|Real Estate Creates Wealth, Offers Benefits.
Income, tax advantages, appreciation and leverage
As a vehicle for creating wealth, financial experts agree it's hard to beat real estate.
Of the four benefits all investors seek (income, tax advantages, appreciation and leverage), no
other single investment offers as much as real property.
The first thing many investors want to see is income. While there are any number of
investments that may offer this benefit, few can produce as much income relative to the cash invested
as real estate. Rental income that exceeds a property's expenses creates a positive cash flow for
the investor. With a fixed-rate mortgage, an investor can insulate a large part of his costs against
rising property values. Then, as rents increase so does cash flow.
How much or how little cash an investor puts up greatly affects the yield in rental
properties. If, for example, a property has a positive cash flow of $2,000 a year but the investor
had to come up with a $10,000 down payment to make the purchase, the return would be 20 percent per
year. Not bad, but if the same cash flow could be maintained with a $5,000 down payment, the return
would be 40 percent. Using a no-money-down technique to purchase the property could yield an
The tax benefits of real estate are many. Besides mortgage interest, property taxes and
a slew of other deductible business expenses, there is depreciation, which in some cases can provide
tax losses to offset other personal income.
Property appreciation is yet another way real estate builds wealth. The National
Association of Realtors has been tracking home prices since 1968. Home values have increased each year
at an average rate of inflation plus one to two percentage points. The longer a property is held, the
more likely an investor is to profit from resale, unless the property was purchased at below market
value, in which case appreciation would be immediate. But whether instant or gradual, appreciation
can create fortunes.
But the true return on real estate shouldn't be measured by just income tax benefits
and appreciation. Leveraging borrowed funds gives a return far in excess of the property's
appreciation rate. An investor may put down 10 percent on a property, but might reap an annual return
of 100 percent as a result of the price appreciation. According to the Joint Center for Housing
Studies, even a modest 3 percent annual rise in the value of a property bought with 10 percent down
generates a 34 percent annual return on invested capital if the property is held at least three years.
The less an investor puts down, the more leverage. Usually the greater the leverage,
the higher the mortgage payments, so care must be taken in property selection and contract negotiations
to be sure the property will support the payments.
As if these benefits aren't enough, there's one other that absolutely no other investment
provides, and that's shelter. Whether for your family or for your tenants, when you invest in
residential real estate you are providing someone with a home.
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