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Wake-Up Money – Part Two

A Simple Investment

Homes are one of the three basics of life: food, shelter, and clothing.  Homes and condos are simple investments that most people understand because they already own them.  Ask yourself these questions:  Do I own a home?  Has it been a good investment?  What would my net worth be like if I owned ten of them?  What would my lifestyle be like if they were all free and clear?

What If?

If you purchased ten houses 15 years ago (average price then was about $70,000/each) and financed them on 15-year loans, today your houses would be free and clear.  Today, they are probably worth about $175,000 each and your portfolio of ten houses is worth about $1,750,000. Your houses are probably earning you a net income of about $10,000 per month in “Wake-Up Money.”

Will Rogers said, “Just the name ‘real estate’ implies that all other forms of investment are illusory.”

Three “Rules of Thumb” Help Investors Build Wealth Quickly

1. The “Rule of 72” is used to estimate how long it will take your money to double itself at a given rate of return on your investment.  If you divide your rate of return into 72, the answer is how long it will take your money to double.  For example, if you earn 6% on a savings account, it will take you 12 years for your money to double in value – 72 divided by 6.  If you are able to increase your return to 10%, your money will double in 7.2 years – 72 divided by 10.

2. The “Rule of Leverage.”  One of the beauties of real estate (as opposed to other forms of investment) is that you can use leverage to increase your rate of return.  You leverage your investment by using a loan on the property and reducing the amount of your own money you invest.  The tenant makes the payments for you by paying rent.  When you leverage (use a loan), your rate of return is increased.  For example, if you purchase a property for $100,000 cash and it goes up in value by 5%, you have earned 5% on your money ($5,000 dievided by $100,000) plus the amount of rent collected.  However, if you purchased the property with a 10% down payment ($10,000) and a $90,000 loan, your rate of return will be 10 times greater or 50% ($5,000 divided by $10,000).

3.  The “Rule of Return.”  Here’s a simple way to figure your    return on investment:
  a. Convert your down payment to a fraction.
  b. Multiply the denominator times the appreciation    rate to find your first year return on investment.

For example, if your down payment is 20%, when we convert it to a fraction your down payment is 1/5.  The denominator is 5.  Multiply the denominator (5) times the property’s appreciation rate (say 10%) and your first year return on investment is 50%.

Let’s use this test to see if it works.  Let’s say we buy a $100,000 property and put 20% down ($20,000) with an $80,000 loan.  Our down payment of 20% converted to a fraction is 1/5.  If the property appreciates 10%, it will go up $10,000 in value.  $10,000 divided by our investment of $20,000 equals a 50% first year return.