The CEO and founder of a US-based real estate business that harnesses technology talks about how investment property-focused wealth management can give firms an edge in winning wealthy clients.

The following article comes from David Wieland, founder and CEO of Realized. The business applies what is called “modern portfolio theory” (in fact, it is now quite old) to the bricks-and-mortar world. It’s an example of how this news service aims to get deep into the details of investment stories and get beyond the superficialities. (See a previous example here and here.)

The usual editorial disclaimers apply to guest articles. The editors are very pleased to share these insights and invite replies. Email tom.burroughes@wealthbriefing.com

While financial advisors don’t typically assist clients with real estate investments, those who do can acquire a significant portfolio of new business. Real estate often makes up a substantial portion of a high net worth individual’s portfolio, meaning that Investment Property Wealth Management, or IPWM, could afford new opportunities, both in serving existing clients and in securing new ones, while also representing a defensive strategy to protect one’s business. 
 
Understanding high net worth clients
According to the 2022 World Wealth Report from Capgemini Research Institute, the US was home to 7.4 million HNW individuals in 2021, an increase of 13.5 per cent from 2020. The largest population of HNW individuals in the world, these two percenters hold a combined asset value of $86 trillion. And, because of the work required to maintain and preserve their assets, these specific investors represent a high-demand opportunity for private wealth managers who usually earn a percentage of the total assets they manage.

HWN individuals are those who have at least $1 million in liquid financial assets, and they typically seek guidance from financial advisors to strategize investments and manage wealth. They may also have a significant amount of net worth tied to real estate properties. And some may be looking for ways to transition out of real estate management into a more passive income-seeking option, such as a Delaware Statutory Trust, which can help investors manage risk through diversification.

But it’s not all about investment returns for HNW individuals. They also want to protect their hard-earned assets and leverage them, often for retirement, philanthropy, or building generational wealth. They may require additional personalized services, such as estate and tax planning, and separately managed investment accounts versus typical investments. HNW individuals may want someone to help them oversee all these investments while helping them meet long-term financial goals and avoiding costly tax implications or investment mistakes.

How IPWM differs from traditional wealth management
Traditional financial advisors typically don’t handle commercial real estate (CRE) investments for clients beyond assets like REIT ETFs, but for those willing to learn the ropes or partner with a trusted CRE advisory firm, real estate wealth management can be a value-added addition to their service offerings.

Investment Property Wealth Management®, or IPWM, involves a strategy similar to the management of a traditional portfolio, where diversification is key to risk management. Advisors who understand the IPWM concept can help transition real estate investments to more diversified or transferable assets, such as DSTs or DSTs with an Umbrella Partnership Real Estate Investment Trust (UPREIT) option. This can provide alternatives to investors in or approaching retirement, who may want to reduce the time they spend actively managing assets.  

Why it’s important for HNW individuals to pursue alternative assets like CRE
In an attempt to meet the needs of HNW clients, an advisor needs to understand HNW persons’ values as well as how to communicate to clients the potential benefits of alternative real estate investments, such as DSTs and UPREITs. 

For instance, DSTs are legal entities that allow individual investors to pool funds so they can mutually invest in and own a fractional interest in commercial properties, such as multifamily residential, hospitality, or retail. DSTs also open the door for 1031 exchange transactions as well as their pass-through advantages for passive investments. Additionally, there are secondary market options designed to enable investors to sell DSTs to another party, liquidating assets for themselves or their heirs. 

Similarly, an UPREIT is a partnership formed between the owner of an appreciated property and a real estate investment trust, or a company that owns, finances, or invests in real estate or real-estate-related assets. The property owner contributes the real estate assets in exchange for operating partnership units through a tax-deferred exchange similar to a 1031. Former property owners can then defer capital gain taxes until they sell their operating partnership units or convert those units to REIT shares. If the REIT company decides to sell the contributed property, the former owner may receive the additional benefit of converting their interest into a larger property portfolio.

Both DSTs and UPREITs allow investors to diversify their portfolios in a way that requires less responsibility. That includes transitioning assets to an investor’s heirs when they’re gone.

IPWM and estate planning
HNW individuals aren’t just interested in maintaining or growing assets but also in ensuring that those assets pass to their heirs with as little tax liability as possible. Thus, estate planning is a critical component of wealth management for this group. DSTs represent an estate-planning tool for those who have longer investment time horizons of five to 10 years before they need to liquidate any real estate assets. 

While investors have the option of selling their real estate investments, doing so may be counterproductive if transferred assets experience significant appreciation and incur hefty capital gain taxes. DSTs allow investors to retain partial property ownership while deferring capital gains taxes through a 1031 exchange, solidifying those investments for future generations. 

DSTs also enable investors to split their assets among multiple heirs by way of trusts, which they can individually assign to beneficiaries in equal or varying amounts depending on the recipient, mitigating potential family disputes after investors are gone. 

Beneficiaries can potentially earn monthly income as well as asset appreciation after their family member’s passing and without the responsibilities of direct property management and cumbersome tax planning. An investor’s heirs can also employ a step-up in basis, which allows them to take depreciation allowances based on the property’s current fair market value. That can offset any future capital gain liabilities tied to the inherited asset, preserving an even greater financial legacy. 

Additionally, charities can accept a DST donation since the nonprofit organization doesn’t have to manage the asset. This allows a family to retain the DST and transfer the passive income straight to the charity.

Since the HNW market is highly competitive, advisors need a way to stand out in the crowd. IPWM offers advisors a unique approach, a differentiator other professionals may not use. If an advisor doesn’t currently offer a solution for privately held real estate, they may be at risk of losing a client to a competitor who does. 

Partnering with a company like Realized, whose sole focus is tax-managed CRE investments and not traditional wealth management, can help advisors to provide a better service to their clients by offering solutions for privately held real estate. 

Full disclosure. The information provided here is not investment, tax or financial advice. You should consult with a licensed professional for advice concerning your specific situation.