4.5.4 Real Estate Investments
Diversifying among asset classes can reduce systematic risk within a portfolio. For example, a portfolio of both stocks and bonds can be wise because stocks and bonds have low correlations with one another. This means that if the stock market is down, the bond market might be up, helping to smooth out performance within a portfolio. Real estate can offer another way to diversify a portfolio because of its low correlation with stocks and bonds.
Whether we realize it or not, many of us are already invested in the real estate market because we own a house or vacation home. In fact, the average American has most of his savings invested in the value of his home. Investing in a home offers a significant tax benefit because when you sell your home, any gain in value can be deducted from your taxes, up to $250,000 for an individual and up to $500,000 for a married couple. To qualify, you must have owned the house for at least two years and occupied the house for at least two out of the five previous years.
There are other ways that investors can invest in the real estate market. These include buying rental properties or investing in Real Estate Investment Trusts (REITs) or real estate limited partnerships (RELPs). For the exam, you should know the pros and cons of each.
When you invest in property, you get two potential sources of income: rental income and appreciation in the property value. Rental income is any payment you receive for the use or occupation of property. This includes rental payments, advance rent, and security deposits if they are used for the final payment of the rent.