How bad of an idea would it be to invest down payment money in a REIT?

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toto238
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How bad of an idea would it be to invest down payment money in a REIT?

Post by toto238 »

So I have roughly $100k i will be receiving from a refi in the coming weeks, which i'm looking to use to purchase my next home (the plan is to rent out the old one). But I'm not going to be making the home purchase until probably Q2 of next year.

Under normal circumstances, I'd just sit it in a 3month CD or whatever the highest yielding money market mutual fund or high yield savings account was.

But the way real estate has been moving, the house I want to purchase may gain 10% or more in value between now and Q2!

So would it make sense to sit this money in something like the REIT Index fund so that it positively correlates with the real estate market in general?
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by ChrisRx »

Bad idea.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by SlowMovingInvestor »

I don't think REIT indexes (even residential REIT indexes) correlate well with home prices, especially in a particular area.

So it would be a a bad idea.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by 000 »

deleted, merged into one post below
Last edited by 000 on Wed Oct 27, 2021 8:43 pm, edited 2 times in total.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by finite_difference »

ChrisRx wrote: Wed Oct 27, 2021 8:23 pmBad idea.
I would tend to agree. Stick with an REIT or purchase a rental for yourself, but whatever you do invest for the long term and not the short term.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by bigdog34 »

Not a good idea. The average diversified REIT won't be a good proxy for your local residential real estate market.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by 000 »

A few risks:
  1. Most REITs are not residential. A REIT index fund is going to have mostly non-residential properties and increasingly many of the holdings of a REIT fund may not even be retail / office space that is traditionally correlated with residential real estate.
  2. REITs may be in a different geography than yours.
  3. REIT prices may move faster than direct property values.
  4. An individual REIT has business / manager risk versus the average home price in your area.
On the other hand there could still be significant asset inflation between now and a few months from now. There is risk everywhere and it depends on what kind of risk you want to take. You can choose between inflation risk and market risk but there is no perfect hedge for local real estate prices so you can't remove the risk completely.

If I were going to do something like this, I'd start by looking at a residential REIT ETF or direct indexing. There is still a lot of mismatch risk though due to geography and many of these Residential REITs being apartment buildings. There is also the risk of (future potential) rent moratoriums. I definitely would not put all or even most of my down payment money in.

One could consider putting most of the funds in CDs and ultra short term TIPS and using a very very small portion to buy calls on residential REITs. The options would most likely expire worthless but you could see that as an insurance expense depending on how concerned you are about this.

Finally we could just see deflation over the next few months in which case you'd wish you had the cash.

No matter what you choose it can always go the other way. :twisted:
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by Metsfan91 »

toto238 wrote: Wed Oct 27, 2021 8:19 pm So I have roughly $100k i will be receiving from a refi in the coming weeks, which i'm looking to use to purchase my next home (the plan is to rent out the old one). But I'm not going to be making the home purchase until probably Q2 of next year.

Under normal circumstances, I'd just sit it in a 3month CD or whatever the highest yielding money market mutual fund or high yield savings account was.

But the way real estate has been moving, the house I want to purchase may gain 10% or more in value between now and Q2!

So would it make sense to sit this money in something like the REIT Index fund so that it positively correlates with the real estate market in general?
No. It doesn't make sense. It is a bad idea...You can try it out though. You might get lucky. REITs are up lately. It may continue in this direction for near future. Risky! As they say, "High risk, higher return."
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by runner3081 »

Bad idea, but you could also get lucky ;)
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by nisiprius »

REITS are a kind of stock. It is common advice that money you will need in five years or less should not be invested in stocks. (I think even five years is too short).

Say it is spring of 2008 and you were planning to buy a house in spring of 2009. If you had invested $100,000 into the Vanguard REIT Index Fund, then by spring of 2009 you would have had only about $43,000. A loss of -57%.

Source: Morningstar

Image

House prices dropped, too, but over that same period the Case-Shiller housing index dropped from 170 to 149, or -12%.

Source: St. Louis Fed

Image

Houses cost -12% less, but the Vanguard Real Estate Index Fund lost -57%.

Over 85% of the Vanguard Real Estate Index Fund is invested in assets that are not the same as, and do not behave the same way, as the individual housing market.
Last edited by nisiprius on Wed Oct 27, 2021 9:48 pm, edited 5 times in total.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by 000 »

nisiprius wrote: Wed Oct 27, 2021 9:23 pm The kind of real estate REITS invest in is not the same as, and does not behave the same way, as the individual housing market.
Are you sure about that? Are you aware how much institutional money is flowing into the individual housing market?
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by nisiprius »

000 wrote: Wed Oct 27, 2021 9:33 pm
nisiprius wrote: Wed Oct 27, 2021 9:23 pm The kind of real estate REITS invest in is not the same as, and does not behave the same way, as the individual housing market.
Are you sure about that? Are you aware how much institutional money is flowing into the individual housing market?
Image

You tell me how much of the Vanguard Real Estate Index Fund is invested in single-family detached houses.

Only about 15% is in "residential REITS." What percentage of that 15% do you think is in single-family detached houses?

