Dateline: Tallinn, Estonia
I frequently talk about my five magic words for enhancing your freedom and prosperity: “go where you’re treated best”.
This is based on my idea that no one place is perfect for everything. For instance, the country with the world’s safest banks… but that charges you $80,000 to register your car if you dare live there.
In my mind, the US real estate market has been propped up by a bunch of people who don’t follow that rule. How many Americans do you see buying foreign real estate? The insular nature of American culture means that, unlike wealthy Russians or Chinese who gobble up overseas properties at lightning speed, few Americans look beyond their own borders for opportunities.
Worse, the US government’s fascination with thrusting homeownership on the public – complete with unsustainable tax deductions that make every homeowner a crony capitalist – distorts the marketplace.
Back in 2005, I was just starting my business in the broadcast infomercial industry. I was living in Phoenix, Arizona at the time and real estate was hot as a pistol. People were camping out in front of new developments to pay insane prices for plots of land with little cookie-cutter homes on the edges of the desert.
For me, this was good business. The real estate industry in California, Arizona and beyond was spending money like water. Everyone with a pulse wanted to produce radio infomercials for ego and profit. But as much as I enjoyed the success, I knew one thing: buying some tract house at an inflated price was a recipe for disaster.
Back then, my clients were shouting at radio listeners that “mortgage rates would never get any lower!” The idea that you could finance a house for 6% interest was unheard of at the time, and every bartender-turned-mortgage guru was making sure you knew all about it.
Of course, they were merely salesmen, not economic prognosticators. I later purchased a house not only at a fire sale price but at a 3.75% interest rate.
The point of this is simple: I benefitted from the mortgage frenzy in a way that benefitted me, without having to deal with the bad parts (such as buying a home that would plummet in value).
When I decided to travel full-time rather than just six months a year, I made the long-term decision to sell that house. And when the real estate agent told me I would earn a 60% return on a short-term holding, I knew something was wrong.
Yes, my conscious decision to wait until the bottom fell out of an obviously exuberant market paid off handsomely. But it paid off handsomely in large part because prices got so low that every hedge fund was buying up properties to rent out, drive up prices, and eventually dump. I believe that the next price drops are well on their way in places like Arizona as cash buyers exit the market.
What can we learn from all of that?…
Five reasons not to buy US real estate
All of this got me to thinking about all of the reasons not to buy US real estate. I came up with five reasons not to buy, and I’m open to your comments below.
1. Poor rental yields
The average gross rental yield in the United States is a measly 4.2%, narrowly beating yields in Canada. Of course, Americans and even some foreign investors can get mortgages with as little as 10-20% down, making leveraged yields higher. Of course, the amount of leverage in the US real estate market is a large part of the problem.
Anyone with $25,000 lying around can become a landlord, often having no clue what’s involved. When he or she realizes they should actually have a few bucks stashed away to fix a leaking roof, they could lose the property and affect the entire market.
I saw this firsthand during my regrettable seven months living in California, where a guy earning $80,000 a year (in Los Angeles, mind you) not only had a highly-leveraged primary residence valued at $1 million but owned four new construction condos in the suburbs that he paid $400,000 each for.
I can’t say I was surprised when I started getting foreclosure notices in my mailbox one day.
If you have no money and want to gamble in the US real estate market, go ahead. What do you have to lose when not putting up your own money? If you actually have some money, though, you shouldn’t settle for a 4.2% yield – nor the likely possibility that your fellow investors will crash the market.
Many of the places I’ve been in Asia offer yields of 8-9%. In Nicaragua, I saw a few properties with gross yields as high as 13%!
As a lifelong investor, I understand the power of leverage. However, the fundamentals of the US market are weak and don’t allow for much growth without leverage. This forces a bunch of ill-advised investors into the market who may ultimately increase your yield merely by causing the value of your property to plummet.
If you don’t have a lot of money to invest, there are plenty of properties in frontier markets like Cambodia for around $30,000 – the same as an investor’s down payment on a starter home. And because fast-growing markets like that actually have fundamentals for their price increases, you can actually do fix-and-flips that are based on real value, not bubbles.
Speaking of those fundamentals…
2. The US real estate market has weak fundamentals.
What will drive US real estate going forward? One of the world’s lowest birth rates? The country’s declining status as a “wealthy” country? Most Americans would be surprised to learn that Singapore, not their homeland, is the richest country on earth. Next up: Luxembourg, Qatar, and Liechtenstein.
Americans who understand how bankrupt the western world is likely wouldn’t want to invest in Italy. The average salary in Italy is only about 18,000 euros. However, salaries in the United States are declining, as well.
