Real estate investment is an investment in tangible assets that plays a crucial role in both long-term asset accumulation and asset preservation. Especially in wealth management for high-net-worth individuals, the focus is shifting from the “stage of growing assets” to the “stage of preserving assets,” and real estate investment requires a different perspective and strategy compared to general investors. As a tangible asset, real estate is resilient to inflation, with its asset value and rental income tending to rise in tandem with rising prices during inflationary periods. Additionally, real estate operates under different market dynamics than stocks and bonds, making it an effective tool for diversifying portfolio risk and serving as a hedge during periods of financial market instability.
One of the main reasons the wealthy are focusing on real estate investment is the stable income it provides. Rental income from real estate is less affected by economic fluctuations and generates stable cash flow over the long term. Properties with good locations and high rental demand have low vacancy risks and can serve as a continuous source of income. Furthermore, real estate investment allows for leverage (the use of others' capital), enabling investors to make investments exceeding their own capital by utilizing bank loans. By leveraging capital appropriately, investors can increase their return on equity (ROE) and accelerate the pace of asset expansion. High-net-worth individuals typically have strong creditworthiness, enabling them to secure favorable loan terms such as longer repayment periods and lower interest rates. Furthermore, real estate investment offers tax advantages, and proper management can help reduce tax burdens in some cases.
On the other hand, real estate investment has the characteristic of being illiquid (difficult to convert into cash quickly). Unlike stocks, which can be bought and sold daily, real estate requires time and procedures to sell. To prepare for this liquidity risk, it is essential to clearly define an exit strategy from the planning stage of the investment. An exit strategy refers to the plan for when and how to sell (or dispose of) the investment property and ultimately realize the investment returns. In real estate investment, if the exit, i.e., the sale, fails, it can have a significant impact, potentially nullifying the profits accumulated through rental income (income gains) up to that point. In other words, the success or failure of an investment is determined by the final exit. In this article, we will explain each stage of real estate investment, from the basics to practical implementation, focusing on the perspective of exit strategies.
1. Basic Knowledge of Real Estate Investment (Types, Risks, and Return Structure)
First, let's understand the basic mechanisms of real estate investment. The returns from real estate investment can be broadly categorized into two types. One is called “income gain,” which is profit from rental income, and the other is called “capital gain,” which is profit from the sale of the property. Income gain is the amount remaining after deducting expenses and loan interest from the monthly rental income generated through rental operations. Capital gain is the difference between the sale price and the purchase price when the property is sold. While the ultimate outcome of an investment is evaluated as the “total income gain plus capital gain,” as will be discussed later, the total profit can vary significantly depending on the exit strategy. Even if rental income is steadily generated during the investment period, it is meaningless if a significant loss is incurred at the time of sale. Therefore, it is crucial to adopt a strategy that maximizes the total profit by considering both rental income and capital gains from the outset, with the sale in mind.
There are various types of properties that can be targeted for real estate investment, but the most common for individual high-net-worth investors are residential income-generating properties (rental apartments, condominiums, single-family homes, etc.). Other options include investments in commercial properties such as office buildings, retail facilities, logistics facilities, and hotels, as well as indirect investments through real estate investment trusts (REITs) or real estate specific joint ventures. However, this article will primarily focus on directly owned rental properties. Income-generating properties can be further categorized into “single-building properties (apartments, condominiums),” “unit ownership (a single unit within a condominium),” “newly constructed properties,” and “used properties.” Each category has distinct characteristics, including varying levels of yield, management effort, and initial investment amounts. For example, single-building income-generating properties require a significant initial investment but offer the advantage of owning the land outright and being able to make unified management decisions. On the other hand, condominium unit investments can be started with relatively small amounts but rely on the management association for decisions regarding the entire building, limiting the value-enhancing measures that can be implemented independently. Newly constructed properties are newer with modern facilities and no immediate need for major repairs, but they tend to be more expensive due to developer profits and advertising costs being factored into the purchase price. Used properties are generally cheaper with higher yields, but require careful consideration of risks such as deterioration over time and increasing maintenance costs. As discussed later, there are also different considerations for exit strategies depending on whether the property is new or used.
It is also important to understand the risks inherent in real estate investment. The main risks include the following.
- Vacancy risk: The risk of not being able to secure tenants and generate rental income. Vacancies are more likely to occur in properties with poor location conditions or high competition from other properties. If vacancies persist, only the burden of loan repayments and expenses remains, so it is important to select properties in areas with anticipated demand from the property selection stage.
- Rent decline risk: This is the risk that rental rates may decrease due to the passage of time since the property was built or changes in market conditions. Even if rental rates are high when the property is newly constructed, they tend to decline over time. In particular, the decline in rental rates is more significant in the early stages of a property's lifespan, and there is a possibility that income may decrease more than anticipated during long-term ownership.
- Tenant credit risk (non-payment risk): This is the risk that tenants may default on rent payments or incur significant restoration costs upon moving out. The risk of non-payment varies depending on the tenant's occupation, income, and other attributes. Generally, properties with higher rent tend to attract tenants with better attributes, resulting in lower non-payment risk. Additionally, measures such as utilizing a guarantor company can help mitigate non-payment risk.
