Invest In Real Estate Or A 401(k) For Greater Wealth?

Invest In Real Estate Or A 401(k) For Greater Wealth?

It's an age-old debate when it comes to personal finance: Invest in a 401(k) for retirement or invest in real estate?

Which one wins?

It's nearly impossible to answer that question for everyone. We're all different, and it would be irresponsible to suggest a one-size-fits-all solution without knowing YOUR personal finance situation.

That said, they both offer incredible potential.

Take your own home, for example. Your home, after all, is usually the most expensive asset that you will buy in your lifetime, and coming up with the downpayment is one of the biggest financial hurdles anybody can overcome.

Furthermore, nobody wants to remain in a rental if they know they plan to live in an area for an extended period of time e.g. five years or more.

Then again, 401(k)s are incredible investment vehicles that build off the magic of compound interest for your retirement, and lowers your taxable income while you're earning good money.

Invest In Real Estate Or Your 401(k)?

Here's the short answer: Either one works, but you've got to take action, stay focused and go “all in”.

And, don't think of these two investment opportunities as mutually exclusive because they aren't. You can invest in real estate (or save for a downpayment for your next home) by investing in the stock market.

Granted, your 401(k) isn't quite the same thing. Your 401(k) is designed for long-term investing for retirement. But, stocks offer very real opportunities to expand the resources you have for other investing (like real estate).

Invest in Real Estate

Look at the graph below. Don't you wish that you bought in 2012?

San Francisco real estate market price performance

It's true, not every real estate market will deliver those kinds of results. In fact, the market is shaping up to be a riskier time to invest in real estate.

That said, strong real estate markets exist in the country, and smart investors can maximize their returns by focusing on those key markets.

Where is real estate strong? Look to the heartland, where valuations are much cheaper and net rental yields are much higher.

Why? The political atmosphere is the primary reason.

Remember the 2016 elections? Yeah, who doesn't...

The graph below displays the final electoral college tally. As you can see from the map, the losers are California, Oregon, Washington, Nevada, Colorado, New Mexico, Minnesota, Illinois, New Hampshire, Vermont, New York, Maine, Massachusetts, Rhode Island, Connecticut, New Jersey, Delaware, Maryland, Washington D.C. and Hawaii.

The winners are obviously those states in red. Colorado Springs, CO and Bakersfield, CA are the exceptions.

Final Electoral Count Presidential Election 2016 Trump Hillary
Blue states are losers for the next 4 years at least

Now, let's go a bit further.

Drill down to the election results by county. Not every county in every losing state voted for Hillary. For example, California is pretty darn divided.

But given we have a winner take all system, Hillary was able to gain all 55 of California’s electoral votes.

Trump's landslide victory is the real shocker. If you were just listening to the mass media, you would have been lead to believe the outcome was much more balanced.

But from a county-to-county perspective, it's far from balanced geographically.

USA Count Results In Hillary Trump Presidential Election

About half of the U.S. population lives in the blue areas seen below, and the other half of the population lives in the gray areas. Folks in the blue areas underestimated the desire of folks living in the gray areas to want something other than a career politician.

Map of where half the US population live

With globalization, a lot of people living in the gray areas have not been able to take advantage of the economic boom, and these factors influence more than just the political climate.

Real estate, investments and building wealth come along for the ride.

Invest in Your 401(k)

There is good news and bad news when it comes to 401(k) plans. The good news is they are relatively easy-to-use investment vehicles that most companies offer their employees. In fact, some employers will even match employee contributions up to a certain percentage.

They also lower your taxable income dollar-for-dollar. Over time through the power of compound interest, the 401(k) is a wealth builder for retirement.

The bad news is most of us aren't taking full advantage of them. There is a big difference between how much we SHOULD have saved and how much the average person actually has saved.

How much should we have in our 401(k)s?

Here are my savings targets by age for workers starting at the age of 22.

401k savings targets by age

From these numbers, we can see that even after 38 years of consistent saving, you’ll have around $1,000,000 to $5,000,000 in your 401k in a realistic cycle of bull and bear markets.

How much do we actually have saved?

This is where we're failing. The median account balance in the U.S. is only around $72,000 for 55-64-year-olds in 2018 according to Vanguard, one of the largest 401k managers.

The average 401k balance for 55-64-year-olds is roughly $178,000. But the average is screwed due to the super wealthy. Even with $178,000 in your 401k at retirement age, you aren’t going to be living it up for the next 20 – 30 years without alternative sources of income.

Average and Median 401k Balance By Age Group - Vanguard
Source: Vanguard balances

Whether You're A 401(k) Or Real Estate Investor, It's About You

The good news is it doesn't matter much which method you select to build wealth, so long as you're actively engaged and laser focused.

Rely on these basic principles for greater wealth with your 401(k):

  • Contribute the maximum pre-tax income you can to your 401(k) for as long as you work. This is the absolute MINIMUM you can do to help ensure a comfortable retirement.
  • Then, contribute at least 20% of your after-tax income after 401(k) contribution to your savings or retirement portfolio accounts.
  • Treat your 401(k) just like Social Security and write it off from your mind. Make it automatic and don't think about it. Just do it.
  • After maxing out your 401(k), it’s good to open up an after-tax brokerage account where you can consistently contribute a percentage of your paycheck each month. Your goal should be to then build as many passive income streams as possible.

A straightforward way to maximize savings is to make your 401k maximum contribution automatic and save every other paycheck for the rest of your working life.

If you're into real estate, here's what you need to know:

  • Focus on strong markets whenever you can. They do exist!
  • Understand the real estate market in your area and get feedback from at least three people before making an investment.
  • Avoid expensive areas with decreasing rent prices, which is becoming more prevalent in the future.
  • Know the risks. All the risks.

Don't risk your life savings. Instead, invest using one of the best real estate crowdfunding platforms available, CrowdStreet, founded in 2014 and primarily for accredited investors. They are my favorite real estate marketplace that focuses on “18-hour” cities, those secondary cities with lower valuations and higher net rental yields.

With real estate crowdfunding, you don’t need to risk $100,000 or more to invest in commercial real estate. Instead, you can invest as little as $1,000 and be much better diversified.

CrowdStreet is free to sign up and explore.

Non-accredited investors should also check out Fundrise, one of the most innovative real estate crowdfunding platforms. It is also free to sign up and explore.

Fundrise Real Estate Crowdfunding Properties

Manage Your Finances

Manage Your Money In One Spot: Sign up for Personal Capital, one of the Internet's best money management tools to get a better handle on your finances.

In addition to better money oversight, run your investments through their award-winning Investment Checkup tool to see exactly how much you are paying in fees. I was paying $1,700 a year in fees I had no idea I was paying.

After you link all your accounts, use their Retirement Planning calculator that pulls your real data to give you as pure an estimation of your financial future as possible using Monte Carlo simulation algorithms. Definitely run your numbers to see how you’re doing. I’ve been using Personal Capital since 2012 and have seen my net worth skyrocket during this time thanks to better money management.

Personal Capital Market Movers Tool

About the Author: Sam started Financial Samurai in 2009 as a way to make sense of the financial crisis. He proceeded to spend the next 13 years after attending The College of William & Mary and UC Berkeley for b-school working at Goldman Sachs and Credit Suisse. He owns properties in San Francisco, Lake Tahoe, and Honolulu and has a total of $810,000 invested in real estate crowdfunding. In 2012, Sam was able to retire at the age of 34 largely due to his investments that now generate roughly $220,000 a year in passive income. He spends time playing tennis, hanging out with family, consulting for leading fintech companies and writing online to help others achieve financial freedom.