Comparing Investment Alternatives
Diversify and Build Wealth
By
Investments are difficult to
analyze – Physicians today need to maximize their investment returns. How do you compare investing in a stock, a
condominium in
IRR is defined as the percentage
rate earned on each dollar that remains in an investment each year. The
IRR of an investment is the discount rate at which the sum of the present value
of future cash flows equals the initial capital investment. The IRR Method is a comparison method that
calculates the internal rate of return of the differential cash flow between
any two investment alternatives, and then compares that rate with the user’s
opportunity cost.
As far as definitions go, they are not helpful at all – so what does it mean to you? In order to decide what to invest in, you need a measurement tool to measure IRR and then you must be able to compare the two. Where do you find such a resource? You could take hours and hours of course work, or you find a healthcare real estate advisor (HREA) to help you. A qualified HREA will be able to take your investment alternatives and compare them based on the IRR Method. The key to your investing success is to maximize the earnings on every dollar invested.
Beyond measuring the IRR of investments, major considering should be given to the types of investments that might be suitable for your portfolio. Investment gurus have always preached diversification. In the tumultuous world we are faced with today, it’s even more important. World and business events can change our financial situation rapidly. We have all experienced the volatility of the stock market and the minimal returns of the bond markets. Many physicians are utilizing various types of real estate investments to intensify their returns and round out their portfolio. In real estate investing, there are a variety of alternatives to consider.
Some participate in real estate investments through public or private Real Estate Investment Trusts (REIT’s). There are no property management issues and you make no decisions; you simply own stock in a company that owns and manages the real estate. If for no other purpose, a REIT can help you diversify your portfolio and derive some of the benefits of real estate.
While second homes are sometimes considered investments, the negative cash flows and cost of ownership may override the appreciation of the property. Population has been soaring over the last few years, while interest rates have been low, and the use of interest-only residential loans has been prevalent. Fluctuating interest rates that increase this appreciation trend could end or reverse.
Tenants in Common ownership (TIC’s) is another way of owning part of institutional grade real estate with smaller cash outlays. The investments in TIC’s have increased greatly since introduced about three years ago. There is no management involved and the investments are usually backed by strong companies with long term leases. TIC’s are popular choices for investors looking for replacement properties for 1031 Starker tax deferred exchanges. Exchangers use them if they have not found something else they prefer in their identification period.
A slam dunk if you are a private practice physician involves your office space. Some physicians can purchase office space to lease to their own practice. If you can create this situation, it’s ideal. The practice writes off the lease and you have a stable manageable tenant: your own practice. You have all the benefits of personally owned and managed real estate investments including appreciation, positive leverage, principal reduction, and depreciation tax deductions.
Another option includes single tenant net leased properties. Sometimes called mailbox money, these properties are usually long term leased and the tenant covers all cost involving the property. Most are national credit tenants offering safe long term returns with no management responsibilities. For mailbox money with higher returns, there are also some single tenant net leased deals with local or regional tenants. Your tenant is not considered to be as strong, so you get a better price on the real estate which creates more appreciation and value at the end of the lease.
Limited Partnerships offer another alternative to get into the real estate market with limited risk and good upside potential. One of the benefits of a limited partnership is that you have an experienced "general partner" managing the investment with skin in the game. You ride their wave of experience and benefit from the general partner’s expertise. Generally your risk is limited to your investment and there are no management responsibilities. If the partnership is acquiring an existing income property with a verifiable history and is located in area expected to appreciate, the due diligence can be fairly straight forward.
For higher returns and less management involvement, there are a variety of multi-tenant commercial properties to acquire. There are all sizes and types of investments available including office buildings (medical, general office, or flex), industrial, and retail properties (anchored or unanchored retail centers). These properties are typically managed and leased professionally, which is included in the returns. Some doctors form partnerships to buy commercial properties and engage real estate firms to acquire and manage the assets. While these small to large commercial property investments are considered more risky, they have continued to be a strong wealth building tool.
You work hard for your money. Is your money working hard for you? Look at the equity in your current assets and consider if diversifying your portfolio would benefit you. Are you getting the highest IRR possible? Can you create more cash flow? Can you build more wealth for your retirement? Consider the alternatives, define a clear strategy, and make it happen.