We believe that everyone should have multiple income streams, and rental properties provide a great opportunity to build wealth and create passive income streams. Real Estate also offers much higher returns than stocks, bonds, and other investment classes.
Let’s break down the ways that an investor gets paid from owning rental properties:
Monthly Cash Flow. This number is derived from your monthly income (rents received) less your monthly expenses (mortgage, insurance, repairs, property management fees, vacancy). Our target number is at least $300 per month per unit in cash flow after all expenses are paid.
Principal Loan Paydown. Each month your tenant is paying your mortgage, they are also paying down the principal balance of the loan. As time goes on and you own the property longer, the principal pay down increases each month and you’ll watch the principal balance decrease. The option then becomes available to do a cash out refinance or refinance the loan for a lower payment.
Appreciation. Historically, real estate has appreciated at around 6% interest since 1975. For some, appreciation alone is a strong reason to invest in real estate. Add in monthly cash flow and it’s a no brainer!
Tax advantages. Did you know that you can write off all of your rental property expenses, much like running a business? Any and all expenses related to management fees, repairs, advertising, mileage and furniture are all write offs. Interest paid on loans is also a write off, along with depreciation. For residential real estate, the property can be depreciated over 27.5 years. The savings vary from investor to investor due to the tax bracket that you’re in, but the savings can be significant.
If we were to take these benefits and break them into actual numbers, it would look something like this:
A $350,000 duplex would require a downpayment of $87,500. We call the down payment your initial investment, since that is the money that you have into the investment.
To figure out the return on investment on the monthly cash flow, assuming the duplex cash flowed $600 per month, or $7200 per year, your return on the cash flow would be an 8% return.
If we take into consideration the principal pay down, on a 30 year mortgage of $262,500 at 5% interest, roughly $4000 per year would go toward principal. Divide this by your initial investment of $87,500 and your return is 4.5%.
Your appreciation gain of $21,000 per year divided by your initial down payment is a whopping 24%!
The tax advantage benefit is much harder to calculate, so therefore we will leave it out of this example, but for most people it is a roughly 2% return.
Add it all together and the return on your initial investment for the first year is 36.5%!
If you focus on finding great deals that hedge against the risks (this is still investing, and there are risks) you’ll enjoy a lifetime of income and massive returns on your hard earned capital.
Want to know how I’ve put this plan into action for myself personally and turned $70,000 into a $2,857,000 portfolio that generates $80,000 per year in cash flow? Visit my personal blog for all of the good, the bad, and the ugly in my real estate journey.