- Interest Rate Risk: If financing is used, there is a risk that an increase in interest rates will increase repayment burdens and put pressure on cash flow. Particular caution is required for variable-rate loans, and measures such as considering long-term fixed-rate loans or ensuring the ability to make early repayments should be considered to prevent a deterioration in cash flow if interest rates rise in the future.
- Liquidity Risk: As mentioned earlier, real estate is not an asset that can be sold immediately, so there is a risk that it cannot be converted into cash at the desired price or timing when you wish to sell. Depending on market conditions, it may take time to find a buyer, or the property may only be sold at a lower-than-expected price. To minimize this risk, it is essential to design an exit strategy in advance. Specifically, it is important to select properties that are likely to attract buyers in the future and to manage the property in a way that minimizes declines in asset value during the holding period.
As described above, real estate investment offers the potential for stable returns but also involves various risk factors. However, many of these risks can be controlled through thorough research, careful planning, and appropriate management. In the following sections, we will explain the key points that high-net-worth investors should consider at each stage of real estate investment, with a particular focus on exit strategies.
2. Selection of Investment Targets (Location, Property Type, Rental Demand Forecast)
2.1 Market and Location Analysis
The first step in selecting investment targets is to conduct market analysis and evaluate the location. The value and profitability of real estate are greatly influenced by “location.” High-net-worth individuals have a wide range of options for real estate investment, from prime locations in urban areas to regional cities, each with its own advantages and disadvantages. Generally, urban areas and well-located properties have high rental demand and low vacancy risk, maintain asset value, and are highly liquid, making it relatively easy to find buyers when it comes time to sell. This makes it easier to plan an exit strategy, providing peace of mind when considering future sale. On the other hand, urban properties tend to have high acquisition costs, resulting in lower surface yields (annual rental income divided by property price). There is a trade-off between asset value and yield, so it is important to consider the appropriate balance based on investment objectives.
On the other hand, regional or suburban properties tend to have lower acquisition prices and higher surface yields compared to urban areas. With the same budget, it may be possible to own more units, making them suitable for cash flow-focused investments. However, in areas with limited rental demand, there is a higher risk of vacancies and rent declines, and there is a possibility that asset value may stagnate in the future. From an exit strategy perspective, it is important to note that the pool of potential buyers for regional and suburban properties is limited. Especially for high-priced properties, the number of investors who can afford them decreases, increasing the risk of prolonged sales or inability to sell at the desired price. In extreme cases, if the property price is excessively high, it may exceed the loan limits of individual investors, making it difficult to find buyers. Therefore, even for high-net-worth investors, it is advisable to diversify investment targets and build a portfolio with exit strategies in mind.
When selecting an investment area, it is also important to consider future population trends and regional development plans. From the perspective of rental demand forecasts, it is essential to investigate future population growth or decline, changes in household composition, and economic growth potential in the property's location. For example, in areas where the population is declining or aging rapidly, a long-term contraction in rental demand is expected. Conversely, areas with ongoing redevelopment plans, infrastructure development projects, or planned new station openings may see increased demand in the future. By conducting market analysis with a long-term perspective, it becomes possible to make judgments such as choosing properties with moderate current yields but stable future demand over those with high current yields but potentially declining future demand. When developing an exit strategy, it is also important to confirm whether the purchase area is expected to see population growth in the future and whether the supply-demand relationship is favorable.
However, there are limitations to what individuals can do to thoroughly research population trends and the future potential of a region. For high-net-worth individuals, collaborating with real estate consultants or expert teams to access various statistical data and market reports can be effective. Participating in seminars hosted by specialized institutions or expanding sources of market research information can also help achieve more accurate demand forecasts and area selection.
2.2 Evaluation of property types and characteristics
Once the area has been narrowed down, the selection of specific property types and individual properties begins. Here, we organize considerations for each attribute, such as the structure and scale of the investment property and whether it is new or used.
- Single-building properties vs. condominium units: For high-net-worth investors, acquiring entire buildings such as single-building apartments or condominiums is also an option. The advantages of single-building properties include the ability to acquire the land as part of the asset and the freedom to determine the overall management strategy for the building. They are efficient as multiple units can be rented out at once, and vacancy risks are分散 across the number of units. However, the initial investment is significant, and financing amounts can be high, so a careful cash flow plan is necessary. On the other hand, condominium unit investment (purchasing a single unit in a condominium and renting it out) offers the convenience of starting with a single unit in a downtown area. Management is largely handled by the homeowners' association, reducing the burden of maintenance, but this comes with the limitation that you cannot control the overall repair plans or policies for the building. Additionally, condominium units can be sold to end-users (actual buyers) for residential use as an exit strategy in the future. For example, family-type condominium units may fetch higher prices if sold to individuals who wish to live there themselves (refer to the exit strategy patterns discussed later). In the case of single-building properties, the next buyer is typically another investor, so it is important to consider whether the property is attractive to the next investor from the outset. Specifically, this includes whether full occupancy is achievable, whether a reasonable return on investment can be secured, and whether the property is easy to finance.
