The statement…. ‘Real estate can make you a millionaire’ sounds full of false promises doesn’t it? But in reality, it is true! Real estate is a powerful wealth building tool and it has made millions of individuals millionaires! Over the last two centuries, about 90 percent of the world’s millionaires have been created by investing in real estate. More money has been made in real estate than in all industrial investments combined.
Could you be the next millionaire?
The property market may have changed recently and you can’t become a millionaire overnight, but bricks and mortar remain the best long-term investment for creating significant wealth. And let’s be clear, investing in property ultimately boils down to one main goal – to make money!
The key to success is understanding that property investing is not a get-rich-quick scheme nor should it be high-risk. Instead you need to be organised, disciplined and have a clear strategy.
It is entirely possible to set yourself a target of $1million in property equity within a decade! However, as Michael Jordan says, “Some want it to happen, some wish it would happen, others make it happen.”
Let me try to help you make it happen!
Firstly, no matter which type of property investing strategy you focus on – now is the time to begin. It is vital that you acquire assets as soon as possible and hold on for the long-term.
It is essential you understand the Key Components of creating wealth through property investing. So let’s look at them.
Real estate is the best asset to use the leverage strategy.
When you leverage, you’re borrowing money to help finance a property investment. The most common means of leveraging in real estate is taking out a mortgage. Currently, the terms are incredible in comparison to any other kind of loan. Interest rates are currently below 5%, down payments can be 20% or less, and loans are routinely amortized over 30-year periods. Where else can you invest using financing with terms like that?
Leveraging works its magic when you follow this formula.
- Buy a property under market value (lots of research to do this);
- Improve its value through renovation and/or subdivision;
- Refinance to recover 100% (or more) of your capital investment
Cash flow is the money you have left over from rent after all the expenses have been paid. Every property will have expenses such as a mortgage, property taxes, insurance, maintenance, and property management fees. When you buy a property that attracts more rent each month than the expenses you pay out, your cash flow is ‘positive’. However, if your expenses exceed your income then the property is ‘negatively’ geared. These types of properties are harder to manage if you do not have a good steady income from other work to make up the difference.
If your strategy is cash flow then you need to be very diligent and use sound judgement to ensure the numbers stack up with the property purchase. You must be confident that the property will generate more income than it costs to own both in the short term and long term.
Historically most real estate investors ensure that every property purchase will benefit from capital growth. Your portfolio should contain a variety of properties in different areas all with the best chance of growth, albeit at different times and different rates. This is how the majority of wealth is built in real estate.
With Capital Growth we are talking about appreciation – the rising of home prices over time. While prices fluctuate year to year, over the long run real estate values have always gone up, always, and there is no reason to think that is going to change.
Cash flow vs capital growth.
If you invest in a neighbourhood that has 1% higher capital growth than other comparable areas, you’ll end up much further ahead than you would if you bought a property with an extra $100 in rental income each month. Over the long term, that 1% growth every year will outpace the cash and make a huge impact on your wealth creation journey.
The way to grow wealth consistently over time is combining the leverage strategy with the power of capital growth (appreciation) .
Example…(For simplicity of the example to demonstrate the concept, I am not allowing for costs)
You buy a property for $200,000 cash and it appreciates to $220,000. You have made a 10% return on your investment (ROI).
But if you use the bank’s money to leverage you put down a 10% deposit ($20,000), you actually made a 100% return on your investment
Use this formula when working out ROI = (NET PROFIT/TOTAL INVESTMENT) x 100
Forced equity is a term used to refer to the wealth that is created when you work on a property to make it worth more. You are adding value to the property that wasn’t there when you bought it. Unlike appreciation, where you are at the mercy of the market, forced equity allows investors the opportunity to increase their property’s value.
The most common form of forced equity is to RENOVATE. Buy a fixer-upper type property and improve its condition. Paying ‘below market value’ for a property that needs an upgrade, then adding appliances, new flooring, paint, etc. can be a great way to create wealth through real estate without much risk.
The Renovation Strategy can be used in combination with other strategies such as subdividing or developing to increase a property’s value. By solving a structural problem or changing the use of the land you can also increase the value of a property.
When you take out a loan to buy real estate, you typically pay it back with the rent money from the tenants. One of the best parts of investing in real estate is the fact that not only are you able to increase your cash flow, but you’re also slowly paying down your loan balance with each payment to the bank.
In the beginning of these loans, the majority of the payment is going towards the interest of the loan, not the principal. This means you aren’t making much of a dent in the loan balance until you’ve had the loan for a significant period of time.
After enough time passes, a good chunk of every payment comes off the loan balance, and wealth is created in addition to the monthly cash flow. The best part is, it’s your tenant paying this off for you, not you!