I edited my post to read "Over 85% of the Vanguard Real Estate Index Fund in is invested in assets that are not the same as, and do not behave the same way, as the individual housing market."
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by cchrissyy »

You're making an unfounded logical leap that price inflation in your local market has anything to do with the value of a REIT fund.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by 000 »

nisiprius wrote: Wed Oct 27, 2021 9:38 pm
000 wrote: Wed Oct 27, 2021 9:33 pm
nisiprius wrote: Wed Oct 27, 2021 9:23 pm The kind of real estate REITS invest in is not the same as, and does not behave the same way, as the individual housing market.
Are you sure about that? Are you aware how much institutional money is flowing into the individual housing market?
Image

You tell me how much of the Vanguard Real Estate Index Fund is invested in single-family detached houses.

Only about 15% is in "residential REITS." What percentage of that 15% do you think is in single-family detached houses?

I edited my post to read "Over 85% of the Vanguard Real Estate Index Fund in is invested in assets that are not the same as, and do not behave the same way, as the individual housing market."
That is true, but your post (I only quoted part of it, but was referencing all of it including the charts) seemed to be making a broader point that REITs do not behave as single homes because they're stocks, not because of the sector composition of a REIT index. I think that in a world where massive liquidity has found its way into single homes we should not assume that the stockiness of REITs makes them so different than they might have been, i.e. we should be open to the possibility of higher price volatility in single homes, which has certainly been the case in many markets the last 1.5 years.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by wetgear »

toto238 wrote: Wed Oct 27, 2021 8:19 pm So I have roughly $100k i will be receiving from a refi in the coming weeks, which i'm looking to use to purchase my next home (the plan is to rent out the old one).
This is usually not a good idea as you will lose the 250K tax exclusion on the sale of your primary home.

https://www.irs.gov/taxtopics/tc701

I did exactly what you are describing and wish someone had talked me out of it. Even with a great rental income for a decade, basically no repairs, and ridiculous appreciation I still came out a bit behind. I consider myself lucky that I learned the lesson without getting burned too bad but I can't imagine the stars aligning that well in most situations.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by diabelli »

I did this same thing you're considering and feel now like a fool.

Had 100k saved up for a downpayment, likely will be needed in 1-2 years.
Became afraid of possible accelerating inflation vs at least housing prices continuing to rise between now and our ultimate purchase.
Thought that a REIT would mirror those changes in housing prices and so plopped it all in the Vanguard fund, not taking the time to really understand that much of it wasn't even residential (and so would not mirror housing prices at all).
Once the money was invested I began to fear some type of broader economic crisis or market crash.

And so I pulled out the money and realized an approximate $1600 loss. Just foolishness. What a waste.
I'd keep the money in cash if I were you.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by toto238 »

wetgear wrote: Thu Oct 28, 2021 7:12 am
toto238 wrote: Wed Oct 27, 2021 8:19 pm So I have roughly $100k i will be receiving from a refi in the coming weeks, which i'm looking to use to purchase my next home (the plan is to rent out the old one).
This is usually not a good idea as you will lose the 250K tax exclusion on the sale of your primary home.

https://www.irs.gov/taxtopics/tc701

I did exactly what you are describing and wish someone had talked me out of it. Even with a great rental income for a decade, basically no repairs, and ridiculous appreciation I still came out a bit behind. I consider myself lucky that I learned the lesson without getting burned too bad but I can't imagine the stars aligning that well in most situations.
I’m not sure that logic applies in my situation. Basically I’m already decided I am purchasing a new home next year. Given that decision is already made, my choice is to either sell or rent out the old property.

So currently the house would have a cap gain of about $200k at most if I sold it, and my cap gain tax rate would almost certainly be 15%. So that’s $30k I could avoid in taxes by selling it now. Which would mean my tax bill for selling next year would be $0.

But if I instead rent it out, my tax bill next year for selling it will still be $0 because I didn’t sell it.

And moreover the $250k/$500k exclusion applies as long as I lived in the house for 2 out of the last 5 years. So that means after I move out I have 3 years to decide to sell it and still take advantage of that full tax exclusion.

So really this isn’t even a decision i have to make until 3 years after I sell the house where I can consider the Net Present Value of selling the house at that time and taking advantage of the full exclusion versus the Net Present Value of all the future income and appreciation it would provide. I’m betting that the future income/appreciation is going to be a lot more enticing than a one-time tax benefit. It’s important not to let the tax tail wag the investment dog.

Either way, I’m clear to rent the house out for 3 years before having to even make that decision.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by toto238 »

Metsfan91 wrote: Wed Oct 27, 2021 9:12 pm
toto238 wrote: Wed Oct 27, 2021 8:19 pm So I have roughly $100k i will be receiving from a refi in the coming weeks, which i'm looking to use to purchase my next home (the plan is to rent out the old one). But I'm not going to be making the home purchase until probably Q2 of next year.

Under normal circumstances, I'd just sit it in a 3month CD or whatever the highest yielding money market mutual fund or high yield savings account was.

But the way real estate has been moving, the house I want to purchase may gain 10% or more in value between now and Q2!

So would it make sense to sit this money in something like the REIT Index fund so that it positively correlates with the real estate market in general?
No. It doesn't make sense. It is a bad idea...You can try it out though. You might get lucky. REITs are up lately. It may continue in this direction for near future. Risky! As they say, "High risk, higher return."
Wouldn’t doing nothing or sitting this large sum of money in a savings account that earns 0.1% or less also be very risky? If my down payment money does not keep pace with the housing market over these next 6ish months, I could lose significant buying power for my next home. That’s a very huge risk.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by toto238 »

nisiprius wrote: Wed Oct 27, 2021 9:23 pm REITS are a kind of stock. It is common advice that money you will need in five years or less should not be invested in stocks. (I think even five years is too short).

