‘A son can bear with equanimity the loss of his father, but the loss of his inheritance may drive him to despair.’ – Niccolo Machiavelli
Over the past week, I had three meetings with individuals who each received a very respectable inheritance. In each case, they asked me if I thought they should take the money and buy Israeli real estate, because “it always goes up in value, and my kids/friends told me it was the best thing to do with the money.”
As is often the case, while children and friends mean well, they often lack critical information that greatly influences such important decisions.
The first two meetings were with people approaching retirement. Both were struggling somewhat financially, and with very small pensions, National Insurance Institute (Bituah Leumi), and minimum Social Security, they were counting on this inheritance money to make it through retirement.
After running through the first man’s financial situation, we calculated that he would need about NIS 10,000 a month to supplement his various income sources during retirement. He told me his son had told him he could make NIS 6,000 in rental income if he bought a particular apartment.
I said if he listens to his son, he would be shooting himself in the foot. He would not generate the money he needs to make ends meet on a monthly basis, and if he needs a chunk of cash, he wouldn’t have any, because he sunk it all into an apartment.
Keep in mind that real estate in Israel generates 2%-4% from rental income. The name of the game here is capital appreciation, meaning that most of the total return gained in Israeli real estate comes from buying a place for NIS 2.5 million and selling it for NIS 3.5m.
Investing money in stocks and fixed-income portfolio
That might not be such a big help if you are lacking current income. It may pay to invest the money in a stock and fixed-income portfolio. You will be able to achieve the same level of income, if not more, than in rental property, with potential for capital appreciation. Most importantly, you will preserve your liquidity, which is so important.
As we age, I am a big believer that we need more and more liquidity. Liquidity is the ability to quickly convert an investment into cash. For example, a savings account is highly liquid. In contrast, real estate is considered to have low liquidity because of the time it takes to sell the property; if you need to sell quickly, such as a fire sale, you will end up paying the piper, as the price of your property will drop.
Let’s say one of the people discussed above went ahead and put almost all of their cash into a rental apartment. One day, heaven forbid, they have a health crisis that requires them to make a renovation to their home to make it wheelchair accessible, and it costs $50,000. How will that be paid for? You can’t take a saw and cut off a room and say, “Take a bedroom; it’s worth $50,000.” It just doesn’t work that way.
After analyzing the financial situation of the second person, I asked the wife, “Do you want to be a landlady? Are you prepared to take that call at 2 a.m. when a pipe breaks, and it’s your responsibility to fix it?” She answered: “I’m not at all cut out for this. I don’t want the hassle and responsibility of renting out an apartment.” Her friends never bothered to ask that question.
The third meeting was a bit different. The couple were in their mid-40s, were saving money monthly, had a moderate investment portfolio, and were contributing to their Keren Hishtalmut (tax-free savings and investment plan) and pension.
They were in a good place financially. They were able to use their inheritance money to make a large down payment and take on a small mortgage. The rent generated would more than pay for the mortgage, which meant they would have an additional source of funds to either plow into savings or pay off the mortgage earlier than planned. For them to consider rental property made sense, as they are still in the wealth-accumulation phase of life.
Property can be a great investment. Investing in the stock market can be a great investment. As I have made clear in this column, I am all for saving and investing money. But don’t get carried away by relatives and “know it all” friends who have no idea of your specific financial situation and try to convince you to buy a property.
They aren’t the ones who will make up your monthly shortfall or deal with the exploded solar water heater (dud shemesh) at 2 a.m. If you receive an inheritance and are thinking about a property investment, ask yourself if you are cut out to be a landlord and if the purchase will positively or negatively impact your finances.
The information contained in this article reflects the opinion of the author and not necessarily the opinion of Portfolio Resources Group, Inc. or its affiliates.
aaron@lighthousecapital.co.il
Aaron Katsman is the author of Retirement GPS: How to Navigate Your Way to A Secure Financial Future with Global Investing.