- Newly constructed properties vs. used properties: Newly constructed income-generating properties have the advantage of lower maintenance costs in the short term and easier tenant acquisition due to modern facilities and specifications. However, as mentioned earlier, the price of newly constructed properties includes the developer's profit, so they tend to depreciate in market value shortly after purchase. In fact, even if you try to resell immediately after purchase, cases where you can sell for more than the purchase price are rare, making them unsuitable for short-term exits. It is necessary to incorporate the evaluation of the used market after the new construction premium has faded and the future rent decline curve into the cash flow plan. On the other hand, used properties tend to have higher yields (the ratio of rental income to invested capital) due to their lower prices. Additionally, older properties may allow for higher depreciation expenses due to exceeding the legal useful life, offering tax benefits for high-income individuals. However, older properties often have shorter loan terms and may face difficulties securing financing from some financial institutions. Furthermore, they carry higher risks of building deterioration and the possibility of major repairs, making thorough investigations, such as obtaining an engineering report, crucial before purchase. In terms of exit strategies, while used properties have a lower risk of significant price declines due to their already reduced purchase prices, they face challenges related to the property's lifespan and obsolescence. It is advisable to have a plan that considers whether to sell within the building's lifespan or target a timing when value depreciation is minimal.
As outlined above, the operational focus points and risk profiles vary depending on the type and attributes of the property. For high-net-worth individuals, it is essential to select the most suitable property type based on the investment objective (focus on income or asset preservation). For example, if the goal is to achieve both stable income and asset value preservation, a high-quality used single-family apartment in the city center may be a candidate. On the other hand, if the goal is to achieve high returns even if asset value fluctuates, a strategy of diversifying investments in multiple used apartments in regional areas may be considered. At this stage, it is crucial to make a purchase decision after outlining a scenario that includes how and to whom the property will ultimately be sold. “Investors who can purchase properties with the exit strategy in mind” are the ones who avoid failure, and incorporating an exit strategy into property selection significantly increases the likelihood of investment success.
3. Funding and leverage strategies (wealth management loans and use of equity capital)
Once you have selected the appropriate property, the next step is to develop an investment funding plan. While high-net-worth individuals often have ample self-capital, this does not necessarily mean that “funding everything with self-capital” is always the best option. In real estate investment, effectively leveraging loans from financial institutions can enable you to achieve significant investment returns with minimal self-capital through the leverage effect. Below, we explain the financing strategies and key points for leveraging self-capital that high-net-worth investors should consider.
3.1 Loan Strategy
Loans for high-net-worth individuals have several distinctive features. First, due to their high creditworthiness, they can secure loans under more favorable terms than general investors. Specifically, this includes lower borrowing interest rates, longer loan terms, and in some cases, approval for higher loan-to-value (LTV) ratios (the ratio of the loan amount to the collateral value) than usual. For financial institutions, high-net-worth individuals are low-risk borrowers with robust asset backgrounds, making them attractive business partners. As a result, some institutions offer specialized services such as “high-net-worth lending products” or real estate loans through their private banking divisions. From the investor's perspective, leveraging this creditworthiness to secure favorable financing is a key factor in enhancing investment efficiency.
In leveraged real estate investments, the cash-on-cash return (CCR) can be significantly improved compared to purchasing with only one's own funds. For example, if a property worth 100 million yen is purchased with 100 million yen of one's own funds and generates an annual net profit of 5% (5 million yen), the CCR is 5%. However, if the same property is purchased with 50 million yen in equity and 50 million yen in financing, resulting in a net profit of 30 million yen after deducting interest, the profit on the 50 million yen in equity is 30 million yen, yielding a CCR of 6% (figures are for illustrative purposes only). In this way, leveraging financing can enhance returns per unit of equity and enable diversification across multiple properties.
However, caution is necessary when utilizing loans. This is because excessive leverage amplifies risk. If monthly loan repayments become too burdensome, cash flow may dry up, necessitating supplementation from core business income or other sources. In particular, full loans (100% financing with little to no equity) may be proposed by financial institutions to high-net-worth individuals, but these require careful consideration in terms of exit strategies. If you acquire a property with a full loan and little to no down payment, you will need to repay the remaining loan balance in full when selling the property. If the property price does not rise as expected and the sale price is less than the remaining loan balance, you will not be able to sell the property unless you cover the shortfall with your own funds. This is a highly risky situation where you are unable to exit the investment. In fact, there are cases where individuals who purchased a new condominium with a full loan found themselves unable to sell it due to relocation or other circumstances, and ended up keeping it despite the remaining loan balance being higher than the property value. As such, financing can be a double-edged sword, depending on how it is utilized, even for high-net-worth individuals, necessitating careful planning.
3.2 Optimizing the Use of Equity Capital and Leverage Ratios
For wealthy investors, having ample cash (equity capital) is itself a form of leverage. The key lies in the strategic design of how to effectively allocate that equity capital toward investments. While leveraging can be advantageous, if the amount of equity capital invested is too small, there is a risk of becoming unable to exit as mentioned earlier. Conversely, the more equity capital is invested, the lower the risk of falling into negative equity at the time of sale, and there is a tendency for greater flexibility in the timing and price of sale. The ideal equity capital ratio (down payment ratio) varies depending on each investor's strategy and asset situation, but generally, 20–30% of the property price is invested as equity capital, with the remainder financed through loans. By contributing a certain amount of equity, you can mitigate the risk of falling into a situation where the loan balance exceeds the property value (overloan) even if the market price temporarily declines. As a result, you can adopt a flexible exit strategy, such as waiting for the market to recover before selling.
