Our friend asks us; does it make sense to invest in real estate?
Investment in real estate, along with investment in undeveloped land and precious metals, is one of the oldest forms of investment. For many people, owning a tangible and durable asset, enjoying natural demand to be used as a home or business, presupposes a secure profit on the capital invested.
The value of investment in real estate comes, in principle, from the existence of a balance, or better yet, a favorable imbalance where demand exceeds supply.
The most famous phrase referring to real estate investment tells us about the importance of location[1]. Some locations are more desirable than others, and as three-dimensional physical spaces, the number of properties in a given location is always limited.
Profits in real estate investment generally come from two sources. On the one hand, the income from the rental of the property, and on the other hand, the capital gain or difference between the purchase price and the market price (i.e., the potential sale price).
The profit in the rental of the property is the income remaining once the costs of maintaining the property, namely, taxes, insurance, communal expenses, repairs and replacements, improvements, administration, etc., have been subtracted. If the property has been financed with a mortgage, the financial and administrative costs of the mortgage should also be subtracted. Comparing the net income against the acquisition cost, including closing costs, or against the current value, after deducting costs, would allow us to calculate a return on invested capital (historical return) or a current yield that is comparable to other investment options.
Profit[2] in the form of equity comes from the appreciation of the market value (or resale value) of the property. To calculate this return, we calculate the percentage change between the market value, net of closing costs, against the acquisition cost, with closing costs added, and compare it with the result that would have been obtained in other properties and contemporary investments.
One of the advantages of real estate investments is its historical record in terms of maintaining (and even increasing[3]) its value with respect to inflation, i.e. both the value of the rental income and the resale value tend to adjust with inflation, especially if inflation is gradual and moderate, given that both rents and the resale price respond to economic conditions and in particular to the purchasing power of the relevant population. This characteristic, more than others, separates investment in real estate from investments in long-term fixed income[4] instruments, which also include a periodic income and a return of capital at maturity, but both are nominal and subject to loss of purchase value through inflation.
The other advantage of investing in real estate is the ease of obtaining relatively large, fixed-rate, long-term loans to finance its acquisition. The multiplier effect of financial leverage on profitability calculations is significant as the capital initially invested is meaningfully reduced, particularly before substantial amortization payments have been made.
The other side of the coin for these two advantages is seen in the short- and medium-term impact of a recession or real estate crisis that could cause real estate prices to fall temporarily[5]. Under these circumstances, the appreciation would be less than inflation or even negative, and the effect of leverage would go in the opposite direction, multiplying losses.
It is relevant to mention that properties, and most tangible assets in general, deteriorate and become outdated over time, requiring continuous investments to keep them in optimal condition. In this sense, a real estate investment will always require some level of investment, potentially adding but also eroding from long-term profitability.
Another important advantage comes from the tax treatment of real estate investments, which usually has some benefits, such as the deduction of certain expenses, including depreciation, and the possibility of deferring taxes on capital gains, among others.
Finally, it is worth mentioning two additional elements that are usually less discussed in real estate investment. One of them refers to the need to be actively involved in the management of the property, unless it has been delegated to third parties, which implies an additional cost. The other is the impossibility of partially liquidating a real estate investment in cases of liquidity need, with the assumption of new debt[6] using the property as collateral being one of the options available to achieve this.
As we have seen, direct investment[7] in real estate has different sides and variables to consider. Therefore, it is very important to do so consciously and advised by experts in the field. Finally, and as always, diversification remains a key measure in risk management.
In summary, what makes a real estate investment attractive is the recurring income and value appreciation that could be competitive when compared to investments of similar risks. Real estate investments have a place in a well-diversified portfolio.
Fig. 1
Notice: The information provided herein is for educational purposes only. Portfolio Resources Group does not guarantee the accuracy of any tax recommendation, as we do not provide tax or legal advice. Consult a tax professional to ensure that the recommendations are appropriate for your particular situation.
[1] The full sentence talks about the three most important variables when selecting a real estate investment: location, location, and location.
[2] A more representative calculation, such as an internal rate of return, would require considering income and expenses during the period of ownership of the property.
[3] Graph 1 at the end shows how the value of real estate appreciated considerably more than inflation from 1987 to 2025. The significant reduction in the cost of mortgages for the same period is also observed, which may indicate correlation or causality. The sustainability of this trend remains in resolving the affordability crisis.
[4] There are bonds with inflation-adjusted yields, either the US Treasury Inflation Protected Securities (TIPS) or the Series I Savings Bonds (I Bonds). In the case of TIPS, the value of the principal is periodically adjusted in accordance with inflation and, in the case of I Bonds, it is the coupon that is adjusted periodically.
[5] At the national level, and in local currency, it is uncommon, although not unprecedented, to see long-term recessions. As an example, mass migrations from a neighborhood, city or country could cause an imbalance of supply and demand that causes real estate values to fall significantly and lastingly.
[6] We are referring to mortgage loans or reverse mortgages.
[7] Indirect investment in real estate usually includes the use of investment funds, under different legal forms, such as Real Estate Investment Trusts, Real Estate Mutual Funds and ETFs, private real estate investment funds, crowdfunding platforms, and funds of funds. Some of these vehicles entail limitations reserving participation for accredited, qualified or institutional investors.