SECRETS TO BUILDING WEALTH IN REAL ESTATE
Example: 5x increase of returns on your cash using leverage
IF:
⦁ $1,000,000 acquisition price for real estate asset
⦁ $200,000 cash equity down payment (20%)
⦁ $800,000 mortgage (80%)
⦁ Real estate asset value goes up 2% from $1,000,000 to $1,020,000
THEN:
⦁ Your equity goes from $200,000 to $220,000.
⦁ Equity rises 10%, as opposed to 2%, which is 5x the 2% overall increase in asset value
⦁ You can see the power of LEVERAGE. Nice, correct?
Robert Shiller, a Yale economist famously known for his Case-Shiller Home Price Index, developed this historical chart of American home prices, a commonly accepted benchmark for U.S. home prices, and how they have changed compared to inflation measured by the Consumer Price Index. Look at the difference below!
“Buy land. They’re not making it anymore.”
– Mark Twain
The supply of land is fixed, but there is an increasing demand for it as the population continues to grow. Simple economics tells us this will cause prices to rise over time. This is the primary reason real estate is one of the most effective hedges against inflation and great generational wealth tool!
Example: Debt reduction via inflation means debt reduction in real terms.
IF:
⦁ If you have $100 Dollars; and
⦁ Inflation is 2%
THEN:
⦁ Next year your $100 will buy you $98 worth of goods and services.
⦁ The following year it would be worth $96. And so on.
SO IF:
⦁ You have a 30-year interest-only mortgage of $1,000,000 with a 2% inflation rate; and
⦁ You never pay principal during that 30-year period.
THEN AFTER 30 YEARS:
⦁ Your loan balance of $1,000,000 STAYED CONSTANT AND NEVER INCREASED with inflation
⦁ You would have to pay back the $1,000,000 principal, in order to pay off the loan balance.
⦁ BUT, the value of the mortgage will be worth 45% less in REAL TERMS due to inflation.
⦁ THEREFORE, you paid back the debt with inflated dollars.
CASH FLOW
If you are buying real estate as an investment, then cash flow is one of the benefits you should be considering. It is not as sexy as capital appreciation, but it is consistent, and as inflation rises, it should increase each year. This means the passive income generated by real estate e.g. rents collected from tenants documented in leases are pegged to inflators e.g. CPI or fixed rent bumps. I don’t know of any other investments that have that type of income benefit.
Cash flow on top of asset appreciation, in addition to the other Secrets to Building Wealth described herein, make real estate truly unique and a builder of generational wealth that cannot be matched by any other investment!