Some high-net-worth individuals establish asset management companies and borrow funds through the corporation to pursue additional tax benefits or asset management advantages. By utilizing a corporate structure, it is possible to achieve a lower effective tax rate on rental income compared to individual taxation for high-income earners, or implement advanced planning strategies such as controlling the stock valuation for inheritance purposes. However, when borrowing through a corporation, financial institutions prioritize the creditworthiness of the corporation itself, so loan conditions may be stricter initially. In any case, the ratio of equity capital to debt and the borrowing structure should be considered within a long-term asset allocation plan. High-net-worth individuals typically diversify their investments across various asset classes such as stocks, bonds, hedge funds, cash, and business investments. Real estate offers leverage effects, stable income, and tax advantages, but it also has drawbacks such as low liquidity and concentration risk. Therefore, it is important to optimize the allocation of equity capital to real estate and the level of leverage in relation to other asset classes.
Finally, two critical factors to consider in funding strategies are interest rate trends and foreign exchange risk. Lending rates fluctuate depending on domestic and international financial conditions. During low-interest-rate periods, it is advisable to secure long-term fixed-rate loans proactively, while during high-interest-rate periods, flexible responses such as early repayment or renegotiating interest rates may be necessary. Additionally, when investing in overseas real estate, fluctuations in exchange rates can impact actual repayment burdens and asset values, so it is essential to implement foreign exchange hedging measures.
For high-net-worth investors, financing is not merely a means to an end, but a strategic element that determines investment returns and risks. Aim to secure favorable loan terms while leveraging debt appropriately to build a stable and efficient financial structure.
4. Property Management and Value Enhancement Strategies (Property Management, Renovation Strategies)
Stabilizing the operation of purchased properties and maintaining and enhancing their value are critical to the success of real estate investment. The quality of property management directly impacts cash flow and significantly influences future sale prices, so even high-net-worth investors cannot afford to overlook this phase. This section explains key points of rental management and strategies for enhancing property value.
4.1 The Importance of Property Management
Property management (PM) in real estate investment refers to the overall management of rental properties. This includes a wide range of tasks such as tenant recruitment, contract management, rent collection, complaint handling, move-out settlements, and maintenance of building facilities. For high-net-worth owners, it is common to entrust these tasks to a reliable rental management company or property manager rather than handling them personally. By partnering with an excellent PM company, you can expect improvements in tenant recruitment, swift response to issues, and planned maintenance, leading to reduced vacancy periods and maximized rental income.
Maintaining a high occupancy rate is particularly important in rental operations. Not only does prolonged vacancy result in lost revenue, but it also worsens the property's operational performance, which can negatively impact its valuation by future buyers. Aim for full occupancy at all times and establish a system to quickly secure tenants at appropriate rent levels. Specific measures include monitoring local rental market trends and flexibly adjusting rent levels, conducting concentrated advertising campaigns during peak seasons, and providing detailed responses to potential tenants. For high-end properties, collaborating with brokerage firms specializing in the luxury rental market tailored to affluent tenants can be effective. For example, in central Tokyo's luxury apartments, partnering with agents strong in attracting expatriates from foreign companies is necessary to implement targeted recruitment strategies.
Additionally, improving tenant satisfaction is essential for long-term stable management. High-rent properties require a higher standard of services from tenants. Promptly addressing equipment issues and maintaining the cleanliness and aesthetics of common areas can lead to longer tenancy periods and increased renewal contracts. For high-net-worth investors, while delegating day-to-day operations to specialized professionals, it is important to receive regular reports to monitor property conditions and operational metrics. Collaborate with a reliable team of experts (property management companies, tax accountants, real estate brokers, etc.) to maintain asset value and profitability.
4.2 Property Value Enhancement Strategies (Value-Up Strategies)
In real estate investment, timely value-enhancement investments can yield significant returns. Value-enhancement strategies refer to efforts to improve a property's profitability and market value through renovations, equipment upgrades, or operational improvements.
- Renovation: If the property shows signs of aging or outdated interior design, appropriate renovation work can lead to higher rent prices and shorter vacancy periods. For example, in older apartments, renovations such as updating plumbing fixtures, replacing flooring with more durable materials, or modifying floor plans to meet modern needs can add value. For high-end rental properties targeting affluent tenants, introducing the latest IoT devices (smart home systems) or upgrading interior finishes can help the property stand out and attract affluent tenants. When deciding on renovation investments, the key consideration is whether the expected increase in rent or improvement in occupancy rates justifies the investment costs. Calculate the return on investment and prioritize areas that will definitely enhance the property's appeal.
- Capital investment (enhancement of ancillary services): In addition to renovating the property itself, enhancing ancillary facilities and services can also differentiate your property. Examples include improving parking facilities, installing EV charging stations, adding bicycle parking and parcel lockers, and enhancing security with security cameras and automatic locks. For family-oriented properties, consider adding a kids' room or study space, and for pet-friendly properties, installing a pet washing area. Such value-added features can enhance the property's brand value, serve as a vacancy prevention measure, and potentially be evaluated as a differentiating factor when selling the property in the future.
