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Jordan R. Hadfield CFP®

Investment Debate: Stocks or Real Estate

By | 2021, Money Moxie, Newsletter | No Comments

I am often asked if real estate is a better investment than stocks. The answer depends on several variables. Both real estate and stocks have their advantages. They both can offer great returns, passive income, and inflation protection. They also carry their own risks and challenges.

As with any investment opportunity, an understanding of the return potential, the risk involved, and the objective are fundamental to making a wise decision. While real estate and stocks are certainly not the only investment options available, they are the only asset classes that will be considered here.

Unsystematic Risk
One aspect that makes real estate investing difficult to assess generally is that every property is different. Therefore, each investment opportunity must be analyzed by its own unique characteristics. While some properties may provide fantastic returns, others are a bad investment.

Like real estate, stocks also have significant variability in returns. The risk of a poor-performing stock is easily reduced by diversification. Diversification in real estate is challenging, expensive, and for many investors, unattainable.

Leverage
One of the benefits of investing in real estate is the ability to use leverage. Debt always adds risk to the equation, but debt can be a powerful tool if used properly. Lenders typically require a down payment of at least 20% for an investment property. But that 20% allows the investor to participate in 100% of the property’s appreciation.

Leverage can also be used to purchase stocks, but it is usually not recommended. Margin trading means borrowing money from a broker to purchase stocks. Trading in a margin account increases your purchasing power, but it also amplifies losses.

Liquidity
At one point or another, liquidity becomes important to every investor. Stocks are liquid. If a stock investor needs cash, she can place trades and usually receive the money within a couple of days.

Real estate is not liquid by comparison. In most circumstances, a real estate investor cannot pull cash out of a property without a refinance or complete liquidation. This can be problematic.

Taxes
A real estate investor has the advantage of deducting expenses to reduce tax liability. He or she can also depreciate the asset over time. This can be beneficial year to year; however, one major problem is the taxes due upon the sale of the property. Depreciation recapture can assess taxes on the depreciation previously claimed, and the appreciation becomes taxable all in the same year as the sale. This can create a significant tax bill. A 1031-exchange defers the tax liability but only if the money is quickly reinvested into a like-kind asset. This does not help an investor looking to cash in on their investment.

Stock investors do not have the ability to deduct expenses or depreciate assets. There are several tax-advantaged accounts that give the investor tax-free or tax-deferred growth. These accounts provide significant control over how and when investments are taxed. When losses occur in taxable accounts, the stock investor can strategically sell to offset gains. They can also sell portions of the portfolio as needed and spread the tax liability over many years, thus reducing the marginal tax rate.

Costs, Fees, and Expenses
Costs, fees, and expenses can significantly eat into returns. The expenses with real estate are significant and impossible to project. Transaction costs are high. Maintenance and repair costs are ongoing. Property taxes, insurance, and possible HOA fees need to be considered. If hired, a property manager will take a good percentage of the profit. If a property goes unrented for a time, monthly costs can significantly increase.

Stocks, on the other hand, have a low barrier to entry, and fees are minimal. Opening a stock account is generally free, and trading costs are zero in many cases. Sales loads, management fees, and annual expenses are all comparably small and remain relatively consistent.

Demands
Real estate can be demanding, especially if the investor decides to cut costs by acting as the landlord. Appliance failures and other problems can occur day or night and often require immediate attention. Work, holidays, and family vacations can all be interrupted. Finding renters, enforcing house rules, and property maintenance takes time and energy. Dealing with renters and evictions can be stressful and time-consuming.

Stocks are very low maintenance. Generally, the less attention you give a proper portfolio allocation after purchase, the better.

Volatility
Both the real estate market and the stock market deal with volatility. Both markets suffer periods of depreciation and loss. But stock market volatility is measured daily and is constantly called to our attention. We cannot escape it. This can lead to emotional volatility, which can result in bad investment decisions.

Real estate volatility is more hidden. An investor may become aware of large swings but is mostly incognizant of market movements.

Historical Returns
According to the Federal Reserve Economic Data website, the S&P 500 index has consistently outperformed the general real estate market. Note, these numbers reflect gross appreciation and do not take into account income or dividends. They also do not consider costs, expenses, or fees (of which real estate has many).

Conclusion
Although I believe stock investing is better suited for most people, the right real estate investment can be advantageous and profitable. Before you make any significant financial decision, reach out to your Private Wealth Manager at Smedley Financial. We can help provide you with the information needed to make the best decision for you.

*Data from Federal Reserve Bank of St. Louis. Returns through March 31, 2021. Investing involves risk, including the potential loss of principal. The S&P 500 index is widely considered to represent the overall U.S. stock market. One cannot invest directly in an index. Diversification does not guarantee positive results. Past performance does not guarantee future results. The opinions and forecasts expressed are those of the author and may not actually come to pass. This information is subject to change at any time, based on changing conditions. This is not a recommendation to purchase any investment.

