In this column dated November 10, 2013, we discussed why retirees should be sensitive to investment returns. We showed why you cannot invest only in bank fixed deposits and hope to meet your life goals in your retired years.

In a response to the article, we received several queries from readers wanting to know if real estate investments would reduce the need for equity investments. In this article, we discuss the benefits and the issues associated with real estate investment.

Benefits and Issues

For the purpose of this article, we define real estate to mean buildings — primarily residential apartments and houses. The objective is to earn rental income to support your post-retirement living.

So, what are the benefits of investing in real estate? For one, you could receive stable monthly cash flows from rental income. Importantly, this cash flow can reduce your inflation risk; market rent typically increases when price levels in the economy go up. For another, real estate fits with your goals if you want to make inter-generational wealth transfer — that is, leave your wealth for your children after your lifetime. The reason is your children would typically prefer physical assets, such as real estate and gold than stocks and bonds. There are issues, however, that you should consider before depending on real estate for your post-retirement living.

One, do you need a single large investment property or several small properties to generate rental income to primarily fund your monthly living expenses?

We suggest that you have several smaller properties. Your total income will be higher if you let out 2 or 3 small properties than a single property for the same total square feet of space. Further, it is easier to find tenants for smaller apartments or house than for larger ones. Do you have the resources to invest in more than one investment property? If not, you should consider real estate investment as a supplemental source, not as your primary source for retirement income.

Two, you need to maintain the properties to ensure that they do not fetch significantly lower-than-market rent. Now, maintaining your real estate investments could require resources — time and money. Will your health permit you to actively maintain your properties as you age? Moreover, maintenance cost would rise as the property ages. Will it be worthwhile spending large sums of money on maintenance even if your aging property is likely to fetch lower-than-market rent?

Three, at retirement, your objective should be to receive stable cash flows for life, preferably adjusted for inflation. Otherwise, you will suffer from longevity risk — the risk that you will outlive your investments. It is moot whether your real estate investment can offer such protection. Your properties may not always be occupied by rent-paying tenants. One reason could relate to city infrastructure. What if your city corporation elevates the road over the years such that your house’s ground level is lower than that of the road?

Four, what if you are forced to relocate to a different city to receive better medical facility that you or your spouse may require? How then will you manage your real estate investment? And remember, selling real estate may not be easy. Our objective in this article was to help you explore some of the issues associated with real estate investments. Real estate may not be suitable if you and your spouse spend your retired years far away from your children, as it would be difficult to manage your properties. And remember: If you want to depend on real estate to fund your post-retirement goals, your properties should be able to fetch market rentals at least till you turn 70. That would mean buying the properties when you are nearing your retirement.

(The author is the founder of Navera Consulting, a firm that offers wealth-mapping and investor-learning solutions. Feedback may be sent to knowledge@thehindu.co.in )

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