Why Real Estate is the Ultimate Investment
In 2012 I began devouring books on investing and personal development. It didn’t take me long to realize that both investing and personal development could be a powerful synergistic combination, and I found that investing in real estate was particularly intriguing to me. Like many, I originally misunderstood real estate investing to be something that was not for us regular folks. It was something that only rich old farts did in between smoking stogies and sipping whisky. Luckily my personal development study would help inspire me to dream bigger, and my real estate research would lay out the action steps I needed to take to get there.
Mindset was the foundation of my metaphorical “house”, and Education was the framework that was built on top of it. Yet this shell of a house was nothing until I could master the final requirement, which of course, is Action.
I recall back then (in 2012) trying to educate my friends of the benefits we could all reap if they would just be willing to party a little bit less, save a little bit more, and take some calculated risk. Regretfully I failed to inspire them to join me on my real estate investing journey, however today I intend to rectify that injustice.
The FOUR Wealth Accelerators
of Real Estate Investing
OK to all my old friends I failed, and to my new friends whom I may not even know yet, get ready to have your mind blown. Get ready to see why investing in real estate is such a proven wealth builder. Why the world’s most elite people swear by it, and why even those with no education or experience often make hundreds of thousands in it by accident! Welcome to the Four Wealth Accelerators of Real Estate Investing:
1) CASH FLOW
Cash Flow is the monthly profit you create from owning and operating a rental property. Whether you’ve decided to purchase a Single Family home, a Duplex, or even a 20 unit Apartment Building it must create cash flow if you want to be a happy and successful investor. Some people are content with $25/month per a property, others demand over $1000. The amount of cash flow is determined by a number of factors, but for simplicity sake at this point, let’s imagine you’ve bought a $225,000 ($225K) single family that rents for $1500 per a month. At today’s low interest rates (2.49%) your monthly mortgage payment is $806. The renters pay the utilities, so the only hard expenses you’ll have are property taxes ($250/month) and insurance ($70/month). Therefore a simple version of the Cash Flow Formula will look something like this:
CASH FLOW = Monthly Income – Monthly Expenses
When we take the Monthly Income (rent) and subtract the Monthly Expenses (mortgage payment + taxes + insurance) you’ll be left with $374/month. $374 a month is $4,488 a year.
People often fear being a landlord because they’re worried about having to go repair a toilet, but FYI $4,488 is well worth the money for fixing a toilet (and it’s plenty if you’d prefer to hire that out). Cash flow is vital because there is generally some actual work involved when you’re buying and operating rentals. You deserve to be paid for your time, or at least have the funds available to pay someone else to do the work you’re not enjoying. Cash flow doesn’t need to be enough to live off of at first, but it needs to be enough to make you happy so you can stay on the path. Cash flow is Awesomeballs, however, it is only ONE of the Four pillars that create Wealth in Real Estate Investing. The next is…
2) PRINCIPLE RECAPTURE
The next Wealth Accelerator of Real Estate Investing is Principle Recapture. As your tenants pay you rent, you’re turning around and paying your lender. Your lender (especially in the first 5 years) is going to keep approximately 50% of that payment as interest, however the other portion pays down your loan. Generally as time passes the portion that goes to interest decreases and the portion that pays off the principle increases. Once the mortgage is paid off, this expense disappears and your cash flow increases drastically.
Continuing on from our example above with your $225K property with a mortgage payment of $806/month, it’s realistic to bet on about $400 a month to mortgage pay down during the first few years, and then more and more as the interest portion decreases. $400 a month equates to another $4,800/year. For those keeping track, we’re just under $10,000 a year return from this investment… but wait (insert cheesy infomercial voice here), There’s MORE!
3) APPRECIATION
There are actually three forms of Appreciation in real estate investing that we like to utilize, Appreciation on the Buy (or purchasing a property under market value), Forced Appreciation (through strategic renovations), and Appreciation Over Time (as the market goes up).
Appreciation on the Buy – This one requires a bit more skill and work but it’s something that we like to do at Real ABUNDANCE to help hedge the risk of market fluctuations. We generally only buy properties that are at least 10% under market value. What this means in our $225K house example is that this property has a fair market value of $250K. The obvious question is, How can you purchase a property for under fair market value? I could (and will) write an entire blog on this question alone, but for now the simple answer is rather the Seller is Motivated, or the Property is Distressed.
When picturing a Motivated Seller think divorce, illness, relocating for work, or a seller who’s already purchased another property. Basically getting top dollar is less important to the seller than liquidizing the property to solve another problem.
As far as a Distressed Property goes, let’s all agree that home ownership can be a lot of work. If the owner doesn’t have the financial means to keep up with the maintenance, or if they’re elderly (for example) and can’t physically do it, houses can begin to devalue quickly. The typical buyer looking for a home can be frightened by things like shag carpets, stinky smells, or out dated kitchens. They don’t want to solve these problems, and they don’t want to tackle renovations. This provides investors an opportunity to buy it at a discount.
