How much of your investment kitty should be allocated for real estate? Here is a handy guide that will help you out.
How much should you realistically invest in real estate? Many a time, we find ourselves over-exposed or under-exposed to real estate. Consider the following two scenarios:
- Akash, a high-flying professional in the middle stages of his career, has invested handsomely in real estate. He has invested in four plots of land and two apartments, one of which he stays in, with his family. He is earning rental income on one apartment but is repaying loans taken to buy two of his plots and one apartment. More than 90% of his portfolio is in real estate with the remaining 10% in basic savings schemes like PPF, EPF and life insurance.
- Sumit, in the same stage as Akash, has invested exponentially in mutual funds and stocks, which make up close to 70% of his portfolio. He is staying in his own apartment purchased earlier, for which he is close to repaying the loan. 30% of his portfolio is in fixed income investments, insurance, PPF and so on.
If you take these two investor profiles into account, Akash is over-exposed to real estate and Sumit is under-exposed. Akash has rental income from one of his apartments, which he can use for offsetting the loan on the same. However, he is still paying off loans every month on two of his plots. If any scenario arises where he needs liquidity, then Akash will be stuck since he will have to sell off any one or two properties quickly to raise cash. This will pose a problem.
As per an expert recommendation, Akash should sell off a plot and clear the loans, while investing some amount into more liquid investments like mutual funds. He should use the rental income from one apartment to repay his loan and try and monetize his plots for generating income.
For Sumit, on the other hand, he has more liquidity with his investments but he is over-exposed to them. He should reduce risks by downplaying his portfolio allocation to the other avenues and earmark a sum for investing in a property that can earn him rental income. This way, he will build a secure asset for the future, especially since it will help him earn money after retirement and beyond.
How Much Should You Allocate for Real Estate Investments?
While individual goals and risk appetite vary, experts recommend that you should have at least 10-20% of your portfolio in real estate. Be clear that this does not include the house that you stay in. Your home is not a financial investment; it is an investment for safety, security, shelter and wellbeing. It is your labor of love. While it will appreciate in value, you will keep renovating, maintaining and revamping it while making it your own over the years. Hence, do not consider this as part of your investment kitty.
Hence, investing in a second home, i.e. one that you can rent out and earn income, is always a good idea. You can also invest in commercial properties if you wish. You can consider plots in upcoming areas as well; plot values rarely depreciate and they will only go up in the future. Try and create a second channel of income from your real estate investment. This rental income will get you tax deductions and you can use the same for offsetting your loan EMI as well. Once you break even, i.e. the loan is paid off, you will have a secondary income stream that will help you save more and accumulate wealth in the future. At the same time, you also gain from capital appreciation of the asset.
The Core Take-away
- Earmark at least 10-20% of your investment portfolio for real estate investments.
- The key goal of real estate investments is to gain from capital value appreciation and rental income that will help you build steady wealth for the future.
- Returns from rentals and value appreciation that derive from real estate, are hard to match if you take fixed income and most other investments into account.
- However, plan your real estate purchases smartly without compromising other financial goals and obligations.
- Keep some liquid investments and savings handy for meeting exigencies or sudden needs.
- Be patient if you are investing in real estate; the dividends will be handsome, but will take a little time.
