By Graham Farran
Real Estate has been a great investment for me and many of our companies’ clients. Many novice investors look at appreciation as the main benefit to investing in Real Estate, but I see that as just icing on the cake. Here are the 6 major ways that you can build wealth with real estate.
#1 Real Estate gives you Predictable & Stable Income.
In any area you can find out what the “market rent” is and it’s very consistent. Rents in Southern Oregon run around $1 per square foot, higher in areas like Jacksonville and Ashland and cap out at about $3500 month regardless of the home. When you invest in Real Estate you can predict almost exactly what your income will be.
#2 Real Estate Investments can be Leveraged
Your investment can be 4 to 5 times greater than your down payment. The lending bank requires 20% to 25% down for an investment property and they will invest 75% – 80%. So, with $40,000 down you can buy a $200,000 investment. When it comes to your return on investment, you make a return on your cash investment or you can make a return on the spread between the interest on the loan and the rate of return on the property. In some cases, the leverage can be a lot higher; like buying a home with only 3% or 4% owner occupied financing and then turning it into a rental after a required one-year period of living in it. You can also buy a duplex or tri-plex with a small down, owner-occupied loan then live in one of the units and rent out the rest. Where else can you use other people’s money to buy and investment? You can’t borrow $200,000 to invest in the stock market and secure it with the stock you buy. So, leverage is, to me, the biggest benefit for investing in Real Estate.
#3 Real Estate Appreciates in Value
While appreciation is not guaranteed, real estate values in the US have increased an average of 6% a year over time. I always analyze a real estate investment based on its return without adding in appreciation, and see appreciation as icing on the cake.
#4 Real Estate Provides Equity Buildup
Equity builds in two ways. Every year your tenants rent checks go towards paying down your mortgage so you build equity by debt reduction. At the same time appreciation causes home prices to go up which also causes your equity to build, so your equity grows in two ways.
#5 Real Estate is Improvable
You can increase the value of your investment property with “elbow grease” and “sweat equity.” Real Estate is an investment that with hard physical work you can personally increase its value, or write a check to a contractor to improve its value.
#6 Real Estate provides many Tax Breaks
There are 4 ways of saving on your taxes by investing in real estate.
- DEDUCT all expense incurred in owning real estate. Property upkeep,
maintenance, improvements and interest paid on the mortgage. The deductions offset income and reduce your overall taxes.
- DEPRECIATE your rental home (minus the value of the land). The deductions offset income and reduce your overall taxes.
- DECREASED tax rate when you sell real estate. Real Estate profits, whether they be rent income or profits for the sale of a home are subject to capital gains tax which is far less than the tax you pay on earned income.
- DEFER any taxes due by using a 1031 Exchange. As long as you re-invest in like properties, your profits from a real estate investment never get taxed until you sell that investment property and don’t re-invest. What I’m seeing now is elderly couples passing away and leaving their real estate investments to their children who, upon inheriting the properties get to value those properties at current value without paying any taxes. Taxes are only paid if they sell those investment properties in the future for more than the value of which they inherited it, and then, they only owe tax on the value that it has appreciated since they inherited it.
So, how do you get started?
Unless you can come up with 20 – 25% down for an investment property the best way to get started is buy a home, live in for one year, then convert it to a rental home. By doing this you can get an owner-occupied loan with as little as Zero to 3% down. You can even buy a duplex or tri-plex, with an owner-occupied loan and live in part if and rent out the rest. If you already have a home, see if you have enough equity to borrow against for the down for your first rental property.
Once you own your first rental property, it’s much easier to get the down for your second rental property. Here are three ways:
- Save the profits from your first rental property
- Borrow against the equity of your property (HELOC loan)
- Refinance your rental home and take out the equity
As time goes on and you have many rental properties, you can accelerate the acquisition of your rental properties. You can use your rental profits or equity to buy a few rental properties per year. You can count your rents minus your expenses as income to qualify for more investment loans. My personal experience has been I’m busy with my day job so when I get around to looking at the equity in my rental homes, I’m always pleasantly surprised. I find that the loans have been paid down substantially enough to give me a debt reduction and appreciation has caused the value of the home to go up substantially, even doubling in some cases. After I analyze how much equity I have built up the only questions is…. what can I buy next?