Recognizing the Advantages of Owning Rental Properties is important. As a result of the last housing market crash in the United States, we experienced a sharp decline in the value of residential homes. Currently, the housing market has stabilized in most of the country, but there are still hundreds of distressed homes coming to market every day. These low prices have made real estate investing more attractive to the saavy investor as well as potential investors looking to get into real estate. If you are the “potential investor” who has been asking the questions if this is the right time and how you should do it, then this article is for you.
According to a recent U.S. News Article “Since 2005, the number of households that rent has hiked to 37 percent, a jump of 9 million and the largest increase by decade since 1965, according to a December study by the Joint Center for Housing Studies of Harvard University. This is on track to be the ‘strongest decade of renter growth ever recorded’, according to the study, and hikes in rent are outpacing inflation.†We currently have an unprecedented opportunity to become extremely wealthy in real estate. The major key to being successful in real estate in general is of course “location, location, location,” but there are two other key components. The first key is buying property at, or below, fair market value. You can accomplish this by using OPM (Other People’s Money, i.e. mortgage or line of credit) or by using your own cash. The second key is your ability to turn your rental property into a “cash cow” by putting little or no money down during the acquisition phase.
The great advantage of building wealth through real estate is that you can use OPM money to do it. The availability and relatively low cost of financing make real estate investing a viable and realistic option for virtually everyone. If you are not flushed with cash, most likely your initial purchase of a rental property will be achieved by obtaining financing from a lender. Your tenant’s rent will help you pay your monthly debt service (loan), your ongoing operating expenses (cost to maintain your rental) and capital improvements (such as new carpet replacement and painting to make your property more attractive to tenants). Using financing creates leverage and it usually consists of a cash down payment from the buyer along with a loan. There are two types of leverage:
✓ Positive leverage: Positive leverage is where you are able to earn a return not only on your cash investment but also on the entire value of the real estate. The ability to control significant real estate assets with only a small cash investment is one of the best reasons to invest in real estate. For example, you may purchase a $40,000 rental home with $5,000 cash in the bank and a bank loan for $35,000.  If the home value doubles in the next five years and you sell this home for $80,000, you’ve turned your $5,000 cash investment into a $40,000 “cash cow”.
✓ Negative leverage: Real estate has enjoyed a steady appreciation from the mid-90s through 2005, but you must remember that real estate doesn’t always appreciate and can even decline as was evident during the last economic recession. Negative leverage can wipe out your entire investment with just a 20 percent decline in the market value of your rental property. Negative leverage is unfortunately the experience of many investors and homeowners who have purchased real estate in the last 10-15 years using little or no cash down payments. Your real estate market can stop appreciating and can actually decline significantly, and many owners can find that their mortgage balance actually exceeds the current value of their property.
Over time, you should see your rental income collections grow faster than your operating expenses for increased monthly cash flow. This is why many economists feel real estate is a superior investment, because historically real estate has been a very effective hedge against inflation. And after your tenants have finished paying your mortgage, you will have a positive cash flow – in other words, you are now making a profit. This is also known as passive income.
Real estate investing process can be very complicated, so we suggest you turn to an experienced Realtor to help you navigate through the buying process. The Vaughn Real Estate Team is a Metro Miami, Fort Lauderdale, Florida and Metro Detroit, Michigan short sale and luxury real estate specialist. Let the experience and success of our team help you with your next home purchase. Contact us today. 305.814.9310