Say it is spring of 2008 and you were planning to buy a house in spring of 2009. If you had invested $100,000 into the Vanguard REIT Index Fund, then by spring of 2009 you would have had only about $43,000. A loss of -57%.

Source: Morningstar

Image

House prices dropped, too, but over that same period the Case-Shiller housing index dropped from 170 to 149, or -12%.

Source: St. Louis Fed

Image

Houses cost -12% less, but the Vanguard Real Estate Index Fund lost -57%.

Over 85% of the Vanguard Real Estate Index Fund is invested in assets that are not the same as, and do not behave the same way, as the individual housing market.
Okay so perhaps a REIT that focuses specifically on residential real estate would make more sense.

I’m trying to insulate myself against the risk of sitting in cash for 6 months and having housing prices go up 10-20% which would significantly decrease my buying power. Is there a better way to protect myself from the risk that the price of my future house appreciates 20% in the next 6 months?

I understand a REIT is risky, but sitting in cash and not being invested in anything is also risky.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by toto238 »

diabelli wrote: Thu Oct 28, 2021 9:26 am I did this same thing you're considering and feel now like a fool.

Had 100k saved up for a downpayment, likely will be needed in 1-2 years.
Became afraid of possible accelerating inflation vs at least housing prices continuing to rise between now and our ultimate purchase.
Thought that a REIT would mirror those changes in housing prices and so plopped it all in the Vanguard fund, not taking the time to really understand that much of it wasn't even residential (and so would not mirror housing prices at all).
Once the money was invested I began to fear some type of broader economic crisis or market crash.

And so I pulled out the money and realized an approximate $1600 loss. Just foolishness. What a waste.
I'd keep the money in cash if I were you.
How long were you invested in that fund? If you invested $100k and lost $1.6k, that’s a 1.6% loss which could be a normal 1-day movement for a fund like that.

It wouldn’t necessarily have to be the vanguard reit index fund, but I’m looking for some kind of asset that will correlate strongly with the housing market for the next 6 months, to reduce the risk of losing a huge amount of buying power if housing prices continue to climb at the rate they have been.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by toto238 »

cchrissyy wrote: Wed Oct 27, 2021 9:54 pm You're making an unfounded logical leap that price inflation in your local market has anything to do with the value of a REIT fund.
I’m open to suggestions for how to best insulate myself against the risk that the housing market appreciates significantly over the next 6 months while im sitting in cash, significantly reducing my buying power.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by randomguy »

toto238 wrote: Thu Oct 28, 2021 10:22 am
cchrissyy wrote: Wed Oct 27, 2021 9:54 pm You're making an unfounded logical leap that price inflation in your local market has anything to do with the value of a REIT fund.
I’m open to suggestions for how to best insulate myself against the risk that the housing market appreciates significantly over the next 6 months while im sitting in cash, significantly reducing my buying power.
I don't think you will find one. Think about the problem. Imagine you are sitting on 20k for a 100k house purchase and that house goes up 20%. You need a 100% return to keep your mortgage at 80k. Your "hedge" is that your old property goes up in value also. Your aren't going to profit having the 100k invested but you will get some benefit from a rising market.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by kelvan80 »

toto238 wrote: Thu Oct 28, 2021 10:05 am
wetgear wrote: Thu Oct 28, 2021 7:12 am
toto238 wrote: Wed Oct 27, 2021 8:19 pm So I have roughly $100k i will be receiving from a refi in the coming weeks, which i'm looking to use to purchase my next home (the plan is to rent out the old one).
This is usually not a good idea as you will lose the 250K tax exclusion on the sale of your primary home.

https://www.irs.gov/taxtopics/tc701

I did exactly what you are describing and wish someone had talked me out of it. Even with a great rental income for a decade, basically no repairs, and ridiculous appreciation I still came out a bit behind. I consider myself lucky that I learned the lesson without getting burned too bad but I can't imagine the stars aligning that well in most situations.
I’m not sure that logic applies in my situation. Basically I’m already decided I am purchasing a new home next year. Given that decision is already made, my choice is to either sell or rent out the old property.

So currently the house would have a cap gain of about $200k at most if I sold it, and my cap gain tax rate would almost certainly be 15%. So that’s $30k I could avoid in taxes by selling it now. Which would mean my tax bill for selling next year would be $0.

But if I instead rent it out, my tax bill next year for selling it will still be $0 because I didn’t sell it.

And moreover the $250k/$500k exclusion applies as long as I lived in the house for 2 out of the last 5 years. So that means after I move out I have 3 years to decide to sell it and still take advantage of that full tax exclusion.

So really this isn’t even a decision i have to make until 3 years after I sell the house where I can consider the Net Present Value of selling the house at that time and taking advantage of the full exclusion versus the Net Present Value of all the future income and appreciation it would provide. I’m betting that the future income/appreciation is going to be a lot more enticing than a one-time tax benefit. It’s important not to let the tax tail wag the investment dog.

