How Real Estate Can Build You Indestructible Wealth

If you will have access to the financial statements of the rich, you would see on the thing, that real estate (especially commercial) makes up a big portion of their wealth. It is known since the old, old days, that only real estate can and will grow your wealth over time. And here are some of the reasons why everyone should be in real estate game.

Cash Flow

The formula is simple, Cash Flow = Total Income – Total Expenses, money that's left after you pay all expenses, like payroll, maintenance, repairs, contract, advertising, admin, taxes, insurance, mortgage, cap-ex and so on. Total income, on the other hand, is the rent that you collect and some additional income streams like application fees, late fees, laundry income, VIP trash service, pet fees, etc. If the property has a high occupancy level and managed good, there will be not many investments that could compare to real estate that would pay you monthly positive cash flow. Other options like, stocks, bonds, ETF's, retirement accounts even REITs (which is stock as well) won't pay you monthly income as it more paid on a quarterly or annual basis, due to lesser overheads when distributing capital to investors.

Appreciation

Natural appreciation occurs when real estate market prices are increasing naturally due to property demand in the market place. Depending on the type of deals that you're investing, for instance, house price solely depends on natural appreciation, if your neighbor's house price went up, yours will go up as well, while multi-unit properties price depends on the N.O.I (net operating income) that property produces annually. The second choice is better, as you will be able to exit your deal even in the downturns because the next buyer will make an offer by looking at N.O.I. and by determining the price of the deal in that way, he is buying an existing business that produces income, for the house you may need to wait years before the market prices start to rise again so you could sell it for profit.

Depreciation

It is actually a tax term describing your ability to write off part of the value of the asset itself every year, due to wear and tear of the property, the land has a fixed cost and does not depreciate. This significantly reduces the tax burden on the money you can make, giving you one more reason real estate protects your wealth while growing it. Again, the stocks that you invest in don't depreciate and the house, unless it is rented (still not a good idea) does not depreciate as well. The tax laws are made for wealthy people, by wealthy people, so if you want to take advantage of how to score big, you need to start playing in the big leagues. Forget single-family homes, flipping, rent to rents and all the rest get rich quick schemes. I am not against it, as I know many people who are successful in these spaces, what I mean is, don't play there for a long time, you need to be part of the huge deals where you can take and use tax advantages to your benefit.

Leverage

Imagine owning it a property worth 1,200,000$, but you've only paid 200,000$ for it. That's what leverage is. Depending on the size of the deal, you may be asked by bank to make a down payment from 5% to 40+ percent. The smaller the downpayment, the bigger the risk, there is two ways that you can get yourself in trouble, by being underleveraged or overleveraged. Underleveraged means that you don't use enough capital to finance the deal, which is good, but you don't want your money sitting in the deal, that's what banks are for and that's why you have tenants in place so over time they will pay your debt down. Overleveraged means you are borrowing too much money like 90% for your deal, which again may sound great, less money for you to put down, but over longer periods of time, if you are planning to hold the property for years to come, that interest rate may increase and you may find yourself in trouble and not being able to cover your monthly mortgage. Interest rates are currently below 5%, down payments can be 20% or less, and loans are routinely amortized over 30-year periods.

Loan Pay Down

If you are buying or consider purchasing the right size rental property, the one that produces positive cash flow every month, it means there will be enough capital to pay the down payment. So when buying a property you and the bank will pay attention if there is enough positive cash flow to cover your the debt now and going forward, DCR (debt coverage ratio, which has to be at least 1.25%), is calculated by dividing the property’s annual net operating income (NOI) by a property’s annual debt service. Assume NOI of $2,000,000 and debt payments of $1,500,000. The DCR is 1.33, ($2,000,000/$1,500,000 = 1.33). Not like single-family homes, that a person has to pay for himself, the right number (30 unit+), right location, multi-unit properties have enough cash flow to cover the monthly mortgage.

Forced Appreciation

Similar to natural appreciation, forced appreciation is exactly what it says, it is forced to increase property in value by increasing the rents or collecting additional income and therefore increasing the N.O.I. To appreciate the property some investors update the current interiors, floor, new appliances, kitchen, washers and dryers, lights, etc. or to get a "curb appeal" by updating the exterior, parking space, landscaping, painting the building, roofs, signage, windows, etc. to increase the rents, some just increase the rents after buying the property without fixing anything.

Inflation 

Imagine if you owned a piece of property in London city center since 30 years ago, how much you think the value of that property would be worth now? 5 x, 10 x more? Due to inflation (currently is 2,2%) the prices of services, goods and of course real estate is increasing over time, while at the same time the value of the currency is drastically decreasing. If you are looking to protect your capital and grow wealth over long periods of time, instead of looking for getting rich quick schemes and keeping your money in the bank, look no further than investing your money into the right size, right location deals.