- Innovative management methods: Depending on the potential of the property, revising the management scheme itself can also lead to increased revenue. For example, switching from regular rentals to monthly rentals or shared housing operations, renegotiating rent for properties with high occupancy rates, or repurposing vacant spaces for short-term rentals (with permits) or office use. However, such operational changes must be conducted within the bounds of laws and regulations and require specialized knowledge. For high-net-worth investors, if they own multiple properties, a strategy of combining “properties with lower profitability but higher asset value” and “properties with lower asset value but higher profitability” to balance the overall portfolio may be considered. While this may be difficult at the individual property level, it becomes possible to implement value-enhancing measures by taking a holistic view of the entire portfolio.
When implementing property value enhancement measures, it is important to ensure consistency with the exit strategy. For example, when undertaking major renovations, it is necessary to consider the balance between the period required to recover the costs and the planned holding period. This is because it would be meaningless to invest a significant amount of money if the investment cannot be recovered within the planned holding period. On the other hand, there is also a strategy of conducting simple renovations or home staging just before sale to enhance the property's appeal and aim for a higher sale price. Measures such as repainting walls, improving lighting, and thorough cleaning can be highly cost-effective in creating a positive impression on potential buyers and leading to early and high-priced sales. By implementing such exit-focused value enhancement strategies, maximizing the final return is an important mission for high-net-worth investors during the asset management phase.
5. The Importance of Exit Strategies (Timing, Potential Buyers, and Capital Gain Maximization Strategies)
We now come to the final stage of real estate investment: the exit strategy. An exit strategy is a plan for when and how to dispose of a property to recover returns from the investment. Just as “when to sell” is a critical factor in stock investments, the same applies to real estate investments. In fact, real estate has low liquidity, and price fluctuations can be significant depending on timing. Therefore, failing to establish a solid exit strategy in advance increases the risk of regretting decisions at the last moment.
In this chapter, we will discuss the key elements to consider when developing an exit strategy, including the timing of sale, the buyer, the method of sale, and strategies for maximizing profits.
5.1 The Importance of Having an Exit Strategy Perspective
First and foremost, it is crucial to consider the exit strategy from the moment of purchase in real estate investment. Many investors are so focused on the immediate yield (profitability) at the time of purchase that they fail to consider how they will dispose of the property five or ten years down the line. However, “no matter how profitable a property is,” it is only considered a success if it is sold appropriately at the end. The success or failure of the sale can erase all the profits made during the holding period, highlighting how critical the exit strategy is. On the other hand, investments planned from the outset with the exit strategy in mind significantly reduce the risk of failure. For example, “buying a property that is likely to sell for a high price at the exit” is an element that cannot be changed after purchase. No matter how hard you try to manage the property after purchase, a property with low marketability cannot be sold for a high price. Therefore, it is essential to select properties from the purchase stage with the perspective of “Will this property be able to sell for a high price in the future?”
The content of an exit strategy can be summarized as “how to sell the property at a high price and smoothly.” If the sale does not go well, even if you generate rental income during the holding period, a single mistake could result in losses. Especially for high-net-worth investors, who have large asset portfolios and deal with enormous amounts per transaction, the effectiveness of the exit strategy can have a significant impact on the entire portfolio. Fortunately, high-net-worth individuals have relatively flexible cash flow and investment horizons, allowing them to sell at their desired timing. This is a significant advantage, as it enables them to assess market conditions and choose the optimal selling point. In the following sections, we will examine the timing of sale and sale strategies in more detail.
5.2 Determining the Timing of Sale
When determining the timing of real estate sales, it is necessary to consider both the market environment and property-specific factors. Market environment factors include economic trends, real estate market conditions, interest rate trends, and changes in policies (taxation). On the other hand, property-specific factors include the age of the property, changes in rental rates, the remaining depreciation period, the status of outstanding loans, and changes in the surrounding environment. Let us examine some of the main criteria for making decisions.
- Reading the market cycle: The real estate market follows a cycle linked to the economy. When prices are rising, it is a good time to sell, but when they are falling, it is difficult to find buyers and prices do not rise. Generally, when land prices and property prices are rising, it is a good time to sell. Refer to real estate price indices, transaction trends, and the prices at which similar properties in the surrounding area are being sold. Interest rates are also important. During periods of low interest rates, buyers can easily obtain loans, leading to strong demand and favorable conditions for selling. Conversely, during periods of high interest rates or monetary tightening, the real estate market tends to cool down, so it is advisable to postpone selling or consider adjusting the price if possible.
- Consider tax milestones: In Japan, capital gains tax on the sale of real estate is reduced to approximately 20% for properties held for more than five years, while the tax rate for properties held for five years or less is approximately 39%. Therefore, selling after at least five years have passed and the tax rate switches to the long-term capital gains tax rate will result in a larger net profit (approximately twice the tax rate difference between long-term and short-term).
- For example, selling after four years would result in approximately 40% of the profit being taken as taxes, but waiting one more year to sell after five years would reduce this to approximately 20%. Therefore, if there is no urgent need to liquidate assets, holding for over five years is a useful benchmark. Additionally, the timing when the depreciation period ends from the purchase of the property is another consideration for selling. This is because the tax benefits from depreciation of the building diminish once the depreciation period ends, reducing the advantages of continuing to hold the property. For wooden apartment buildings, the statutory useful life is approximately 22 years, and for reinforced concrete (RC) apartment buildings, it is approximately 47 years. After the useful life expires, older buildings cannot be depreciated but continue to incur costs such as property taxes, making them less profitable.
