Does Real Estate have a Better Return On Investment than College?

With the rapid rise in college tuition, I have recently started to ponder what advice I will have for my children when it’s time for them to invest in their educations. I grew up in a family where education was seen as the only avenue for reaching success, and for a long time I have believed this to be true. My wife and I cumulatively have 6 undergraduate and graduate degrees, with 4 of them from Harvard or Johns Hopkins. We are no slouches when it comes to academic success, and I still believe strongly in the benefit of my education. However, it has almost been 20 years since I attended school, and tuition has risen an average of 8% per year since then (US News top ranked schools 20 year tuition increase: Private School = 179%, Out of state = 226%, In state = 299%) . Salaries have only risen 2.5% per year over the same period. It is not difficult to see a moment in the near future where college no longer represents a good return on the investment. I believe we have reached that moment already for most professions.

I recently spoke with a friend whose son was accepted to Duke University, and he was wondering if the $73,000 yearly cost was worth it. The University is not contributing any aid for his son. Four years totally $280,000 and borrowed at 4.5% interest with a 10-repayment term will result in a $2900 debt payment each month, or $34,800 a year. The average salary of a recent college graduate is 50k. The debt payment alone would constitute the entire post-tax/FICA income. I don’t see how that loan could be paid back at all, even if a Duke graduate earns more than the average. Most likely this debt will have to be deferred or have extended payments to a 20-year period with a total amount paid of $425,140. I have not even begun to figure in graduate school debt.

If my friend used the 73K as investment seed money to co-sign with his son on rental property, the numbers indicate a much better return on investment. In each of the 4 years, the 73K could be used as a 25% down payment on a 280k property, rented for $1900 monthly. At the end of 4 years, the son would have over 1.1 million dollars in rental property assets providing $97,500 in annual rental revenue. After paying PITI on a 30Y mortgage at 4.5%, expenses, and maintenance reserve of $200 per month per house, the rental cash flow would be a modest $9070 in the first year. With the value of compounded interest, the ROI on the properties would grow dramatically. Ten years after the last rental property purchase, assuming a modest property value increase of 3%, and rent increase of 3%, the value of the properties would be 1.5 million, with free cash flow from rents of $28,500, and equity of $830,000. After 20 years – 1.9 million in value, $57,500 in annual rental cash flow, and 1.6 million in equity. If the son cashed out of the properties after 20 years, the total return (accumulated debt pay down, cash flow, appreciation) after the cost of sale would be 1.8 million dollars, or equivalent to $90,000 per year. By comparison if the college graduate’s 50k salary, increasing with cost of living adjustments, would be $87,000 after 20 years. The total earned income over 20 years would be 1.35 million. After repayment of student loans the college graduate would have only earned $920K.

The investor in real estate would double the college graduate's total return.