Either way, I’m clear to rent the house out for 3 years before having to even make that decision.
You'll also be dealing with depreciation recapture from those two years. Do you understand how that works and what rate it is taxed at? Money for a down payment should not be in the market if needed in the next year.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by pizzy »

toto238 wrote: Thu Oct 28, 2021 10:22 am
cchrissyy wrote: Wed Oct 27, 2021 9:54 pm You're making an unfounded logical leap that price inflation in your local market has anything to do with the value of a REIT fund.
I’m open to suggestions for how to best insulate myself against the risk that the housing market appreciates significantly over the next 6 months while im sitting in cash, significantly reducing my buying power.
1. Continue to save
2. Reduce down payment and finance any market appreciation that occurs

You don't invest money you need in 6 months if you care about capital preservation.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by diabelli »

toto238 wrote: Thu Oct 28, 2021 10:18 am
diabelli wrote: Thu Oct 28, 2021 9:26 am I did this same thing you're considering and feel now like a fool.

Had 100k saved up for a downpayment, likely will be needed in 1-2 years.
Became afraid of possible accelerating inflation vs at least housing prices continuing to rise between now and our ultimate purchase.
Thought that a REIT would mirror those changes in housing prices and so plopped it all in the Vanguard fund, not taking the time to really understand that much of it wasn't even residential (and so would not mirror housing prices at all).
Once the money was invested I began to fear some type of broader economic crisis or market crash.

And so I pulled out the money and realized an approximate $1600 loss. Just foolishness. What a waste.
I'd keep the money in cash if I were you.
How long were you invested in that fund? If you invested $100k and lost $1.6k, that’s a 1.6% loss which could be a normal 1-day movement for a fund like that.

It wouldn’t necessarily have to be the vanguard reit index fund, but I’m looking for some kind of asset that will correlate strongly with the housing market for the next 6 months, to reduce the risk of losing a huge amount of buying power if housing prices continue to climb at the rate they have been.
I was invested for about a month from 9/04/21 to early this month. If you look you'll see that my Buy was at a sort of little peak to which it then didn't return. After I'd decided to go back to cash I did wait a couple of weeks, hoping for a little fluctuation back upward so that I could sell. But then I realized I was market timing and the objective was to not be foolish anymore
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by exodusNH »

toto238 wrote: Thu Oct 28, 2021 10:22 am
cchrissyy wrote: Wed Oct 27, 2021 9:54 pm You're making an unfounded logical leap that price inflation in your local market has anything to do with the value of a REIT fund.
I’m open to suggestions for how to best insulate myself against the risk that the housing market appreciates significantly over the next 6 months while im sitting in cash, significantly reducing my buying power.
I think you're worrying about stuff that you have no control over. There are no investments that will return you anything significant in a 6 month time frame without far more risk than housing continuing its run.

Talking specifics, if your fear is that housing increased by 20% in the next 6 months and want something that matches that, you're looking for a 40% annual return. There is nothing reasonable you can do about that. Even 5% at 6 months requires a 10% annualized return (roughly.) Is that possible? Sure, but not without the risk of it dropping 20-50% first. (q.v. S&P500 Jan-March 2020).

A short-term TIPS fund is probably your best bet, since that, before taxes and fees, should keep up with inflation. (Though your personal inflation rate is always different from whatever you see published.) However, even "short term" for that is 1-3 years, meaning the value of the fund could drop if interest rates start to increase.

The reasonable option is a FDIC savings account. Those are paying about 0.5%. Anything else and you risk anywhere from a 5%-50% (temporary) loss of principal.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by toto238 »

kelvan80 wrote: Thu Oct 28, 2021 11:18 am
toto238 wrote: Thu Oct 28, 2021 10:05 am
wetgear wrote: Thu Oct 28, 2021 7:12 am
toto238 wrote: Wed Oct 27, 2021 8:19 pm So I have roughly $100k i will be receiving from a refi in the coming weeks, which i'm looking to use to purchase my next home (the plan is to rent out the old one).
This is usually not a good idea as you will lose the 250K tax exclusion on the sale of your primary home.

https://www.irs.gov/taxtopics/tc701

I did exactly what you are describing and wish someone had talked me out of it. Even with a great rental income for a decade, basically no repairs, and ridiculous appreciation I still came out a bit behind. I consider myself lucky that I learned the lesson without getting burned too bad but I can't imagine the stars aligning that well in most situations.
I’m not sure that logic applies in my situation. Basically I’m already decided I am purchasing a new home next year. Given that decision is already made, my choice is to either sell or rent out the old property.

So currently the house would have a cap gain of about $200k at most if I sold it, and my cap gain tax rate would almost certainly be 15%. So that’s $30k I could avoid in taxes by selling it now. Which would mean my tax bill for selling next year would be $0.

But if I instead rent it out, my tax bill next year for selling it will still be $0 because I didn’t sell it.

And moreover the $250k/$500k exclusion applies as long as I lived in the house for 2 out of the last 5 years. So that means after I move out I have 3 years to decide to sell it and still take advantage of that full tax exclusion.

So really this isn’t even a decision i have to make until 3 years after I sell the house where I can consider the Net Present Value of selling the house at that time and taking advantage of the full exclusion versus the Net Present Value of all the future income and appreciation it would provide. I’m betting that the future income/appreciation is going to be a lot more enticing than a one-time tax benefit. It’s important not to let the tax tail wag the investment dog.

Either way, I’m clear to rent the house out for 3 years before having to even make that decision.
You'll also be dealing with depreciation recapture from those two years. Do you understand how that works and what rate it is taxed at? Money for a down payment should not be in the market if needed in the next year.
Depreciation recapture only applies to the dollar amount I depreciated the property and thus deducted from my taxes. For real estate, last I checked, it also maxes out at 25%. I believe it's somewhat standard that you can depreciate roughly 3-4% of the value of the property (not counting the land). So this house was purchased for $153k, let's say $125k was the depreciable building. So i could deduct roughly $4k-ish per year from my taxable income which would be about $900-ish in tax savings per year.

