However, real estate is unique in
that it has three components of return:
- appreciation in value
- cash flow
- income tax benefits
Many people lose money due to
insufficient research and analysis, as well as through unmitigated risk issues.
Do your homework before investing in real estate.
Appreciation in value
Most people buy investment properties
with the thought that “it will appreciate in value and I’ll get rich.”
Over long periods of time, say 15 to
25 years, real estate seems to perform well and has earned much wealth for many
long-term holders. It’s only realistic to assume a real estate asset will experience
at least one market decline over this period.
Be aware, though, that appreciation
does not pay the bills. It is better to invest based on cash flows, the next
noted component of returns.
Cash flow positive
Do your sums, this means putting
conservative estimates of rents and expenses down on paper and making sure that
the rents, less all the expenses, leave the owner some cash in the bank. We
call these “cash flow positive” properties.
Buying properties with true positive
cash flow is the best way to ensure that your investment will add to your
wealth. Far too many buyers purchase negative cash flow real estate and take
additional monies out of their bank accounts each month, for years, to cover
the deficit. That is no way to invest your hard-earned capital.
Income tax benefits
There are potential income tax
benefits from owning rental properties. “Benefits” means that as a result of
your ownership, you pay less in taxes than you would have if you did not own
the property. Unfortunately, few investors really understand how this works.
If you are self-employed and pay
little in taxes or you have income greater than $150,000, you probably have
little tax benefit from your real estate ownership. Before you start banking on
the tax benefits you’re going to get from a real estate investment, consult
with a tax pro who can tell you whether or not you will actually save a dime.
Recap
While all the investment returns may
help your long-term wealth, the cash flow component is the most important. Cash
feels nice in your hands, it pays the bills and, most importantly, it
accumulates in your bank account and earns interest.
If your investment doesn’t generate
cash, you won’t be able to pay the mortgage, you’ll likely lose the property
and you’ll never realise the returns you’d hoped for.