On top of that, while there is a trend on “onshore” some jobs back from places like the Philippines, I believe further anti-business government policy will cause a long-term elimination of jobs due to further offshoring, companies moving their operations overseas, and technology replacing positions.
If real wages are decreasing, who will buy your real estate for a future appreciation gain, or rent it for a good rental yield?
Very little growth in the US is truly organic. It’s all on paper. In Southeast Asia, growth is very simple. People are getting better educations and higher-paying jobs as their countries experience more entrepreneurship, more tourism, and more of other things that allow wealth in the country to increase.
The US, on the other hand, has just about hit a brick wall. Compare the number of people getting MBAs who would have dropped out of high school thirty years ago to sell gum on the street. In the US, the number is very low. In Cambodia, it’s very high. That is good for emerging markets real estate, but not so good for US real estate.
On top of that, governments can vote to keep investors out on a dime. Canada recently torched its Immigrant Investor Program, which attracted thousands of Chinese millionaires to buy high-end real estate in Toronto and Vancouver. Now that the government canceled the program, real estate experts in Canada are bracing for the worst.
A single act of jingoism could send the value of your real estate tumbling.
3. Governments can (selectively) increase taxes on a dime.
Sure, this is true of any jurisdiction. It’s the same reason I wouldn’t be in a rush to buy real estate in Spain even with their offer of second residency.
But among “gotcha” tax jurisdictions, The Land of the Free must take the cake. This is a country whose President claimed his Obamacare wasn’t a tax… only for the Supreme Court to later rule it was to avoid having it overturned. The US government is the master of playing both sides of the coin.
Let’s say you’re doing well and you buy a nice home in the US. Your local or state government, which is likely drowning in red ink from decades of fiscal imprudence, realizes it needs more revenue and decides to append a “luxury property” assessment to your home. After all, you’re not living in a trailer park with the 99%, so you ought to be the one to bear the burden, you greedy fat cat.
While there are laws in states like California that purport to cap property taxes, there’s nothing stop almost any government from imposing “special fees” or something similar to wring more money out of you. In jurisdictions with no caps on property taxes, governments can simply raise rates. If you think they won’t, remember that “it’s for the children” is the easiest way to get voters to approve a new tax on you, and property taxes are part of what funds schools.
American voters will gladly raise your cost of property ownership in two seconds.
If you’re buying US real estate as an investment, you could be equally vulnerable. In a country where success is demonized and the rich are viewed as being deserving of punishment, it’s not inconceivable that local governments could impose special taxes on rental property. After all, owning a house you live in is one thing. Renting it is another.
The US government has proposed taxes and fees on investors from Wall Street to Main Street, and they’d be all too happy to curb your already mediocre rental yields by making you pay for their fiscal waste.
4. US real estate is denominated in US dollars.
This is an obvious but important point. As the value of the US dollar declines and countries like Russia seek to wean themselves off of the global reserve currency, the global value of your real estate assets in the United States will decline. Sure, you’ll be able to buy locally made products (how ironic, right?), but imports will cost a fortune.
Remember what happened when Iceland’s economy totally collapsed several years ago? It cost a fortune just to go to McDonald’s. I suppose some American investors don’t ever intend to leave the United States to begin with, lessening the blow of a US dollar collapse on their lifestyle, but everyone will feel the pain.
5. Courts can seize US real estate, even if it’s held in an offshore trust.
We talk here about the benefits of using an offshore trust to protect your assets, not only from creditors and angry ex-spouses but from future government confiscation. However, the entire point of an offshore trust is to be offshore.
If the government where an asset is located wants that asset badly enough, it will get it. Governments have repeatedly shown they don’t respect even their own rule of law.
One recent example of this involves infomercial king Kevin Trudeau, who is currently serving a ten-year sentence for “contempt of court”. While Kevin rented his primary residence in Chicago to avoid asset confiscation by a government that was constantly at odds with him, he did own a property in California through an Isle of Man corporation.
When the government imposed a $37 million fine on him, it eventually got around to forcing the sale of the house. Had it not been encumbered by a mortgage, the government would have sold it and pocketed all of the profits. That’s because some nut job on a California court could easily circumvent any provision of an offshore trust he likes. It may not be “legal” according to the laws of the trust, but what does a bankrupt nation care about other countries’ laws?
After all, the United States has been busy enforcing FATCA on as many other countries as possible, forcing banks in other countries to PAY for the privilege of tattling on Americans who bank with them. The United States doesn’t respect other countries’ laws, and if they ever claim you owe them money, no amount of asset protection will save you from the wrong court.
Of course, some of these reasons to avoid real estate investments in the US could be applying to other bankrupt western countries that have a kleptomaniac streak. When it comes to investing in real estate, “go where you’re treated best”.