Then if I were to sell the house after 3 years, the $12k-ish in depreciation that I've used so far would be taxable as regular income, which if i'm still in the same tax bracket of 22% (or in a worst case scenario hit the 25% max rate), then at that time i'll owe at most $3k in depreciation recapture tax, after having gained $2.7k in tax benefit the prior 3 years. That's a total loss of $300, which is small potatoes.

Another example of letting the tax tail wag the investment dog, I think.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by FoundingFather »

toto238 wrote: Thu Oct 28, 2021 10:07 am Wouldn’t doing nothing or sitting this large sum of money in a savings account that earns 0.1% or less also be very risky? If my down payment money does not keep pace with the housing market over these next 6ish months, I could lose significant buying power for my next home. That’s a very huge risk.
So far, assuming that I counted correctly, you have had 15 people (including myself) voice to you that investing your home purchase money in stocks is a poor idea. None have strongly endorsed your proposal as wise, yet you seem to have held to your original idea.

I generally find that, when everyone is telling me I am wrong but I remain undaunted, I need to do a little soul searching regarding the reasons for my certainty. Usually I find very little to support my line of reasoning in those moments, and am forced to admit that I only have desire or emotion on my side.

If you find that, despite the well reasoned disagreements you have received, you still want to pursue your more risky, but potentially more rewarding, approach, then do it, knowing that you either (1) have knowledge we do not regarding your individual situation, or (2) that any loss you experience is simply the cost of appeasing your emotions.

Good luck!

Founding Father
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by toto238 »

pizzy wrote: Thu Oct 28, 2021 11:24 am
toto238 wrote: Thu Oct 28, 2021 10:22 am
cchrissyy wrote: Wed Oct 27, 2021 9:54 pm You're making an unfounded logical leap that price inflation in your local market has anything to do with the value of a REIT fund.
I’m open to suggestions for how to best insulate myself against the risk that the housing market appreciates significantly over the next 6 months while im sitting in cash, significantly reducing my buying power.
1. Continue to save
2. Reduce down payment and finance any market appreciation that occurs

You don't invest money you need in 6 months if you care about capital preservation.
Given that the sole purpose of this money is to use as a down payment for a purchase, what I care about is it maintaining its value relative to the house i would be looking to purchase. If the house and my down payment both go down by 10% in value, i'm indifferent to that situation.

e.g. for a 100k down payment on a 500k home, i am hitting 20% as a down payment which is generally required to avoid PMI. If both go either up or down in value by 10%, that down payment is still 20% of the value of the home.

If i finance any market appreciation that occurs, I could risk hitting PMI or having to significantly downsize the size home I'm looking to purchase.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by toto238 »

FoundingFather wrote: Thu Oct 28, 2021 11:49 am
toto238 wrote: Thu Oct 28, 2021 10:07 am Wouldn’t doing nothing or sitting this large sum of money in a savings account that earns 0.1% or less also be very risky? If my down payment money does not keep pace with the housing market over these next 6ish months, I could lose significant buying power for my next home. That’s a very huge risk.
So far, assuming that I counted correctly, you have had 15 people (including myself) voice to you that investing your home purchase money in stocks is a poor idea. None have strongly endorsed your proposal as wise, yet you seem to have held to your original idea.

I generally find that, when everyone is telling me I am wrong but I remain undaunted, I need to do a little soul searching regarding the reasons for my certainty. Usually I find very little to support my line of reasoning in those moments, and am forced to admit that I only have desire or emotion on my side.

If you find that, despite the well reasoned disagreements you have received, you still want to pursue your more risky, but potentially more rewarding, approach, then do it, knowing that you either (1) have knowledge we do not regarding your individual situation, or (2) that any loss you experience is simply the cost of appeasing your emotions.

Good luck!

Founding Father
I am not married to the idea and as have stated in my other responses am very open to other ideas anyone has for reducing my inflation risk over the next 6 months specifically in regards to real estate. This was just one thing I could think of that could potentially protect against that inflation risk, but it carries other risks.

if you have other suggestions for how to reduce my inflation risk over the next 6 months I'm open to that for sure!
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by toto238 »

exodusNH wrote: Thu Oct 28, 2021 11:37 am
toto238 wrote: Thu Oct 28, 2021 10:22 am
cchrissyy wrote: Wed Oct 27, 2021 9:54 pm You're making an unfounded logical leap that price inflation in your local market has anything to do with the value of a REIT fund.
I’m open to suggestions for how to best insulate myself against the risk that the housing market appreciates significantly over the next 6 months while im sitting in cash, significantly reducing my buying power.
I think you're worrying about stuff that you have no control over. There are no investments that will return you anything significant in a 6 month time frame without far more risk than housing continuing its run.

Talking specifics, if your fear is that housing increased by 20% in the next 6 months and want something that matches that, you're looking for a 40% annual return. There is nothing reasonable you can do about that. Even 5% at 6 months requires a 10% annualized return (roughly.) Is that possible? Sure, but not without the risk of it dropping 20-50% first. (q.v. S&P500 Jan-March 2020).

