Financial Planning With Real Estate- Funding College
by: Brian.Brady on November 01, 2007 22:35:15 2 comments »
How will you pay for your children's college education?
Conventional financial planners will try to explain the benefits of 529 plans, UGMA accounts, and pre-paid tuition plans. We think those plans can miss the target and be somewhat slow in the capital appreciation.
More creative financial advisers may show you how to use a variable universal life insurance contract to provide for your child's colege education by borrowing against the cash value of the policy. These are somewhat more attractive because it allows the parent to retain ownership of the asset with a tax-free withdrawal of principal. The life insurance portion of the contract certainly provides for the child in the event of the parent's death.
Have you ever considered the obvious? Buy a property in a growing college town. Real estate offers an excellent long-term investment vehicle that may be discernibly less expensive than the other solutions. If properly structured, the investment can allow for a portion of the appreciation to be tax-free while continuing to grow even after your child graduates.
Real estate in a college town. I first introduced this concept to a client in 2001. His daughter was a freshman at Horizon High School in Scottsdale, AZ. He was looking for a way to "hedge" the costs of education by "guessing" which college his daughter might attend, then buying a condo in that town to rent to students. His ultimate plan was for his daughter to "manage" the property by subletting rooms to friends while she was attending college. Financially, it made sense. Educationally, it made even more sense- his daughter would learn, at an early age, how to manage wealth.
Rather than "guess" , we realized that Arizona State University was growing to become the largest university in the country. We selected two properties in Tempe, AZ. A growing student population, regentrification of Downtown Tempe, and increased scarcity for land made Tempe an obvious option, regardless of his daughter's college selection. He purchased two condominiums for approximately $140,000 each. In 2005, he refinanced both properties and withdrew some $40,000 each. That $80,000 should adequately fund his daughter's education. Ironically, she chose ASU for her education and is managing two properties, worth $250,000 each, today.
Here's the best part- these investments are costing him next to nothing! When he bought the properties, his cost of capital was about 6.5%. The $280,000 he spent had an interest cost of $1500/month. The taxes costs some $150/month, and the HOA fees are an additional $400. His annual expenses, for maintaining the properties, are $1,800. While he only received $450/room for the 4 bedrooms he owned, all of that income was written off against the monthly expenses. He showed a net loss of some $5,000 annually for the first 4 years.
He spent close to $10,000 to renovate the condos, when his daughter started college, in 2005. That left him with $70,000 to fund his daughter's education . She enjoys the in-state tuition of $5300/ year but any student could gain in-state status after the first two years. The out-of-state tuition, at ASU, is close to $16,000. Let's assume that tuition and fees costs $45,000 for the four years (2 years in state, 2 years out of state). As you can see, he still has some $25,000 available to allocate for her living expenses.
His expenses for the properties have grown, however. That increased loan, at 6% carrying cost, is $1800/month. The taxes rose to $200/month, and the HOA fee increased to $500 month. He now allocates some $3,600 to maintenence annually. His monthly costs are $2800. He was able to raise the rent to $600/room but gave up one room's rent for his daughter. He will lose some $24,000 on the properties by the time his daughter graduates. His total loss from the properties will be $34,000 over the four year period, about $10,000 less than he would have spent for his daughter's education at ASU.
Don't forget about the appreciation ! When his daughter graduates, in 2009, he expects to sell those properties for $500,000. His cost basis was $280,000. He spent an additional $10,000 in capital improvements, and it should cost $40,000 to sell the properties. He also has some $40,000 in accumulated depreciation to offset his capital gains. He should owe about 20% in state and local taxes on $130,000 ($26,000). His net profit, from these investments, will be $104,000. His daughter attended ASU for free and he put some $60,000, after-tax, in his pocket.
This case is truly extraordinary. Tempe had some rapid appreciation between 2004-2006, a bonus from the original plan. He invested in those condos anticipating a breakeven after accounting for his daughter's educational expenses. College educations aren't cheap but real estate investment is one way to defray some of those rising costs.
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· http://www.LifeInBonitaSprings.comHi Brian, I just tried to come from Marc's site to your by clicking your comment link and got a 403 error. Just an FYI if you need to run that by in tech.
*C*
Permalink November 05, 2007 17:47:00 · http://genopetroche.blogspot.comHey Brian.
I just linked this site in my most recent CHW post . Geno
Permalink November 07, 2007 13:20:14This post has 45 feedbacks awaiting moderation...