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Secrets of Making Money from Real Estate - Part 5
Where to from here:
One property is great, but It wont make you very wealthy. Below is the expansionary model of what I think a good real estate portfolio should look like.
The Real Estate Investment Pyramid
Can be viewd here www.use-your-equity.com/realestateinvesting.htm
How this works is simple. Acquire three positive cash flow properties which help support a larger capital gains property. Lets look at the example:
Cash flow property 1, worth $80,000 returns $1750 dollars a year with capital growth of 3.5%
Cash flow property 2, worth $70,000 returns $1200 dollars a year with capital growth of 4%
Cash flow property 3, worth $120,000 returns $2500 dollars a year with capital growth of 2%
Capital gains property, worth $250,000 returns -$500 dollars a year with capital growth of 12.5%
As you can see the capital gains property looses money. The reason why the model is in a pyramid shape is because the cash flow properties support the capital gains property.
Why don't I just by all really high growth properties with cash flow? You can! It's just that finding a property with very high cash flow and a high growth percentage might take more time and could be more harder. Really, there's nothing stopping you but It will generally be easier to find cash flow properties and capital gains properties.
So why should I do this?
In five years time cash flow property one will be worth $95,000. Cash flow property 2 is worth $85,000. Cash flow property 3 is worth $132,500. The capital gains property is now worth $450,000! The whole investment portfolio is now worth $762,000. If we assume the mortgages on all the properties was 90%, you now have $294,000 of equity you can use!
You could sell all the properties and make a nice profit of $294,000 but you'd probably have to pay a capital gains tax of 33% (depends on where you live) not to mention real estate agent fees. Perhaps we could use the profit as a down payment on another property, tax free.
1030 Tax Exchange Example
In America a good strategy is that when you make capital gains from a property you should sell it and buy a more valuable property. Normally you would be taxed but not if you use the 1030 tax-deferred exchange. This entails, using the profits of the real estate properties which you sold to reinvest in a more valuable property. So if we look at the previous example, you now have $294,000 which you can use on a deposit for a new property.
Lets say you buy a larger rental property with a deposit of $294,000 dollars. If you can get 90% financing you can buy an asset worth $2,940,000! Just imagine how much cash flow you could get from a property worth that much!
However, there is little room to "Do it yourself" while using the 1030 tax exchange. The money must be held by a qualified accommodator until you purchase the property. You will have 45 days to draw up a list of potential properties you will buy. You also have 180 days to settle on a property. The properties must also be similar, for example you can sell a bare piece of land and buy a bigger bare piece of land. This is why It's important to talk to an accountant or an attorney before you try this.
This article is a general guideline on how to invest in property, residential in specific. If you are seriously considering buying property try to take in some knowledge from this article. Don't stop there though. Because real estate investing can involve so many tax advantages and laws, learn more about real estate investing in your country/state so you can become an expert.
This article was written by John Whiteside. The original article can be found here http://www.use-your-equity.com/realestateinvesting.html . Use-Your-Equity can show you how to create value in your home, then show you how to use the newly created equity to make money. http://www.use-your-equity.com for more information.
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