A short-term TIPS fund is probably your best bet, since that, before taxes and fees, should keep up with inflation. (Though your personal inflation rate is always different from whatever you see published.) However, even "short term" for that is 1-3 years, meaning the value of the fund could drop if interest rates start to increase.

The reasonable option is a FDIC savings account. Those are paying about 0.5%. Anything else and you risk anywhere from a 5%-50% (temporary) loss of principal.
I think what I'm trying to say is not that I need a 40% annual return, but that I am trying to find something that correlates strongly with the housing market. From my point of view, if the price of the house I want to purchase and my down payment i'm going to use to purchase it both decrease by 20% in the next 6 months, I'm relatively indifferent to that situation. In fact, if anything, I slightly gain in that situation since my future mortgage would be smaller. If they both increase by 20% in the next 6 months, i'm mostly indifferent as well, since i'm still maintaining the needed 20% down payment to avoid PMI. While my mortgage would be somewhat higher, my current property likely would have also appreciated in value providing some offset there.

What I'm saying is i'm okay if the housing market goes down and my down payment along with it as long as they match each other closely. What I really want to avoid is either not being able to afford the house I want to purchase in 6 months, or not being able to meet the 20% needed to avoid PMI, significantly increasing my monthly costs until it can be gotten rid of.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by pizzy »

toto238 wrote: Thu Oct 28, 2021 11:59 am I am trying to find something that correlates strongly with the housing market
You aren't buying the housing market in 6 months. You are buying a particular property in a particular location. The housing market could go down 10% and that house could go up 20%.

It's like assuming that since the S&P 500 goes up, all 500 stocks also goes up.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by toto238 »

pizzy wrote: Thu Oct 28, 2021 12:04 pm
toto238 wrote: Thu Oct 28, 2021 11:59 am I am trying to find something that correlates strongly with the housing market
You aren't buying the housing market in 6 months. You are buying a particular property in a particular location. The housing market could go down 10% and that house could go up 20%.

It's like assuming that since the S&P 500 goes up, all 500 stocks also goes up.
So really the best thing to do is sit in cash, maybe get 0.5% out of this money, and just accept the risk that housing inflation over the next 6 months could very well significantly hurt my ability to buy a home in 6 months?

There has to be some way to protect against this risk. I dunno. Maybe there’s nothing to be done. I just have to cross my fingers and hope for housing prices to not move over the next 6 months or accept that I’ll be raising my kids in a significantly smaller house than I wanted to.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by pizzy »

toto238 wrote: Thu Oct 28, 2021 12:57 pm
pizzy wrote: Thu Oct 28, 2021 12:04 pm
toto238 wrote: Thu Oct 28, 2021 11:59 am I am trying to find something that correlates strongly with the housing market
You aren't buying the housing market in 6 months. You are buying a particular property in a particular location. The housing market could go down 10% and that house could go up 20%.

It's like assuming that since the S&P 500 goes up, all 500 stocks also goes up.
So really the best thing to do is sit in cash, maybe get 0.5% out of this money, and just accept the risk that housing inflation over the next 6 months could very well significantly hurt my ability to buy a home in 6 months?

There has to be some way to protect against this risk. I dunno. Maybe there’s nothing to be done. I just have to cross my fingers and hope for housing prices to not move over the next 6 months or accept that I’ll be raising my kids in a significantly smaller house than I wanted to.
The “hurt your ability” isn’t correct. It’s your desire to put a certain % down and your inflexibility with that decision. In your $100/$500 20% example, if house goes to $550, it doesn’t hurt your ability to buy the house if you still only have $100. You’d just be putting 18.2% down.

As I mentioned earlier, a wise decision would be to continue to add to the $100 over the next several months. Doesn’t mean you have to use it all, but it would lessen the blow if the house appreciates materially.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by exodusNH »

toto238 wrote: Thu Oct 28, 2021 11:59 am
exodusNH wrote: Thu Oct 28, 2021 11:37 am
toto238 wrote: Thu Oct 28, 2021 10:22 am
cchrissyy wrote: Wed Oct 27, 2021 9:54 pm You're making an unfounded logical leap that price inflation in your local market has anything to do with the value of a REIT fund.
I’m open to suggestions for how to best insulate myself against the risk that the housing market appreciates significantly over the next 6 months while im sitting in cash, significantly reducing my buying power.
I think you're worrying about stuff that you have no control over. There are no investments that will return you anything significant in a 6 month time frame without far more risk than housing continuing its run.

Talking specifics, if your fear is that housing increased by 20% in the next 6 months and want something that matches that, you're looking for a 40% annual return. There is nothing reasonable you can do about that. Even 5% at 6 months requires a 10% annualized return (roughly.) Is that possible? Sure, but not without the risk of it dropping 20-50% first. (q.v. S&P500 Jan-March 2020).

A short-term TIPS fund is probably your best bet, since that, before taxes and fees, should keep up with inflation. (Though your personal inflation rate is always different from whatever you see published.) However, even "short term" for that is 1-3 years, meaning the value of the fund could drop if interest rates start to increase.

The reasonable option is a FDIC savings account. Those are paying about 0.5%. Anything else and you risk anywhere from a 5%-50% (temporary) loss of principal.
I think what I'm trying to say is not that I need a 40% annual return, but that I am trying to find something that correlates strongly with the housing market. From my point of view, if the price of the house I want to purchase and my down payment i'm going to use to purchase it both decrease by 20% in the next 6 months, I'm relatively indifferent to that situation. In fact, if anything, I slightly gain in that situation since my future mortgage would be smaller. If they both increase by 20% in the next 6 months, i'm mostly indifferent as well, since i'm still maintaining the needed 20% down payment to avoid PMI. While my mortgage would be somewhat higher, my current property likely would have also appreciated in value providing some offset there.