- Changes in the income structure (dead cross phenomenon): In real estate investment, there is a phenomenon called the “dead cross.” This refers to the period when the amount of depreciation expense recorded for the building decreases, while costs such as interest expenses and maintenance costs increase, causing the remaining cash flow to peak and begin to decline. Depreciation expenses decrease with the age of the building, and once depreciation is complete, the amount of expenses recorded on the books decreases, increasing taxable income and reducing net income. Additionally, as the building ages, maintenance costs increase, and as loan principal repayments progress, tax benefits also decrease. During this period, when these factors overlap, cash flow may begin to decline approximately 10–15 years after purchase.
- The timing when this “dead cross” is reached is also a sign to consider selling. In many cases, it may be more efficient to sell the property and switch to another investment rather than continue holding it.
- Physical and operational milestones of the property: Specific to the property itself, there are milestones such as the timing of major repairs after a certain number of years since construction. For example, if major repairs are scheduled for a condominium after 15 or 30 years, selling before the repairs are carried out can avoid the burden of high repair costs. Changes in tenant composition are also a key consideration.
- For example, if the lease of the main tenant in a single-building office is nearing expiration, it may be wise to sell before the risk of their departure becomes apparent. Conversely, if the property has been fully occupied for an extended period with stable rent, selling at a time when you can highlight this track record could be a good strategy. Personal circumstances of the owner, such as business succession or inheritance, also influence the timing. In fact, there are cases where selling properties due to the need for business restructuring resulted in capital gains. As such, it is ideal to determine the optimal timing for sale by considering various factors and making a decision that is neither too early nor too late.
5.3 Potential buyers (exit destinations) and sale methods
Next, consider the strategy for who to sell to and how to sell. The primary options for selling real estate are as follows.
- Selling through a real estate broker in the open market: This is the traditional method of engaging a real estate brokerage firm to solicit buyers. While this method is most likely to achieve the highest price, it may take time to complete the sale. For high-end properties, marketing may be expanded to include overseas investors.
- Selling to a real estate company: This involves directly selling the property to a real estate company (buyer). No brokerage fees are required, and cash can be obtained quickly. However, the purchase price tends to be lower than the general market price (discounted to account for the buyer's profit margin). This option is considered when the seller needs to sell quickly to fund the next investment.
- Securitization or bulk sale: This is an advanced method of selling multiple properties to a fund or through a real estate securitization scheme. For high-net-worth individuals who own multiple properties, the entire portfolio may be sold by incorporating it into a REIT (real estate investment trust) or private fund. While this is a challenging option for individual investors, it offers the advantage of selling high-value properties in bulk.
When considering potential buyers (exit destinations), it is important to note that the type of property determines the pool of potential buyers. For small residential properties, individual investors or end-users with actual demand are typical buyers. On the other hand, for large properties such as single-building apartments or commercial buildings, corporate investors, funds, or REITs are likely buyers. Each type of buyer prioritizes different factors. For individual buyers with actual demand, location, property appeal, and the availability of mortgage financing are key considerations.
For investor buyers, factors such as yield, tenant status, and ease of securing financing are prioritized. Therefore, it is essential to consider who the best final buyer for your property would be and tailor your management strategy and sale presentation accordingly.
For example, in cases where the property is sold to investors as an income-generating asset, it is important to maintain metrics that satisfy the next investor. Specifically, this involves maintaining stable income through high occupancy rates and appropriate rent levels, so that the buyer perceives the property as one that can generate immediate high occupancy and profits. In practice, achieving full occupancy and high yields is an effective strategy to secure the next buyer.
Additionally, it is important to ensure the property is “easy to finance.” Properties that are easy for financial institutions to appraise as collateral (e.g., newly constructed, high land value ratio, stable income) are easier for buyers to secure financing for, making them easier to sell. The price range of the property is also a key factor; extremely high-priced properties have a limited pool of buyers. Properties priced within the financing range of individual buyers are a safer strategy for exit planning.
On the other hand, there are cases where the property is sold as vacant land. This involves demolishing an old building and selling the land. This strategy is feasible for single-family homes or entire buildings, and in cases where the land value ratio is high and the asset value (location value) is the main factor, selling the land as vacant may yield a higher price. In cases of illegal structures or extremely old buildings with little to no building value, selling the land as vacant land may attract more buyers. However, it is important to note that demolition costs will be incurred, and the property will lose the residential land tax exemption, resulting in increased tax burdens. Efforts should be made to minimize the time between demolition and the completion of the sale.
Additionally, the option of “selling for self-use” can be considered. For example, if a family-type condominium unit has been rented out, the goal is to eventually sell it to someone who wishes to live there. In this case, the property is marketed as a residential property rather than an income-generating property, so factors such as the surrounding market demand and eligibility for residential mortgage tax deductions should be considered. To make the property more attractive to end-users, renovating the interior and presenting it as a model home before sale can be effective.
