes: $400/mth (Estimated)

Insurance: $75/mth (Estimated)

Total: $1,915/mth

Possible Tax Deductions:

$14,400 (1^st Year Mortgage Interest) = $240,000 * 6%

$ 4,800 (Estimated Property Taxes)

$ 3,000 (Estimated Maintenance/Repairs)  (i.e. Painting/Carpet/Landscape/Other)

$ 3,000 (Estimated Expenses) (i.e. Advertising, Utilities, Insurance, Phone, Mileage)

$ 8,727 (Estimated Depreciation) (Depreciated over 27.5 years) (i.e. $240,000/27.5 = $8,727/yr)

Total Deductions: $33,927 * 33% (tax bracket) = $11,295 of Possible Income Tax Savings.  This number could be more of less depending on each owner’s tax bracket.

Estimated Rental Income = $2,500/mth = $30,000 Income added to owners income

The above example shows that the owner in this situation paid about $22,980 to carry the investment property for one year.  It was rented to an interested party at $2,500 per month which totaled an annual rental income of $30,000.  In addition, the owner took $33,927 in income tax deductions.  Depending on country/state laws and how tax experts prepared the filing, the owner is in a great financial position because (s)he spent $22,980 in real dollars to receive $30,000 income and is able to deduct expenses of almost $34,000 which is an advantage to the owner all the way around.  Depending on how the gains and deductions are taken, this situation could result in a double digit (11.7%) cash return on down payment (i.e. ($30k-$22,980)/$60k = 11.7%) or the above discussed $11,295 tax income savings which is an 18.83% return on the $60k downpayment.  Either way, the taxable income position of the owner has been advantaged significantly.

The purpose of the above example is to show that, unlike the S&P 500 Index in which all gains are taxed as income, the return on real estate is more than just an absolute 6.67% average annual gain. (Based upon the average selling price of houses over the last fifty (50) years).  The ability to realize the benefits of income tax deductions on real estate ownership is critical to recognize and include when considering the real return on a real estate investment. 

Please read Part III: Is Real Estate Really an Investment in which we examine the benefits of demographics and "The American Dream" on real estate return, summarize the entire research project, and make a final determination of which investment, (real esate or the S&P 500 Index), is better for long term investment return.

Real Estate: The Forgotten Asset

It seems lately, every article and interview features reports and numbers demonstrating declining existing home values, declining new home sales, declining investment property prices, abandoned projects and doom & gloom for the real estate sector with no turn in site.

The continued beating delivered by the iron hand of a severe credit crisis, a “subprime” mortgage meltdown, as well as  a new batch of CDO’s, SIV’s and mortgage backed securities seem to blow up a different financial institution every day…..Bear Stern’s style.   

The real estate market sentiment for both primary homes as well as investment properties have gotten so negative that it feels like our houses lose value every moment.  The more deeply affected market segments are portrayed as abandoned waste lands in which nobody wants to own a home, even if it was given to them.  The current situation seems grim, and makes one wonder if anyone in the United States will consider owning a piece of real estate ever again.

For in the end, perspective and reason trump panic and irrationality, especially when related to finance.  Nobody ever made money by panicking!

Part 1: The S&P 500 Index vs. Real Estate

Which is the better investment?

The S&P 500 Index is widely considered by investment professionals to be a true indication of equity (stock) market performance because it contains 500 stocks of companies that are suppose to best represent the current architecture of the US economy.  The S&P 500 Index is often considered the benchmark against which alternative investments, as well as, the performance of investment professionals are measured.

According to Moody’s and Morningstar over the past fifty (50) years, since approximately 1958, the S&P 500 Index has yielded an average annual return of 10.99%.  This is a healthy return that has been delivered in a very erratic fashion.  Sixty-four (64%) of the time the return was at least 10% higher or lower than the average annual return.  This means that roughly two out of every three years, the annual return was about 0% OR 20%.  Markets that trade erratically in this fashion can be very exciting and opportunistic for trained professionals and “market-makers” on Wall Street, but scary for the average investor.  If one was not fortunate enough to have their money invested for the good years…or really the good days within the year, the majority of these opportunities could have been missed, depleting the investments ability to produce a reasonable return for the accepted risk.

On the other hand, please see the below chart that shows average housing prices from (1964 – 2005) according to public data supplied by the Census Bureau.  Note: Raw data numbers for 2006 and 2007 were not included in the following because only estimates were available at the time of publishing.  The chart shows the average house price in 1964 of $20,500 rising to a staggering $297,000 in 2005.  Over the measured forty-three (43) year time period the accumulated return is about 287% which is an average annual return of 6.67%.  Not too bad for doing nothing but living in your house for awhile (and paying the mortgage and taxes of course).    

 At first glance it appears that the 10.99% average annual return of the S&P 500 Index is a much better place to invest one’s hard earned money than the 6.67% annual average real estate return.  However, although slower to grow over time, real estate growth was much less erratic and had far fewer instances of inconsistent and/or negative growth.  This means that the home owner would have the opportunity over a long period of time to realize and experience the gain versus the gain that may have been missed in the equity markets if not perfectly timed.

The average annual gain from the S&P 500 Index versus the average real estate gain is lessened and rationalized more when the phenomenon of leverage, tax benefits, and tangibility are examined and applied.  In part two and part 3 of this series we will introduce and examine these critical elements and their impact on the average rates of return. 

Until these critical elements are broken down and factored into the average real estate return numbers, it remains unclear at this time which is a better investment option. 

Please  read Part 2 of The S&P Index versus Real Estate; Which is the Better Investment,  in which we will continue this analysis, and break down the property return advantages with respect to leverage, taxes, and tangible assets to see how it affects rate of  real estate investment return.      

Welcome to Legacy Resort Consulting, your “one-stop-shop” for new construction resort real estate.  Please check back over the coming weeks for insights into Investment Real Estate. Topics such as the following and many more will be analyzed and discussed.

Is Real Estate really an investment?

What components are critical to the success of a real estate development?

What regions and countries are the most popular places to own real estate and why?

Thank you for investing the time out of your day to contact us. 

Why do I search endlessly for the “right” real estate investment without knowing if I’ve found the one that best suits my needs?

Why do I have to make dozens of phone calls to request information on project after project, when in the end they really aren’t what I am looking for?

Why has the onus of research and discovery been put on my shoulders in the first place?

Making an informed decision takes much time and due diligence.

Is this development right for me? Being told every opportunity is perfect for your needs by sales people is frustrating. Do they truly understand your goals?

Be nimble. Too much information, too many projects, and likely few opportunities are perfect for you. Recognize your opportunities and go after them, before they are sold out!

Legacy Resort Consulting (LRC) has changed the paradigm of how new construction resort real estate is sold. We will eliminate your frustration, and work tirelessly to find your perfect real estate opportunity.

Our licensed consultants are dedicated to helping you evaluate and purchase your paradise based on your needs, your goals and your desires. LRC represents the finest investment real estate in and around the United States, in all ownership forms including full residence, condo/hotel, and fractional. LRC bridges the gap between resort developments and those that want to own them.