What I'm saying is i'm okay if the housing market goes down and my down payment along with it as long as they match each other closely. What I really want to avoid is either not being able to afford the house I want to purchase in 6 months, or not being able to meet the 20% needed to avoid PMI, significantly increasing my monthly costs until it can be gotten rid of.
You are not going to find what you are looking for. Your best bet is a high-yield FDIC-savings account. Maybe short-term TIPS, but you have principal risk there.

Real estate is hyperlocal. As a recent reply stated, the area you're looking at might go up 20% while the market as a whole goes up 10% or even declines.

6 months is just not a long-enough time to risk putting money in the market. It's obviously your money. Do with it what you will. Maybe you'll get lucky. Maybe you'll encounter March 2020 while real estate stays flat.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by mikejuss »

Unfortunately, it sounds like you just need to save more, OP. Don't invest money that you intend to use for a downpayment.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by nisiprius »

Just pursuing the idea logically.

Pacaso is a new and controversial business that purports to sell fractional ownership in single houses--mostly expensive vacation houses in resorts, I think. I dunno much about it. It sounds just like a timeshare, but of course they are very insistent that it is not at all like a timeshare. According to news stories, (some) homeowners in neighborhoods where Pacaso is buying houses hate it and are up in arms about it.

If
  • Pacaso were operating in your area, and
  • if they had available a house generally similar to the kind you are hoping to buy, and
  • if they sell fractional shares for as little as $100,000, (which I doubt)
  • if there aren't a boatload of fees for buying and selling Pacaso fractional ownership shares, and
  • if Pacaso fractional ownerships are highly liquid and not too volatile,
then I suppose logically you could invest your down payment money in a fractional share of an existing house.

In other words, invest your down payment money in a fractional share of an existing house now.

That's a thought experiment only.

It is amazingly difficult to do a proper Google search on "Pacaso." Google is sure I really wanted to know about "Picasso."
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by Gabriel A. Lozada »

The web site www.homepricefutures.com says it is run by an "independent market maker for the CME S&P Case Shiller (home price index) futures." Wikipedia's entry on the Case-Shiller Indexes, en.wikipedia.org/wiki/Case%E2%80%93Shiller_index, reports that "Shiller himself has said that `there has been a disappointing volume of trade in these futures markets'.” Unfortunately I don't know anything more about this topic; it's too bad there does not seem to be an easy way to hedge residential real estate, since it is a significant future liability for many (especially young) people, and there are (especially older) people who own homes and presumably would be interested in taking the other side of the trades (insuring themselves against home price declines, while the younger people seek insurance against home price increases).
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by UpperNwGuy »

toto238 wrote: Thu Oct 28, 2021 12:57 pm So really the best thing to do is sit in cash, maybe get 0.5% out of this money, and just accept the risk that housing inflation over the next 6 months could very well significantly hurt my ability to buy a home in 6 months?

There has to be some way to protect against this risk. I dunno. Maybe there’s nothing to be done. I just have to cross my fingers and hope for housing prices to not move over the next 6 months or accept that I’ll be raising my kids in a significantly smaller house than I wanted to.
Yes, sit in cash is the best thing you can do. Your desire to do otherwise is unrealistic.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by rockstar »

The last time I had cash for a down payment I had it in 3 month t-bills. I don't want to risk principal for a purchase being made in less than a year.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by Trader Joe »

toto238 wrote: Wed Oct 27, 2021 8:19 pm So I have roughly $100k i will be receiving from a refi in the coming weeks, which i'm looking to use to purchase my next home (the plan is to rent out the old one). But I'm not going to be making the home purchase until probably Q2 of next year.

Under normal circumstances, I'd just sit it in a 3month CD or whatever the highest yielding money market mutual fund or high yield savings account was.

But the way real estate has been moving, the house I want to purchase may gain 10% or more in value between now and Q2!

So would it make sense to sit this money in something like the REIT Index fund so that it positively correlates with the real estate market in general?
Very bad.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by Sandtrap »

toto238 wrote: Wed Oct 27, 2021 8:19 pm So I have roughly $100k i will be receiving from a refi in the coming weeks, which i'm looking to use to purchase my next home (the plan is to rent out the old one). But I'm not going to be making the home purchase until probably Q2 of next year.

Under normal circumstances, I'd just sit it in a 3month CD or whatever the highest yielding money market mutual fund or high yield savings account was.

But the way real estate has been moving, the house I want to purchase may gain 10% or more in value between now and Q2!

So would it make sense to sit this money in something like the REIT Index fund so that it positively correlates with the real estate market in general?
No
Funds needed in 3-5 years must have:
Accessibility
Security of Principle
Liquidity

On a scale of 1-10 of bad ideas this is a 30.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by welloiledinvestor »

Others have already pointed out how bad of an idea this is.
You shouldn't be investing the down payment, period, whether it's REIT, stocks, etc.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by 000 »

Let's consider a situation if someone had come here in February asking about a six month holding period (August is most recent data).
nisiprius wrote: Wed Oct 27, 2021 9:23 pm Source: St. Louis Fed
Using this link to test the period from February 2021 to August 2021 I see a 10% increase.

