Real Estate is “IDEAL”
By John Adams of Liberty REIA
There are five primary reasons we invest in real estate. I strongly recommend that you memorize these five key benefits of investing in real estate. Begin by remembering the acronym IDEAL.
The I in IDEAL stands for the INCOME produced by owning rental properties.
People HAVE to live somewhere, and about one third of the households in America have decided they want (or need) to rent. Either they have made this decision to avoid the responsibilities or headaches of ownership, or perhaps they can’t or won’t qualify for financing. The reason is not my business.
INCOME is the REVENUE that is produced when your tenant pays rent. If the revenue (and other income generated from the property) exceeds your expenses on the property including your debt payment, taxes, insurance, vacancy, maintenance, they you are said to have POSITIVE CASH FLOW. But so long as people continue to need a place to live, you can count on INCOME.
The D in IDEAL stands for DEPRECIATION & OTHER TAX BENEFITS you get from owning and renting real estate.
The IRS allows us to depreciate the value of the home (not the land) on our residential real estate over 27.5 years. This often allows us to take properties that have break-even cash flow and, when we consider the tax benefits of the investment, actually have positive cash flow.
In addition, the tax benefits of real estate exceed that of any other form of investment. One example of this advantage is Section 121 of the IRS code which allows you and a partner to buy a house, spend two years living there and fixing it up on nights & weekends, then sell it at a profit and pay NO TAXES on the first $500,000 of profit you might make. Pretty good, huh?
The E in IDEAL stands for EQUITY BUILDUP you get from paying down the principal balance on your home loan.
You might say it’s like a forced savings account.
If you get the recommended 30 year amortizing loan that we recommend when buying, you will be paying down the amount that you owe on the loan with each monthly payment. Over time, you owe less and less on the loan until finally the entire mortgage is paid off.
The A in IDEAL stands for APPRECIATION which is the tendency for property value to increase over time.
It is important to remember that home values can decline. That happened during the Great Recession in 2009 & 2010. But that was the result of banks offerring sub-prime mortgages with little or nothing down to buyers who could not afford the payments and failed to understand the reponsibilities of ownership.
Appreciation comes in two forms: economic (inflation induced) and forced (as a result of actions you take).
Milton Friedman once famously said “If you put the federal government in charge of the Sahara Desert, in 5 years there’d be a shortage of sand.” Inflation will always be with us. It’s the way big government grows. Politicians will always want to give away benefits in order to get relected. So they print more money then give it away. As the national debt grows, the dollar becomes worth less.
Forced appreciation occurs when you take specific actions that are well known to make properties more valuable. That may be a coat of paint inside and out or it may be adding a full bath to a full basement
Remember that, as an intelligent investor, you will do things that improve the value of the property. Maybe it’s just towing a couple of wrecked cars out opf the back yard – maybe it’s a new deck out back – maybe it’s a new kitchen. And as the value of your home increases, so does the value of the neighborhood.
“A rising tide lifts all boats!”
Things tend to get more expensive over time as labor and materials increase in cost. So, as you hold real estate, the cost to reproduce or replace that property tends to go up.
Furthermore, inflation works to your benefit! And inflation is the way our government works. It will always be with us, and it isn’t going away.
Of course, it is possible that property values could decline as well, but over long periods of time real estate values tend to increase.
The L in IDEAL stands for LEVERAGE which is your ability to control a large asset with a relatively small amount of money.
If you were going to put 20% down to acquire rental properties you are able to control a large rental property asset with just 1/5 of the value of it. For example, you could contract a $300,000 property with a $60,000 investment.
If property values go up, you get the benefit of the increase. But you only had to put up a fraction of the value of the asset. This amplifies your return. If the property values go down, you get the loss too and losses tend also to be amplified with leveraged investments as well. Because we are often putting less than 20% down (we normally recommend 10% in most cases), you are using even more leverage and that is why our Return On Investment tends to be higher with our modeling. Without leverage, real estate is just a great “IDEA”.
©2023 by John Adams and LibertyREIA.com