Inflation is one of the main reasons why real estate creates wealth over time. Inflation refers to a rising cost in the price of everyday goods and services- the economic term which refers to the de-valuation of your money. With real estate investing you are not using your own money – you are using other people’s money ie the bank.
A common misperception is that inflation is bad for everyone (who likes more expensive stuff?). But this is not the case. Because inflation reduces the value of money, people who have borrowed money benefit from a higher inflation rate when they pay the money back. The interest rate that a borrower pays is effectively lower thanks to inflation.
Let’s take a moment to consider how inflation affects real estate prices. In general, overall, our money supply is worth less and less with each passing year. As the value of money decreases, the price of goods and services increases. While it’s easy to take for granted, it’s actually an incredibly powerful wealth-building tool when harnessed appropriately.
The key to using inflation to build wealth in real estate lies in the fact the majority of your big expenses (mortgage, property taxes) stay fixed for the majority of the time you own the property. When you combine this with rising rents and home values (due to inflation), you start to see big results.
Recycle your cash
Recycling your cash can give you control over how fast your portfolio grows, regardless of what the market is doing. Millionaires got to their position by understanding and using this strategy.
The strategy is simple; you’re just pulling funds out of a deal to use again by refinancing. Let’s take a look at an example (ignoring all costs for the moment).
You buy a property for $100,000.
You use $25,000 of your own cash as a deposit and take out a mortgage with lender A for $75,000.
Later, you get the property revalued. It is now worth $133,500.
You go to lender B and negotiate a new mortgage using a 75% LTV (loan to value ratio) which works out as a loan of $100,000.
You pay the original $75,000 back to lender A and take back your initial $25,000. You can now use it again as a deposit on another property. This strategy allows you to build your portfolio faster than you would if you had to keep saving for a new deposit.
Understand Market Cycles
Different cities move at different speeds so it’s important to understand the market you’re buying in. The best time to buy is straight after a crash – so when the market bounces back you get massive growth. On the other hand, if you buy at the peak it’s going to delay your wealth growth because it can take years for prices to get back up. However, there is an old saying …Timing THE market is not as important as time IN the market. In other words – take action and get in the market as soon as possible.
Identify the hotspots.
It may seem like the easiest option to buy an investment property around the corner from where you live but if house prices aren’t moving in your area, it’s not the best move to increase your wealth. You should be looking for investment hotspots – areas that are out-performing the market. The value of properties in this ‘hotspot’ area are increasing at faster rate due to some change in local conditions…often this is a new transport link, new shopping centre or school or lifestyle venue (swimming pool/gym/park). These are what you need to be on the look out for. Spend time at the council town offices to find out what is planned for future development.
Buy below market value.
Under or Below Market Value (BMV) is a property that’s selling below its true value. True value is determined by thorough research. Using a comparison of properties will help you to determine ‘true market value’. Beware of inflated asking prices. An asking price is just an opinion – you must decide for yourself – based on your research whether the asking price is accurate.
So where do you find properties that you can purchase below market value?
Well, you are looking for a property on the market that has some sort of problem. Find properties that have issues and then find ways that you can fix those issues. Most people can’t be bothered or do not know how to.
- Properties that are unmortgageable – there are many reasons why lenders won’t offer a mortgage.
- Properties that are too ugly for home opens.
- Finding a distressed seller – must sell quickly for one reason or another.
Now, to find these properties, obviously means staying on the pulse of the market by looking online and seeing the properties that have been on the market for a long time or properties that have dropped in price more than once. You can also spot them when you drive around the streets and also talking to real estate agents.
As a wrap up….
Property investment is about playing the long game, so you need to be ready to stay in the ‘buy and grow’ cycle for years to come. The more properties you acquire over time, the more experience you gain, and your decision-making as an investor improves. The important thing is to stay realistic.
STEP 1: SET YOUR FOUNDATIONS
This means having a clear vision of what you want to achieve as a property investor, along with the financial education needed to get started. Setting goals not only helps you figure out the right strategy to implement but keeps you on track as your journey moves forward so you can be sure that you’re meeting your targets in the best possible way.
STEP 2: CREATE A STRATEGY
Your lifestyle can affect how you invest, so the next step towards becoming a property millionaire is to create a personalised strategy. Understanding your borrowing capacity, work/family commitments and time restraints, all play a major role in the strategies you are able to employ.
STEP 3: TAKE ACTION
You can only plan so much before analysis paralysis sets in. You could spend your whole life learning about real estate and never learn it all. And that often becomes a problem! People get stuck in “education mode” and never escape it. Time in the market is essential for capital growth, so the time has come to get moving and actually start building that portfolio you’ve been dreaming about,
I’ve only just barely scraped the surface on what real estate investing can do for you in your quest to become a millionaire. If your goal is to hit $1million in equity within a decade, your mindset needs to be focused on investing for the long term, following the tips in this article and reaping the benefits of capital growth.