There are three basic necessities that humans have: Food (including water), clothing and shelter. These three things will always be in demand, because all humans need them. People were investing in shelter, or real estate, long before commodities exchanges, futures or stock markets existed. That’s not why you need to invest in real estate, but here are the top four reasons you should.[i]
Appreciation. Residential real estate traditionally appreciates 3 to 5 percent a year. There will always be peaks and valleys (like the housing market crash in 2007-2008), but historically housing prices increase 3 to 5 percent on average.
While the most recent real estate market crash was one of the worst in history, those opportunistic investors who bought properties at price troughs (valleys) over the past seven years are now are watching their investments soar. Twenty-one states and the District of Columbia are now at or within 10 percent of their peak prices.[ii]
Cash Flow. Cash flow is the money left over at the end of the month after all expenses are subtracted from income. These expenses include mortgage payments, management costs, maintenance expenses, property taxes, etc.
It’s not unusual for annual cash flow on a single-family rental property to return 15 percent or more of an investor’s 25 percent down payment plus closing.[iii] This cash flow usually exceeds what might get from a typical stock market portfolio. With real estate, properties commanding higher rents also tend to appreciate faster, because they are in growing markets with strong local economies.
Depreciation. Rental property investors can save significantly on their federal taxes by depreciating, over time, the amounts they spend to buy and improve properties. Because they have a useful life beyond one year, you can divide the total cost by the useful life of the improvement, and write off 1/nth of the cost per year. For example, if you replace the roof for $8,500[iv] with a 20-year useful life[v], you can write off $425 per year ($8,500 divided by 20 years). The biggest capital asset of any property is the actual purchase of the house. When you buy a rental property and own it for longer than one year, you can depreciate the structure, but not the land. On a building worth $125,000, typical tax savings might be $1000 to $2000 a year.[vi]
Leverage. Leverage is the ability to make money using other peoples’ money. Residential real estate is renowned for its high leverage opportunities. Real property is excellent collateral, and lenders of all types and sizes underwrite mortgages for homeowners and investors alike. For a down payment of 25 percent or less, investors can purchase rental properties that will both generate cash flow and increase in value—all made possible because of leverage.
No longer is buying and owning residential real estate open only to a few full-time investors. The benefits above are accessible to anyone with a moderate amount of capital available to invest. Those who take additional steps to learn about the business from experienced and credible experts will make fewer mistakes, and maximize opportunities to get the best return on their investment.
Here are some suggestions:
- Join your local real estate investment associations. These groups are typically lead by real estate investing veterans who are willing to share their expertise and help beginners.
- Read books, blogs and sites dedicated to real estate investing.
- Attend a few no cost or low cost weekend seminars.
- Listen to some free webinars about real estate investing.
Good luck and good investing.
[iv] The Real Cost of a New Roof. Angie’s List. http://www.angieslist.com/articles/real-cost-new-roof.htm
[v] 7 Signs You Need a New Roof. Angie’s List. http://www.angieslist.com/articles/7-signs-you-need-new-roof.htm