At Real ABUNDANCE we like to utilize the above two underlying reasons along with Advanced Lead Generating Strategies such as Wholesalers, We Buy Houses website/signage/advertising and good old Networking.
Forced Appreciation – The part about real estate investing we love the most is forcing a property to appreciate. This is done through Strategic Renovations and identifying and executing on the Highest and Best use for a Property. Sometimes this is as small as putting in a hard days work to get some walls painted and some messes cleaned up, other times it can be a complete tear down of an existing single family home and rebuilding a fourplex in its place!
Appreciation Over Time – This is the traditional version of appreciation that many of your friends, family (and especially grandparents) have likely made by owning their property over time. Real estate has always appreciated over the long haul because value is based on supply and demand. There is a finite amount of usable land on the planet, but the Earths’ population increases every year. This causes the land (and the real estate on it) to generally increase in value. It’s important to understand that buy and hold real estate investing is typically a long term investment, and the conservative number for yearly appreciation is on average about 5%. With that being said, there are years when this number jumps to 10%, 20% and even 30%. Let’s stay conservative and say that with this $225K property you failed to Appreciate on the Buy, you didn’t Force any Appreciation, and Overtime it only appreciated 5% a year. After year one, your investment has now gained another $11,250.
So along with CASH FLOW, and PRINCIPLE RECAPTURE, APPRECIATION brings your grand total to over $20,500 a year. We’re getting pretty close to a small salary aren’t we? Well here’s the final (but quite possibly the most powerful) Super Wealth Accelerator…
4) LEVERAGE
This is a real “Ah ha” for many investors when they fully realize the extent of this last Wealth Accelerator.
Let me ask you this, if you have $45,000 to invest in stocks, or bonds how many stocks will a financial specialist at the bank allow you to buy? (Insert Jeopardy theme song here)…
Think about it …
Ready for your final answer?
The Answer: They will sell you $45,000 worth of stocks (not too complicated right?)
OK, now if you have $45,000 to invest in real estate, how much real estate do you think the bank will help you to buy?
Fine, we’ll skip the Jeopardy theme song here and get to the point…
The Answer: YOU CAN BUY A $225,000 HOUSE!
Banks have long recognized that real estate is a stable, long term investment, which is why even with increased rules for lending, it’s still reasonable to assume that you secure an 80% LTV (Loan to Value) mortgage. Meaning if you have 20% available for the down payment, they will allow you to mortgage the remaining 80%. Leverage is the reason why you can invest a $45K down payment and then turn around and make the return on investment from a $225K house! To really illustrate the depth of this, let’s take a look at our example, which, conveniently enough is also a $225K investment property.
So far, in our conservative example of real estate investing, the Wealth Accelerators of CASH FLOW, PRINCEIPLE RECAPTURE, and APPRECIATION have earned you over $20,500 in your first year of investing. Considering the property cost $225K and makes $20,500 profit, that’s about a 9% return on investment. There’s a good chance 9 percent is better than you could expect from any traditional bank investment vehicle, however we haven’t yet included the final Wealth Accelerator. This one really is a Super Accelerator, and here’s why:
ROI % = (Net Profit / Amount Invested) X 100
9 percent would be the return on investment if you calculated the Net Profit ($20,500) divided by the house cost ($225K), multiplied by 100. However, because you used Leverage, you didn’t actually invest $225,000, instead you only invested $45,000 (the rest of the house is mortgaged). Therefore, ($20,500/$45,000) X 100 is actually: 45.6 % !!!
WHAT?!?!?
Mind Blown!!!
Right?
You’re welcome!
Now I want to wrap this up with 2 quick but crucially important points:
1) Some of you may be saying, that can’t be right, if the returns are that amazing why isn’t everyone doing this? The truth is, although the principles are Simple, active real estate investing is not what I would call Easy. Buying, Renovating, and Managing rental properties requires a certain Mindset, Education, and Skillset to succeed. The good news however is that all these attributes can be Learned and Developed if they don’t already come natural to you. Real ABUNDANCE has several educational and motivational Blogs and Videos designed to help you on your Real Estate Investing journey. Or, if you’re more interested in taking a passive (investor) role, but still want to enjoy the wealth real estate investing offers, then consider applying for our Joint Venture opportunities.
2) Some readers may be saying, “OK those numbers are AMAZEBALLS but can I really find a $225K property and rent it for those returns?”
The answer is a resounding YES YOU CAN!
In fact, here’s the secret (leans in close for dramatic affect) I just Bought that property! (only I paid a little less, and am making a little bit more). I’m just finishing up with the process of getting it rented right now, but I’ll prepare a fun little Case Study to help show exactly what we do at Real ABUNDANCE, and if this is something you want to get in on, please don’t hesitate to contact us at Adrian