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Investment Accounts for Children

By | 2021, Money Moxie, Newsletter | No Comments

Opening an investment account for a child is a great way to give them a financial head start. It also provides an excellent opportunity to teach a child the importance of saving and investing. Before you decide to contribute to an account for a loved one, make sure your own retirement goals are on track. I assure you, children prefer financially secure parents to gifts of money or financial inheritance.

Once you’ve decided you can afford to save for a child and still accomplish your own goals, the question becomes what type of account you should open. There are several options, each having benefits and drawbacks. I have provided a brief summary of some of the more popular account types below. Please reach out to us for more information before choosing which account is best for you.

Savings Account
This may be the best choice for short-term savings, but it is not usually recommended to fund expenses more than 24 months in the future. Savings accounts do not provide significant growth, offer tax benefits, or reduce the risk of inflation.

529 Plan
This is a great investment account if your goal is to fund qualified higher education and the beneficiary is still young. It is important to understand what constitutes qualified education, as not all education is qualified. Although this account can fund expenses at lower education levels, the benefits of a 529 plan increase the longer assets are in the account. All growth is tax-free, but taxes and penalties will apply to non-qualified expenses. The account owner can change the beneficiary of a 529 account.

UGMA/UTMA Account
These investment accounts are for minors. They offer flexibility, as money can be spent on anything that benefits the minor. Because the money placed in a UGMA/UTMA account is owned by the child, the earnings are generally taxed at the child’s tax rate. Those rates are usually lower than the benefactor’s rates and are often zero. When the child reaches the age of majority, the account must transfer to an individual investment account. At that time, the beneficiary gains full control and can use the funds however they choose.

Individual Investment Account
This account cannot be opened for a minor. It can be opened in the name of an adult with the intent to gift assets to a child at some point in the future. This account will never change ownership, and the account owner will always maintain control. All growth will be taxed at the account owner’s tax rate, and transfers of more than $15,000 per year to a single beneficiary may require filing a gift tax form, although gift tax may not be due.

Roth IRA for Minors
A Roth IRA may be opened for a child under the age of 18 if they have earned income. This account is a great way to jumpstart retirement for a minor. All growth is tax-free if used after the age of 59.5; otherwise, taxes and penalties may apply.

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Year-End Tax Planning

By | 2020, Money Moxie, Newsletter | No Comments

Harvest losses now to help your next tax return
If you have investments that have gained money this year and others that have lost, you can sell some of both in order to reduce the tax liability when you do your taxes next year. This is known as tax-loss harvesting. You can consult with Smedley Financial and/or your accountant to see how to best maximize your tax situation.

Qualified Charitable Distributions
If you are over age 70 ½ and are charitably inclined, then you still have time to do a Qualified Charitable Distribution or QCD. This year you don’t have to take a Required Minimum Distribution (RMD), so many people are considering not doing their QCD as well. However, we are still concerned the tax rates may go up in the future, so we would like to get as much money out of IRAs as possible tax-free. If you are going to make charitable donations anyway, a QCD is still a great option.

Convert your IRA to a Roth IRA
You can reduce future tax liabilities and take advantage of the current favorable tax environment by converting all or a portion of your tax-deferred retirement account to a Roth IRA. The conversion must be completed before December 31st. You can also use this strategy to maximize a low tax-bracket. For example, if you are married filing jointly, and your taxable income is $30,000, you can increase your taxable income to $40,125 and remain in the 12% tax-bracket. To get the full value of the conversion, plan to pay the taxes on the conversion from another account, such as a savings account.

Donate appreciated stock
If you have appreciated stock in your portfolio, you can donate the stock to a charity and avoid paying tax on the gain. Even better, if you itemize your taxes, you can receive a deduction for the value of the stock on the day the donation is made. One catch: you must have owned the stock for over one year before making the donation. Then you can invest the cash you would have donated to make a future donation.

Bunching deductions
The number of tax filers using the standard deduction has increased over the last couple of years. This is because the standard deduction was increased to a level that exceeds most filers’ tax deductions. However, if you are close to the standard deduction, you might consider bunching deductible items into one tax year. For example, you can make charitable donations for two years at a time or push medical expenses into one year. Then you can itemize every other year.

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What’s Your Estate Plan?

By | 2020, Money Moxie, Newsletter | No Comments

I was recently reminded of the importance of having a thorough and reliable estate plan. I can tell horror stories of family feuds and legal actions taken when the passing of an individual happens without a proper plan for their estate. I can speak of heartbreak when a loved one is suddenly placed on life support, and the family is unsure of how to proceed or unauthorized to make decisions for the hospitalized party. I can assure you that an estate plan is well worth your time and money. If one is not in place, unnecessary stress and complications will ensue.

A proper estate plan will contain multiple documents that protect an individual’s assets, healthcare wishes, and beneficiaries. The following are key documents in every estate plan. Please make sure they are a part of yours.

