Real estate: is it a goldmine?
You can certainly search the internet for topics of wealth building and people that can advise you for a fee. What I have learned is that real estate is what you can make it.
What makes it attractive for investors is that you can have a great yield (5% to 100%) on the money you use to purchase. You can write off depreciation of a property and maintenance. You can gift assets and be taxed less by the government. Property prices increase with inflation. You own a physical asset and can borrow against it. Maybe they enjoy fixing up houses.
What are the negative aspects of this strategy?
This is where many of these websites or advertisers fail to explain. What I found is that real estate is a lot of time and work. This asset is not quickly available if you need your cash back. You would need to identify a property that was going to appreciate faster than inflation (2% at time of writing) 5% or more per year and that is time consuming. This would also need to be higher than the mortgage rate if you have a loan. The property could lose value or not gain fast enough. Are you fixing the house yourself or hiring someone? This cost time and money. Fielding emergency calls from tenants sound fun? Maybe you need a management company. That will cost you. Real estate does fluctuate much like the stock market so that is not an advantage especially when you can’t sell it quickly. Oh and guess what that depreciation you wrote off in your taxes each year; when you sell that property the government will get all its money back.
Example:
Purchased a home for 200k
20k down
Mortgage is 1k per month rate is 3%
Cost to fix/manage is $150 per month
Rents for $1500 a month (assuming you can always have a renter)
First year expenses are $33800. The 20k plus expenses.
Income generated is $18000 that year. You have made nothing yet.
Let’s say the house appreciates 10% that year. That is 20k. Now you have made money.
How much did you really make?
20k of appreciation plus 18k of rent is $38000.
38000 subtracting expenses of 33800 is $4200.
You made $4200 that year. Now if you want the $4200 you have to sell the property but if you do that you have to pay taxes, closing costs, and the realtor. You will lose money here.
Conversely if you put the 20k initial investment in a mutual fund with a yield of 10% you would have made 2k but could get the 2k if you sold it. You would pay tax also.
Year 2 on the house you gain 5% in appreciation and 18k in rent. 29k in revenue. Expense was $13800. Net earnings would be $15200. Again to get this cash you would have to sell it. The only available cash is the rental income. That is $4200 (18000-13800) subtracting costs.
Conversely you keep the mutual fund and you make $2200 in year 2.
Year 3 on the house. Appreciation slows to 2%. You get 18k in rent. $13800 in expenses. Cash is $4200 but you have cash from last year too.
$8400 in cash. House is worth $235620. You still owe the bank $160000. If you sold you would net $8400 plus $75620 is $84020. Costs to sell probably about 10% or $23562. So net would be $84020-$23562=$60458. You made good money in year 3.
Conversely in year 3 you have made $4200. Account total is $24200.
Where is the down side here with real estate? If the costs increase, the property depreciates, or you can’t find renters you will lose money.
Year 4 on the house you only have renters for 6 months and home depreciates 10%. House needs new siding 10k(add to selling cost). Revenue is 9k in rent. House is worth $212052. You owe the bank $154000. You still have $8400 in cash. Cost to sell is $21205. $9000 plus $8400 plus $58052 is $75452. Net is $75452-$31205=$44247.
Say the home appreciates more modestly at about 3% on average each year. Year 4 would be this: house worth $214405, $4200 profit in rent each year so $16800 in cash profit after expenses, owe bank $154000. Cost to sell is $21440. Net is $55765. This would translate to a yield of 69% per year.
Say the home loses half the value. You are not making anything. Say you have a large expense such as the roof, siding, foundation, or renters destroying the property. Roof and siding are about 10k each. Foundation problems are about 20k to 100k.
What if you purchased the house all cash? That is 72k in rent for 4 years, the house is worth $214405. Costs are $7200 upkeep, and $21440 to sell. Net is $257765. That is a yield of 7.22%. This is lower because you are not earning equity in the home.
If you want to be less hands on then crowdfunds such as fundrise or REITs might be worth looking at but you will be lucky to yield 8% or more on your money which in my opinion is not worth doing.
Bottom line you would need to keep costs as low as possible and buy the right property for this to work.