As such, the preparations required vary depending on who the buyer is. If the buyer is a high-net-worth investor, they likely have strong connections with real estate brokerage firms, so it is recommended to consult with a trusted agent early on about the sale strategy. By obtaining professional advice on the market, such as “This property appeals to the ◯◯ demographic, so this sales approach is recommended,” you can design the optimal exit strategy.
5.4 Strategies for Maximizing Capital Gains
The ultimate goal of the exit strategy is to maximize capital gains (sale proceeds). All of the timing decisions, potential buyers, and operational efforts discussed so far are aimed at maximizing capital gains by even a single dollar. Finally, we will summarize specific measures that can be taken to maximize sale proceeds.
- Maximize the appeal of the property: When selling, it is important to communicate all of the property's strengths. This is not just sales talk, but rather providing buyers with the information they need to feel confident about purchasing at a high price. For example, for rental properties, prepare detailed rent rolls and operational performance data, and demonstrate that the property has been fully occupied for X years, that there have been no rent arrears or delays, and that the rent is appropriate compared to the surrounding market. Also, disclose the building's maintenance history and inspection records to eliminate physical risk factors that buyers may be concerned about.
- For high-end properties, preparing English-language materials and providing information to overseas investors can also be effective in expanding marketing reach.
- Selecting the appropriate sales channel and negotiation strategy: Choosing a skilled brokerage firm is also crucial for achieving a high sale price. A brokerage firm with extensive experience in handling high-end properties will have a list of potential buyers willing to pay a premium.
- Another option is to approach multiple brokerage firms and solicit price offers through competitive bidding (e.g., proceed with general brokerage and negotiate with the buyer offering the best terms). If the price offered by the buyer does not meet your target, it is important to remain patient and negotiate firmly rather than rushing into a compromise. High-net-worth individuals have the financial flexibility to wait. A strategy of setting a firm price and taking the time to sell at a satisfactory price may be more feasible.
- Minimize taxes and costs: To maximize the proceeds from the sale, it is also important to optimize costs. Regarding capital gains tax, be sure to utilize available special provisions such as switching to the long-term capital gains tax system (for properties held for over five years) or the 30 million yen deduction for residential properties (when selling a primary residence). Additionally, brokerage fees for sales can be high, so there is room for negotiation. In transactions involving billions of yen, there may be cases where a discount on the fee rate can be negotiated, so it is worth discussing. If the property was held by a corporation, tax strategies such as comparing the corporate tax on capital gains with the personal capital gains tax when selling to an individual may also come into play. Consult with a specialized tax accountant to explore a scheme that maximizes post-sale cash flow.
- Laying the groundwork for the next investment: An exit strategy is both a goal and a new beginning. By considering how to reallocate the funds obtained from the sale for the next investment, you can act more strategically. For example, there are advanced schemes such as using the funds obtained from the sale of a property to utilize the 1031 exchange (a U.S. system, but Japan has similar special provisions for the replacement of specific assets) to defer taxation while switching to another real estate asset. In Japan, there are also cases where special deductions for capital gains or replacement tax exemptions can be applied, so be sure to research these in advance. Another option is to use part of the proceeds from the sale to repay loans and reduce outstanding debt, then use the remaining funds to purchase a new property, thereby expanding your portfolio. Keep in mind that an exit strategy is intertwined with the next entry strategy.
The above summarizes the key points of exit strategies. In summary, the ideal exit strategy is to sell at the right time, to the right buyer, with thorough preparation. To achieve this, it is essential to always keep the exit in mind from the start of the investment and manage the property with a proactive approach.
6. Case Studies (Success and Failure Examples)
Finally, we will present case studies of successful and unsuccessful real estate investments by high-net-worth individuals. Let's gain a deeper understanding of the importance of exit strategies through real-world examples.
Successful Case: Accurately Planning the Exit by Reading Market Trends
A high-net-worth investor purchased a single-building used reinforced concrete apartment complex in a suburban area in the early 2010s. Although the property was over 30 years old, it was located in a residential area of Funabashi City, Chiba Prefecture, with good access to the city center, and had a surface yield of approximately 7.5% at the time of purchase. The purchase price was approximately 350 million yen, acquired through a combination of partial self-funding and long-term financing. The investor managed the property diligently alongside their main business operations, maintaining stable operations with an occupancy rate of over 95%. Additionally, despite being a used property, the reinforced concrete construction ensured high durability, and major structural repairs were conducted early on to maintain asset value.
Ten years after purchase, the owner decided to sell the property in conjunction with the succession of the business. At that time, the real estate market was in a long-term upward trend, and investors' perceptions of used apartments were beginning to change. The view that “even older properties in suburban areas can be attractive investments as long as they generate income” was gaining traction, and the property in question also had the potential to be sold at a higher price than the purchase price. The owner entrusted the sale to a trusted real estate company, and the property was ultimately sold for approximately 400 million yen. As a result, the owner realized approximately 50 million yen in capital gains (sale proceeds), securing significant profits when combined with the cumulative operating profits over the 10-year period.
The key factors behind the success of this case were the combination of favorable market conditions and a meticulous exit strategy. From the outset, the owner had a plan to hold the property for the long term and sell it after approximately 10 years, and during that period, they managed the property to maintain and enhance its value. The decision to sell at the right time, when depreciation had begun to level off and the market was on the upswing, also proved to be a key factor in the success of the transaction. This is a prime example of accurately timing both the “buying opportunity” and the “selling opportunity,” thereby securing both income gains and capital gains. The investor is now using the proceeds from the sale to step up to a larger-scale investment in a downtown office building. This case serves as a reference example of how to expand a real estate portfolio in a strategic manner by consciously planning and executing an exit strategy.