According to portfolio visualizer, over the same time period:

Cash returned 0.02%
The REZ ETF returned 36.14%
** A 50/50 mix of INVH and AMH (two REITs specializing in single homes) returned 40.64%
** A balanced portfolio of 40% cash, 40% VTIP, 10% REZ, 5% INVH, and 5% AMH returned 9.13%

Which one of those portfolios best matched residential home asset inflation?


** I offer these for illustration not necessarily suggesting putting 50% or even 5% into a single REIT.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by welloiledinvestor »

In my opinion, it's not an argument of return but do we need funds readily available for the down payment? Answer is yes, we do. We have no idea what the market is going to do. I would never suggest investing a down payment, no matter when they asked that question.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by Scoop21 »

toto238 wrote: Thu Oct 28, 2021 10:05 am ...
So currently the house would have a cap gain of about $200k at most if I sold it, and my cap gain tax rate would almost certainly be 15%. So that’s $30k I could avoid in taxes by selling it now.
...
So really this isn’t even a decision i have to make until 3 years after I sell the house where I can consider the Net Present Value of selling the house at that time and taking advantage of the full exclusion versus the Net Present Value of all the future income and appreciation it would provide. I’m betting that the future income/appreciation is going to be a lot more enticing than a one-time tax benefit. It’s important not to let the tax tail wag the investment dog.
...
You seem to be implying that the comparison is between the 30k tax savings from selling in the next 3 years and future income and appreciation of the property forever. This is not the correct comparison, because in addition to the tax benefit when selling the house, you get the principle you have tied up in the house which can then be invested. So a proper comparison would be the principle (less selling costs) invested with a similar risk profile to real estate vs the house value (less selling costs including the lost tax benefit) and value of net earnings from the house, all at some future time when you think you may want the money. I have no guidance on what constitutes an asset allocation with similar risk to real estate, others may be able to help with that of you really want to try to project out. But this difficult comparison is only really necessary if you don't really want to be a landlord, and this was just an arrangement of convenience.

If you do want to be a landlord, it gets much easier, since the investment of equal risk profile is just another house. Then the comparison becomes sell the house, taking advantage of the tax benefit, and use the proceeds to purchase another similar house, vs just keeping the house and losing the tax benefit. Future earnings and appreciation the the hoises are the same. So it's a decision between 30k vs the cost to sell a house, buy a house, plus however you value the hassle of selling and buying a house.

In regards to protecting the home purchasing power of your down payment from inflation in your local housing market, the only investment that will do that is, well, a house in your local housing market. And fortunately, you have one! They are presumably in different price ranges, so that could cause some variation in appreciation. But overall they should correlate pretty well. This means that if the new house price increases, your current house value will increase as well (but not covering the full appreciation since it is less expensive, only the ratio old house value / new house value of the appreciation). But that offsets some of your risk. Ideally you would have waited to do the cash out refi until you were ready to purchase since if there is significant housing appreciation you would need to do another cash out refi to access the appreciation in your old house to offset some in the new house. And you are also now paying interest on a larger mortgage while you have significant cash (your down payment) sitting on the sidelines.

This brings up a final point. There is one investment that returns a higher guaranteed rate for you right now that any other safe asset: paying down your current mortgage. This will net you a guaranteed tax free rate of return equal to your mortgage rate (potentially slightly lower depending on your deductibility situation), at the cost of cash out refi fees when you wish to purchase the new house. Depending on the cost of a refi in your area, this may be the best safe option.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by folkher0 »

toto238 wrote: Thu Oct 28, 2021 12:57 pm
So really the best thing to do is sit in cash, maybe get 0.5% out of this money, and just accept the risk that housing inflation over the next 6 months could very well significantly hurt my ability to buy a home in 6 months?

There has to be some way to protect against this risk. I dunno. Maybe there’s nothing to be done. I just have to cross my fingers and hope for housing prices to not move over the next 6 months or accept that I’ll be raising my kids in a significantly smaller house than I wanted to.
You have the down payment, why not just buy the house now?
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by Valuethinker »

toto238 wrote: Wed Oct 27, 2021 8:19 pm So I have roughly $100k i will be receiving from a refi in the coming weeks, which i'm looking to use to purchase my next home (the plan is to rent out the old one). But I'm not going to be making the home purchase until probably Q2 of next year.

Under normal circumstances, I'd just sit it in a 3month CD or whatever the highest yielding money market mutual fund or high yield savings account was.

But the way real estate has been moving, the house I want to purchase may gain 10% or more in value between now and Q2!

So would it make sense to sit this money in something like the REIT Index fund so that it positively correlates with the real estate market in general?
Correlation between REIT and individual housing prices is very low (non existent I would say).

You have to match the duration of the asset to the timing of the liability. The best hedge is therefore something which pays out in 3m time or whenever you expect to make the purchase.

And the asset needs to be 100% safe.

REITs are more volatile than the stock market as a whole so you proposed investment could lose you half your downpayment, say. How would you feel then? What would be Plan B?
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by mary1492 »

xyzzy
Last edited by mary1492 on Tue Oct 04, 2022 4:46 pm, edited 1 time in total.
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Re: How bad of an idea would it be to invest down payment money in a REIT?

Post by Harry Livermore »

I agree with the nearly unanimous sentiment expressed by the other BH'ers here... BAD idea.
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