Solano Real Estate Scene: Be an owner, not a loaner

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Consumers deposit money in federally insured banks and credit unions in exchange for a guaranteed rate of interest and no risk of principle loss. People also buy various types of life insurance policies and annuities in exchange for a guaranteed rate of return and cash values that are guaranteed by the insurance company. These banks and insurance companies are basically borrowing money from their clients and then investing in real estate, stocks and bonds. They hope to make a profit by obtaining a rate of return of 4 to 8 percent higher than the rate they have to pay out to their customers. This margin of 4 to 8 percent is usually enough to pay their overhead and make a profit. Banks invest in the American economy by making loans on everything from your basic automobile to $500 million commercial loans. They charge interest and fees on these loans at rates 4 to 8 percent greater than their cost of funds and this spread is how they make profits and stay in business. The huge Fortune 500 banks do more than just loans to make profits and losses with investment banking and trading. Insurance companies have invested in commercial real estate over the years but also participate in lending and investment banking to make profits. The reason they make a greater return than their clients make on their accounts is because they take more risk. The S&P 500 has returned an average of 10 percent annually since 1928 and much higher over the past 10 years. Real estate has been a pretty good investment for banks and insurance companies and this is super easy to see if we just look at my mom and dad’s first house. They purchased it in 1969 for $32,500, out near the beach in San Francisco. My brother Greg owns the home now and it’s appraising these days for more than $1 million. Insurance companies and banks love apartment buildings because of the low risk and the cash flow protected by inflation. My parents’ house could have rented for $350 per month in 1969 and now could be rented for $3,500 per month with a line of applicants around the block at that price. How much have the rents in the Transamerica Pyramid gone up since it was built? The answer is a lot! The purpose of this column is to point out that you don’t have to be an insurance company or a bank to be an owner of assets versus a loaner of your money for someone else to invest. The difference between getting a rate of return of 2 percent and 10 percent is amazing with the magic of compound interest. If you invest $1,000 per month for 30 years (360 months x 1,000 = $360,000) compounded monthly at 2 percent guaranteed, your asset will grow to $492,725, at 6 percent it will grow to a bit more than $1 million and at 10 percent it will grow to $2.26 million. It may be worth it to hire a professional investment adviser and a real estate professional to become an owner rather than a loaner and fight for a return of 6 to 10 percent . . . or more. I’d rather have $2.2 million than $500,000 for my retirement.