Failure Case: Investing with Excessive Leverage Without Considering the Exit Strategy
On the other hand, we will also introduce a failure case where the investor fell into a difficult situation due to failing to consider an exit strategy. A high-income company executive, Mr. A, began investing in newly constructed one-bedroom apartments at the recommendation of a salesperson, with the aim of tax savings and additional income. He purchased several one-bedroom apartments in Tokyo, all with nearly zero down payment and full loans. Although tenants were secured immediately after purchase and rental income was generated, the cash flow remaining after deducting loan repayments and management fees was minimal. Despite this, A continued the investment, optimistically believing that “by selling in the future, the loans could be repaid and profits made.”
However, several years later, Mr. A's employer transferred him to a different region, changing the situation. To purchase a new home for the relocation, he attempted to sell some of his investment apartments to raise cash. However, when he tried to sell them, he found that few properties could be sold for more than their purchase price. One property purchased for 25 million yen when new was appraised at only around 21 million yen for sale. The reason for this was that the purchase price at the time of construction included the developer's profit and sales expenses, which are not reflected in the used market, leading to a decline in market value immediately after purchase. Additionally, the rent had decreased since the initial occupancy, further reducing the return on investment. Furthermore, since the property was purchased with a full loan, there was approximately 23 million yen remaining on the loan at the time of sale, resulting in an overloan situation where the sale proceeds were insufficient to repay the loan. Without injecting additional capital, the sale was impossible, and ultimately, A reluctantly gave up on selling the property.
The key issues in this case are short-sighted purchasing decisions and excessive leverage. A made the decision to purchase without considering an exit strategy, prioritizing the ability to borrow over other factors. As a result, they ended up buying a property at its peak price and were left with only the loan to repay. If he had considered the exit strategy from the start, he could have made different decisions, such as putting down a down payment or avoiding the risky product of a newly constructed one-room apartment with limited exit options. Fortunately, A continued to manage the property as a rental during his transfer and eventually managed to sell it after several years of diligent prepayments, though he did not achieve the profits he had initially anticipated. This case illustrates how dangerous it is to invest without an exit strategy. Especially when using high leverage like a full loan, even a slight deviation from the plan at the exit point can leave you unable to act. The failures mentioned in this article could have been avoided with the knowledge discussed here, such as the existence of new construction premiums and the relationship between loan balances and market prices.
7. Summary (Building a Sustainable Investment Portfolio)
In this article, we have systematically explained the basics and practical aspects of real estate investment from the perspective of high-net-worth investors, with a focus on exit strategies. The key to success in real estate investment lies in having a consistent strategy from start to finish. It is important to make logical decisions at each stage, from property selection to financing, operations management, and sale, while always keeping the ultimate goal (exit) in mind.
Real estate investment is a powerful tool for high-net-worth individuals, offering stable returns, asset preservation, and tax benefits and inheritance planning. However, to maximize its potential, it is essential to select properties based on market analysis, manage risks, use leverage wisely, employ professional management, and implement an exit strategy. In particular, the exit strategy is the key to making real estate investment sustainable. By keeping the exit strategy in mind, investors are motivated to pay attention to the asset value of their properties and take necessary measures while continuing to manage their investments. As a result, this approach leads to the formation of a stable portfolio, enabling both the growth and preservation of overall assets in the long term.
To build a sustainable investment portfolio, we would like to reiterate the following points.
- Establish clear investment objectives and strategies: Clarify your objectives, such as whether you prioritize income gains, capital gains, or inheritance planning, and develop property types, funding plans, and holding period strategies aligned with those objectives. It is important to ensure consistency between objectives and means.
- Collaboration with experts: Real estate investment for high net worth individuals involves complex factors such as taxation, legal issues, and real estate market conditions. It is difficult to handle everything on your own, so it is advisable to form a team with trusted independent financial advisors (IFAs), tax accountants, and real estate experts to obtain long-term advice. Building partnerships with a network of experts is the first step toward stable real estate investment.
- Regular review and flexible adjustments: The real estate market and your asset situation will change over time. Review your entire portfolio regularly and be flexible enough to sell and rebalance your investments or switch to new investment opportunities if necessary. Once you have established an exit strategy, it is not set in stone, but should be updated in line with market conditions.
- Risk hedging and diversification: While minimizing risk through thorough research and careful management of individual properties, diversify your investments across multiple properties and regions to avoid risk concentration. If you are wealthy, you can diversify your investments to include domestic and overseas real estate and other asset classes. Always be mindful of the stability of your overall portfolio so that a single exit failure does not prove fatal.
Finally, real estate investment is not short-term speculation but a medium- to long-term business operation. By approaching it with a long-term perspective, it can yield significant benefits, including economic prosperity, asset preservation, and the ability to pass on wealth to future generations. We encourage affluent investors to use the guidelines in this article as a reference and implement strategic real estate investment with a clear exit strategy in mind, building a sustainable and robust asset portfolio.
