Typically you’ll hear about four wealth generators of real estate: 1.) Cash Flow, 2.) Principal Paydown 3.) Tax Benefits and 4.) Appreciation.
I’ve added three more to the list so read on!
#1 Cash Flow
Cash flow is the money left over each month after all expenses are paid.
If your rental income is $1000 a month and all of your expenses are $800, then you’re getting $200 a month in cash flow.
Now in reality you need to account for monthly expenses, yearly expenses, and infrequent capital expenses to make sure that you truly have cash flow every month over the long run.
Examples of monthly expenses are utility bills (water, gas, electric & trash), repair and maintenance charges, and property management expenses.
Yearly costs include insurance premiums (sometimes paid monthly), property taxes, and tax filing expenses. Capital expenses are one-time large expenses such as a new roof, new furnace, foundation repair, etc.
Having cash flow coming in each month is the keystone of financial freedom! If you have 100 rentals generating $200/mo in cash flow, then you’ve got $20,000 coming in each month.
When I first began investing in real estate, this was my goal. To get my monthly cash flow high enough to free me from my W2.
#2 Principal Paydown
One of the great things about real estate vs. stocks is that real estate is a hard asset so banks will lend you money to buy it.
Having a bank give you a mortgage allows you to leverage a down payment to buy a whole property. If you have 20% down then your purchasing power is 5x your down payment. $20k is $100k in purchasing power, $200k is $1M in purchasing power!
Over time, you’ll pay down your mortgage giving you more and more equity in a property.
Building this equity through principal paydown is one of the ways you’ll become wealthy; assuming you sell when the price is high and don’t get wiped out selling when the value is low.
#3 Tax Benefits
Passive income and active income are not the same to the IRS.
Rental RE income is considered passive income and can be offset with passive losses. Now that doesn’t sound good, (who wants losses?) but paper losses are just that, losses on paper – which does not mean losses in real life.
Sound too good to be true? I’m not here to give tax or legal advice so make sure you know the rules around all of this.
Straight up – most people’s largest expenses are taxes.
People usually think it’s housing but it’s actually taxes. Regardless of if you live in California or Ohio your largest expense is likely taxes.
So if you can reduce your tax burden legally, do it!
I’ll tell you that as a W2 employee I got killed by taxes and as a real estate investor I don’t.
Hint Hint: Cost segregation studies have been a game-changer for me (use my code “1275” for a $50 discount when you hit the link above) and I love them. Do your own due diligence as to how rental real estate can reduce your tax burden, trust me, it’s worth the time you spend researching!
#4 Market Appreciation
Usually, the appreciation talked about in real estate is market appreciation.
Over time, housing values and rents go up. This is great if you own property with a fixed mortgage where your payment stays the same.
With market appreciation, you’re getting equity in the property just by owning it as the value goes up. You can’t beat market appreciation! However, you can’t control it either. It’s not a complete crapshoot, however, market appreciation is correlated with increasing demand and limited supply.
Since you can’t totally control when market appreciation happens, I personally like to force appreciation rather than wait around for the whims of market appreciation.
#5 Forced Appreciation
Forced appreciation is controlling the value of your property by increasing the income it produces or making the market value someone would pay higher.
You can do this by increasing the income the property produces with such improvements as adding a washer/dryer in the unit, adding a bathroom, putting in nicer countertops etc.
I love forced appreciation because it is something I can always control. Think about how you can force appreciation on your properties? Would people pay more for granite countertops? For in-unit washer/dryer? Or how about just a face-lift and landscaping?
#6 Inflation hedge
Now I’m not an economist… But!
I think that we can all agree that at the time of writing this article in January, 2021, the US government is printing money, which many folks smarter than me say leads to inflation.
One of the reasons that real estate experiences market appreciation through time is inflation.
Inflation eats away at your money, making it less valuable and reducing it’s purchasing power. It also means it takes more money to buy what you used to buy, like houses, cars, avocados. Go ask your grandmother what a pair of shoes cost in 1950. It was not $100.
If there is an inflationary period coming, then your money in the bank will lose value while your money in real assets will keep up with inflation. Which side of this do you want to be on?
Secure your cash by buying assets!
#7 Time Freedom
This last one isn’t talked about much.
Once you have your $20k/mo (insert your personal freedom number here) will you just lay on the beach and never work again? Probably not.
My guess is that you’ll feel free to pursue your passion.
Mine was creating VestMap!
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