Why Invest In Rental Real Estate?

 

Let’s start with the basics. There are four primary ways that you can make money owning a rental property:

 

• Cash flow

  – This is the difference between your property expenses each month and the amount you receive in rent.  If you receive $2,000 for rent, have a mortgage payment of $1,600 and save another $200 for repairs/maintenance, then you have a $200 monthly cash flow.

• Appreciation

  – As the market value of your home goes up, you benefit as the owner. If you were to sell the property, the difference between the new higher value and what you owe is your equity (ownership).

• Amortization

  – Each month, a portion of the mortgage payment that is paid by your renter pays down the principal balance of your debt.

• Depreciation

  – This is a tax write off but not an actual loss. Check with your accountant for a detailed explanation, but this loss for tax purposes effectively allows a portion of the money you make on this property to be “tax free”.

 

Let’s compare real estate to stocks. When you buy stock, you’re buying a small piece of a company of which you have absolutely no control. The CEO could tank the company or the market could tank the company, and there’s nothing you can do about it.

 

You bought that stock with cash and you’re going to get whatever it gives you. If it’s a dividend producing stock it usually doesn’t grow much and growth stocks usually don’t produce many dividends.

 

Ask your stockbroker to give you a stock that has very strong dividends, great potential for growth, one that you can pay for with fixed payments over 30 years, and one that you have 100% control over the company.  In other words, you’ve bought the company and there are very real things that you can do to positively affect its value. Tell the broker you also want this stock to have significant tax benefits… and by the way, you want someone else to make those payments for you.

 

If you can have that, then I’ll believe investing in stocks is better than real estate!

 

Let’s look at an example: If you buy $100,000 in stocks and it goes up 10%, you just made $10,000. To benefit from that increase, you need to sell it. Then you’ll pay capital gains tax or regular income tax rates depending on how long you owned that stock; that’s currently a tax of between 20-36% of your gains.

 

If you put $100,000 into a rental property as a down payment on a loan for a $400,000 home, and the property goes up 10%, you’ve just made $40,000. You don’t have to sell the asset and kill the goose who lays the golden eggs to benefit from that increase. With a cash out refinance, you can get much of your equity out of the property and it is tax free- because it is a loan, not earned income.

 

Hmmm…which would you rather have?

 

I dare you to go into a bank and show them you have $100,000 and then ask to borrow an additional $300,000 to invest in stocks. Do you think they’ll give you that loan?  Not unless your name is Warren Buffet! No bank is going to risk its money on a paper asset that can potentially lose large amounts of its value in a day. Here’s the kicker…that same transaction happens every day with real estate purchases.

 

There is still one more reason why real estate investing can make you wealthy. It has to do with a concept called the time value of money. That is a concept that simply says that the dollars in your pocket today are going to be worth more than those exact same dollars in your pocket in the future. Because of inflation (the rising of prices), our dollars are worth less and less every passing year. When you have a 30-year mortgage the number of dollars you have to pay back each month stays the same… Even though you are paying it back with cheaper and cheaper dollars! That is an additional return on your investment.

 

I hope this article has gotten you thinking about using rental real estate for at least a portion of your long-term investment portfolio. If you would like to discuss these ideas further or if you know anyone in Colorado who needs home financing, give me a call at 719-210-5517.

 

Ryan Jahnke, Loan Strategist

NMLS# 2011733

Rjahnke@719lending.com

(719) 210-5517