The scoop on rental property investing!
With the right strategy, investing in real estate can be a great way to generate extra income. Whether you’re interested in single-family, multi-family, condos or apartments, the potential return on your investment can be substantial. Not to mention the other added benefits such as; increased forced and natural appreciation, tax benefits, cash-on-cash returns and loan-pay down.
Generally speaking, there are multiple sub-categories within the world of real estate investing that you can pursue. The success or failure of your investment deals depends on your ability to quickly and accurately qualify and identify the good deals, versus the bad ones. It is critical to understand your markets trends, home value ranges, and what types of properties offer the highest possible returns. Our team offers our investor clients a variety of customizable services and resources. From identifying potential deals and renovation assistance to renting or selling the property post-renovation, we’ve got you covered! Working with our team will give you instant access to our network of local wholesalers, hard and private money lenders, preferred vendors and contractors and the areas best property management providers.
Let’s take a deeper look at some of the top benefits of investing in rental property:
- Appreciation: There are two aspects of appreciation. Forced appreciation and natural appreciation. Forced appreciation occurs when an owner is able to increase the value of the property through upgrades or improvements to the dwelling. Not every home improvement or upgrade will yield the same ROI (return on investment), which is why it is important to consult your real estate agent before taking on any sizable projects to determine if the cost and effort are worth pursuing based on the return. The other is natural appreciation. On average the typical home will naturally appreciate 2-3% year over year. While this type of growth isn’t life-changing, it is yet another added benefit of owning rental property.
- Potential tax advantages: Always consult with your CPA before investing in rental property or making any huge financial decisions. It is important to understand how the purchase of a rental property could potentially positively or negatively impact your taxes. In some cases, owning rental property can make a number of tax deductions available to you. There are also programs like a 1031 Exchange that will allow you to utilize your rental profits by reinvesting them in additional properties. In some cases, this can help investors avoid paying capital gains taxes.
- Leveraged investment: Typically, banks will require a 20-30% down payment for an investment property. In other words, you could acquire a $100,000 property for a $20,000 cash payment. This type of leverage is unheard of with normal stock and commodity investing.
- Loan pay-down: Utilizing a renter’s income to pay down your mortgage is a huge benefit to owning rental property. There are many other influential aspects to the overall success of being a profitable land-lord, but assuming you have properly screened your tenants, track your expenses and leverage some of your profits to grow your portfolio, you should be able to savor the financial perks of the highly effective, equity building process known as loan pay down!
- Cash-on-cash return: As a personal rule of thumb, it is typically a bad idea to invest in any property that is not yielding a positive cash return each month. It is often used to evaluate the cash flow from income-producing assets. Investors generally considered a cash-on-cash analysis to be a quick litmus test to determine if the asset warrants further review and analysis. Cash on Cash analyses can also be used to determine if a property is undervalued, indicating the potential for instant equity.
Cash-on-cash return example:
Suppose an investor purchases an apartment complex for $1,200,000 with a $300,000 down payment. Let’s say that each month, the cash flow from the rentals, (less the expenses), is $5,000. Over the course of the year, the before-tax income would be:
$5,000 × 12 (months) = $60,000, so the NOI (Net Operating Income) – the yearly cash return would be $60,000 / $300,000 = 0.20% = 20%
However, because the investor used a mortgage to purchase a portion of the asset, they are required to make debt service and principal loan repayments. Because of this, the Cash-on-Cash return would be a lower figure which would be determined by dividing the NOI (after all mortgage payment expenses were deducted from it), by the total cash invested.
For example: If the investor made total mortgage payments (principal + interest) of $2,000 per month, then the Cash-on-Cash investment would be as follows:
$2,000 (monthly loan payment amount) x 12 months = $24,000
$60,000 (yearly rental income) – $24,000 (yearly loan payment total) = $36,000.
$36,000 (cash) / $300,000 (total loan amount) = .12% = 12% return.
As you can see, this particular investment would yield a 12% return. So would the abovementioned example be a worthwhile investment? The answer actually depends on the investor, their specific market, personal return expectations and overall investment strategy. But to keep things simple, consider the following:
Over the past 100 years, the stock market has fluctuated between 7-11% returns for investors. If a property investment analysis shows that the overall return is going to yield less than what the stock market has historically offered, then why take on the additional work, debt, time and energy for potentially the same type of return as a mutual fund? Since investment properties can offer multiple financial rewards, each investor has to take the time to consider all aspects of the potential deal to truly determine if it is worth purchasing.
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