1. Long term appreciation – Appreciation rates in the country varies greatly depending on the location. Florida’s real estate values have increased by 4.58% per year for the last 20 years.
Florida’s increasing real estate prices have been driven largely by population growth. Florida residents are enjoying warm and sunny weather all year and no state income tax!
2. Cash Flow – Rental properties produce monthly income. Cash flow is calculated as rental income minus expenses. These expenses include mortgage payments, taxes, insurance, repairs /maintenance, property management fees, capital expenditures and etc.
An average rental property deal can produce 8 -12% per month in cash flow. Cash flow in real estate can be very similar to dividends in stocks, but with much higher returns.
3. Leverage / Debt pay-down – Acquiring debt on rental properties allows investors to harness the power of leverage through bank financing. For example, an investor can purchase a $100,000 property with just $20,000 as down payment. This leverages the investor’s capital 1:5, this way he can get up to 5x returns on every dollar invested as the property appreciates.
So, if we use Florida’s annual appreciation rate, investors could get up to 20% annual returns just from appreciation with leverage! Also, since mortgage payments are being taken from rental income, your tenants are technically paying down your mortgage for you. This increases your equity in the property passively, every single month!
4. Tax benefits – Real estate is a tax-advantaged asset. Real estate investors enjoy a variety of tax write-offs including mortgage interest, property taxes, repairs costs, depreciation, and other expenses.
There is also the 1031 exchange. It is an option to defer taxes when selling real estate as long as you use all of the proceeds towards purchasing another property. This enables investors to snowball their investments and acquire larger properties, without paying taxes.
5. Forced appreciation – This is my favorite part in real estate investing. It’s something you can control. Real estate investors have the ability to increase the property’s value actively through different ways depending on the type of property.
Residential property (1-4 units) values are based on comparable sales. Forced appreciation in these properties rely mainly from rehabilitation efforts. For example, let’s say you have a property worth 100k and you spend 15,000 in repairs in key areas of the property to add 40,000 in value. This is an easy 40% appreciation that you “forced”.
Commercial property (5+ units) values are calculated using the income approach. This approach looks at the net operating income of the property (NOI). NOI = income minus operating expenses. The higher the NOI, the higher the property value. You can increase the NOI of the property by either increasing income (rent increases, decreasing vacancy, laundry/storage services) or by decreasing expenses (separating utility meters and bill backs, using energy efficient products).
Forced appreciation is the tool that allows investors to scale and build their real estate portfolios very quickly. You can use this tool to create instant equity in the property, and if you create enough, you can get a cash out refinance loan from the bank and get all of your capital back. The proceeds are then used to buy the next property. It’s just like recycling money! The same capital you used to buy 1 property, can turn into 10 or 100s, if you do it correctly. This strategy is called the BRRRR (Buy, Rehab, Rent, Refinance, Repeat) method, a term coined by our friends from Biggerpockets. Check out this link for more info.
Happy investing!