Will/Trust – A will or trust is used to control property from the grave. This control will ensure the transfer of property to the intended beneficiaries and avoid obstacles that can significantly reduce the benefit that heirs would otherwise enjoy. We highly recommend the use of an estate-planning attorney when creating these documents.

Executor of the Estate – An executor of an estate is an individual appointed to handle the affairs of the deceased person’s estate. He/she is responsible for making sure all assets in the will are accounted for, along with transferring these assets to the correct parties. We recommend that the executor of the estate is chosen carefully.

Power of Attorney – A power of attorney (POA) is a legal document giving a person (the agent) the power to act for another person (the principal). The agent can have broad legal authority or limited authority to make legal decisions about the principal’s property, finances, or medical care. A power of attorney is frequently used in the event of a principal’s illness or disability.

Living Will – A living will is a legal document that states a person’s choices about end-of-life medical treatments. It lays out the procedures or medications one does, or does not, want to prolong life. A living will is only valid if its creator is unable to communicate.

Medical Power of Attorney – A medical power of attorney gives someone else (the agent) the ability to make health care decisions for another person (the principal). The agent only has the power to act on the principal’s behalf when the principal is incapacitated, whether from loss of consciousness or mental ability.

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The Emotional Cycle of Investing

By | 2020, Money Moxie, Newsletter | No Comments

Emotions are a dominating force that impacts every aspect of our lives. The decisions we make, the interpretation of our experience, even our very personalities are all primarily influenced by our emotions. We are neurobiologically wired to create, feel, and think by emotion. In so many ways, our perceived realities are governed not by facts, but by feelings.

Psychologists believe that emotions drive 80% of the choices we make, while practicality and objectivity only represent 20% of our decision-making. This is because our brain has two sides, the thinking side, and the feeling side. The thinking brain is slow, rational, and objective. It deliberately, methodically, and logically reasons through information. The feeling brain is much faster. It is impulsive, emotional, and unconscious. It is also our default decision-making system.

How often do we describe the reason for a decision by saying, “It feels right?” Yet strangely, the mechanism we rely on most when making decisions is so fickle that it can be greatly altered even by what we ate (or did not eat).

This is why Dave Ramsey said that personal finance is not a math problem, but a behavior problem. Investors are emotional. Thus, they judge investment decisions mainly by emotion. This can have expensive consequences.

Most investors go through a recurring cycle that follows the market. This emotional cycle often leads an investor to make the wrong decision at the wrong time. You have heard the saying, “Buy low and sell high.” Logically, this means buying when everyone is feeling despondent (selling) and selling when everyone is feeling euphoric (buying). This is so much easier said than done.

One of many examples: In 2018, when the S&P 500 lost 4.38%, the financial analytics firm found that the average investor lost more than double that, at 9.42%. Investors lost money because they acted on emotion when markets declined. A study that same year published in the Journal of Financial Planning found that investors who implemented strategies to remove emotion saw returns up to 23% higher over a 10-year period.

As accredited Behavior Financial Advisors and Certified Financial Planners, we can help remove emotion from the equation and make wise financial decisions. Whether it is investments, estate planning, or a large purchase, we can provide the expertise that can make a positive difference in your financial future.

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What Makes the World Go ‘Round?

By | 2020, Money Moxie | No Comments

I ran my first half marathon in August of last year. I have never been much of a runner, but when the metabolism starts to slow down, you have got to do something. I chose to run.

Before last year, my distance record was 5 miles. That record had been in place since 2003, and I thought it would always stand. Now, here I am with, six half marathons under my belt and another four scheduled for later this year. I find crossing a finish line after pushing myself harder than I thought physically possible to be very rewarding. It makes me happy. But what does running have to do with finances?

It often appears as though the system in which we live is driven by money. It is so easy to get caught up in account balances, market returns, and investment news. We have all heard the saying, “Money makes the world go ‘round.” In today’s world, it is hard to disagree with that.

There is no question that money is essential. Money provides stability and opportunity. I have chosen to make a career out of helping people make wise financial decisions because I believe it is important. It is good to have money and the things it can buy, but what I value most in life, money can’t buy.

We talk with you a lot about money. We review your finances and performance on a regular basis. We talk about markets, the economy, and your investments. We build a financial plan and update it often. But the reason for all of this is not money. What is most important to us is that you live the life you truly want to live. We want you to achieve your goals, and we believe it is our job to help ensure money is never an excuse not to.

Recently I completed a short race with my 5-year-old daughter. After crossing the finish line with her and seeing her excitement and joy, I realized at that moment I could not be happier. Doing what I love, with those I love, is what makes me happiest. This was another reminder that life is too short, not to be happy.

What is it that you want to accomplish? What do you want to experience? What makes you happy? If you do not have answers to these questions, I challenge you to find them. Maybe it is to run a marathon or to visit another country; maybe it is to buy a new home or to pay the current home off. Whatever it is, we want to know about it. And if there is a financial component, we want to help you achieve it. Whatever your goals and dreams are, make sure they are the focus. Make sure they are what makes your world go ‘round.

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