Chapter 17

Investing in Real Estate and

Other Investment Alternatives

Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Chapter 17
Learning Objectives

LO17-1 Identify types of real estate investments.

LO17-2 Evaluate the advantages of real estate

investments.

LO17-3 Assess the disadvantages of real estate

investments.

LO17-4 Analyze the risks and rewards of investing

in precious metals, gems, and collectibles.

17-2
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Investing in Real Estate
LO17-1:
Identify types of real estate investments.
• DIRECT REAL ESTATE INVESTMENTS
– The investor holds legal title to the property
• Single-family dwellings
• Duplexes
• Apartments
• Land
• Commercial property

• INDIRECT INVESTMENTS
– The investor appoints a trustee who holds legal title on behalf of
all investors in the group
• Limited partnerships and syndicates
• Real estate investment trusts
• Mortgages and mortgage pools
17-3
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Your Home as an Investment

• A place to live
• Shelter income from taxes if you have a mortgage
on it; mortgage interest and property taxes are
deductible
• Possible hedge against inflation. Be aware of
fluctuating house prices
• Housing is a not-so-liquid investment that
promises steady returns over time which depends
on timing and location

17-4
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Your Vacation Home
• Tax advantages depend on if the IRS views it as your
second home or as a rental property
• If you don’t rent it more than 14 days a year, then you
can write off mortgage interest and property tax (a
second home)
• If you rent it regularly, the size of your deductions
depend on whether you actively manage it and by the
size of your income
• Primary reason to own a vacation home is because
you want to use it

17-5
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Commercial Property
(1 of 2)
• Land and buildings that produce lease or rental
income

• Includes duplexes, apartments, hotels, office

buildings, stores, and many other types of
commercial establishments

• After a home, small investors favor the duplex,

fourplex, or small apartment building

17-6
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Commercial Property
(2 of 2)
• Tax deductions, such as mortgage interest, depreciation
and property taxes, are limited to the amount of rental
income you receive

• Passive activity is a business or trade in which you do

not materially participate, such as rental activity

• Passive loss is the total amount of losses from a passive

activity minus the total income from the passive activity

17-7
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Undeveloped Land

• Can be tremendous gains but this type of

investment poses enormous risks

• Investor’s money is riding on a single parcel of land

which does not usually produce any cash flow

• Most investors buy land with the intention of

subdividing the land

17-8
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Investing in Foreclosures
• Financing for a foreclosure is more difficult and
expensive than financing a primary residence

• Any unpaid liens, including mortgage debt, taxes,

construction loans, home equity lines of credit, and
second or third mortgages become your financial
responsibility

• To get a clean and clear title, buy the property after it

has been repossessed by the creditor

17-9
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Indirect Real Estate Investments

• REAL ESTATE SYNDICATE

– A temporary association organized to perform a
specific task that takes a large amount of capital;
organized as a corporation, trust, or limited partnership
– Provides professional management, limited liability for
its members, and diversification (if several properties
are owned)

17-10
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Limited Partnerships

• A limited partnership is formed by a general partner,

who has unlimited liability and sells participation
units to the limited partners

• The limited partner’s liability is limited to the extent

of their initial investment

17-11
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Real Estate Investment Trusts
• REIT
– REIT is similar to a mutual fund or investment
company and trades shares on stock exchanges or over
the counter
 Equity REITs own and operate income-producing

properties; 90% of REITs

 Mortgage REITs loan money or invest in mortgages;

7% of REITs
 Hybrid REITS own both properties and mortgages

17-12
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Investing in First and Second Mortgages and
Participation Certificates

• Investing in First and Second Mortgages

– Purchased by well-to-do investors; risky

• Participation certificates (PCs)

– A risk-proof real estate investment
– Equity investment in a pool of mortgages or student
loans that have been purchased by one of several
government agencies such as Ginnie Mae and Freddie
Mac

17-13
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Advantages of
Real Estate Investments (1 of 2)
LO17-2:
Evaluate the advantages of real estate investments.

• A POSSIBLE HEDGE AGAINST INFLATION

• EASY ENTRY as a limited partner, such as investing
$5,000 to own part of an apartment building

17-14
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Advantages of
Real Estate Investments (2 of 2)
• LIMITED FINANCIAL LIABILITY — limited partners
are not liable for losses beyond initial investment
• NO MANAGEMENT CONCERNS for limited
partnerships, REITs, mortgages, or participation
certificates
• FINANCIAL LEVERAGE
– Use of borrowed funds for investment purposes;
enables you to acquire a more expensive property
than you could buy on your own

17-15
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Disadvantages of
Real Estate Investments
LO17-3:
Assess the disadvantages of real estate investments.
• ILLIQUIDITY
• DECLINING PROPERTY VALUES
• LACK OF DIVERSIFICATION
• LACK OF A TAX SHELTER for real estate syndicates
• LONG DEPRECIATION PERIOD
• MANAGEMENT PROBLEMS when purchasing
individual properties

17-16
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Investing in Precious Metals, Gems, and
Collectibles
LO17-4:
Analyze the risks and rewards of investing in
precious metals, gems, and collectibles.
• A hedge against inflation and a safe haven during
political or economic upheavals
• GOLD
– Higher prices result from fear of war, political
instability, inflation, and lower interest rates
– Gold Bullion includes gold bars and wafers
– Gold Bullion Coins
– Gold Stocks
– Gold Certificates

17-17
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Silver, Platinum, Palladium, and
Rhodium
• A hedge against inflation and a safe haven during
political or economic upheavals
• Silver prices have fluctuated from 24.25 cents an
ounce in 1932, to over $50 an ounce in early 1980,
and then back to less than $17 an ounce in June 2018
• Platinum, palladium, and rhodium are used as
industrial catalysts, particularly in automobile
production
• Storage can be an issue

17-18
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Precious Stones
(1 of 2)
• Precious stones include diamonds, sapphires,
rubies, and emeralds

• Appeal to investors because of their small size, ease

of concealment, great durability, and potential
hedge against inflation

17-19
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Precious Stones
(2 of 2)
• Risks include..
– Not easily turned into cash
– Difficult to know if you are getting a good stone
– De Beers Consolidated Mines of South Africa
Ltd. controls 85% of the world’s supply of rough
diamonds
– Prices can be affected by political instability in
diamond-producing countries
– Expect to buy at retail and sell at wholesale

17-20
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Collectibles
• Includes rare coins, works of art, antiques, stamps,
rare books, sports memorabilia, rugs, Chinese
ceramics, paintings and other items that appeal to
collectors and investors
• Can be a good investment and a hobby, or a
financial disaster
• It’s “buyer beware”
• Be careful of investment scams and forgeries
• Consult with reputable dealers

17-21
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Collectibles on the Web
(1 of 2)
• Advantages
– Provides efficiency and convenience for
collectors
– Easier to find items and compare prices
– Sellers can reach a much larger, more varied
market

17-22
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.
 Collectibles on the Web
(2 of 2)
• Disadvantages
– You can’t touch or feel the item and examine it
for flaws or trademarks
– There may also be some security risk since you
don’t know who’s getting your cash or credit
card number

17-23
Copyright © 2020 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.