The Importance of Equity Buildup in Real Estate Investing Deal Analysis
I have a reputation as someone who starts most real estate conversations with an easy-to-remember acronym describing the many benefits of investing: REALLY.
Each letter IDEAL represents one of the advantages of investing in real estate: income, depreciation, capital construction, valuation and leverage. In fact I add control as another advantage, but I digress.
While most investors are really focused on income, leverage and valuation, today I wanted to limit myself and focus on capital creation.
If you’ve seen any of my blog posts about a very deep analysis of trading (and it’s hard to miss because I analyze trades in more than 50 U.S. markets and trade on them), then you know that I “get financial benefit from wealth creation”.
So what is the accumulation of wealth? It’s just a matter of paying off a loan on your property. The less you owe, the more capital you have (provided that the value of the property does not change). So, as you pay off the loan more and more over time, you accumulate more and more capital because you reduce your debt.
One of the main advantages of setting it up by paying a loan is that it is a guaranteed income: when you pay your mortgage payments, you get income. In addition, over time, your yield will increase. Why? Because every year you repay the loan faster and faster.
Let me explain: in the first year of a 30-year loan write-off, your payment is mostly interest. In fact, of all your payments for the entire first year, you end up paying about 0.9% (less than 1%) of your payments. of the total amount of the loan. In the second year, your returned capital increases slightly, so you pay about 1%. In the third year you end up paying out 1.1% of the loan, and each year it increases until you pay about 8% of the original loan amount last year.
Here’s another way to look at the accumulation of wealth that I use personally. I have a table with all my rental properties on one side and columns with all the benefits of IDEAL at the top. I look at the equity column as if I put that money in a savings account (called equity). With one or two houses it may not seem very big… hundred dollars here, a hundred dollars there a month, but when you get a portfolio of real estate investments like me, you save money every month. For example, if you have a $1,000,000 home loan (whether it’s five houses for $200,000 or ten houses for $100,000), you could earn more than $800 a month from the net value of the building.
The great thing about this is that as I mentioned above, this amount increases every year as you pay more and more of the principal amount with each payment. So next year you can save $850 a month.
This is a kind of forced savings plan because it happens automatically every month when you pay your mortgage, regardless of whether you plan to save money or not.
So, conducting your own analysis of real estate investments, remember the powerful advantage of accumulating wealth in your calculations.
James Orr is a professional real estate investor, marketing expert and founder of online gaming LearnToBeRich.