By Cynthia Aasen
Successful investors understand how to leverage assets and produce higher yields from existing resources. Many of the investors that I have worked with have a lot of equity in their homes; given that real estate values in Greater Vancouver have risen sharply over the past several decades. Many have a goal to pay off their homes.
The question is what is the best use of your resources to generate the highest yield? Should I go down a path of paying off my principal residence as quickly as possible, or should I use that equity to acquire additional rental properties? It simply comes down to doing the math.
A property valued at a million dollars today growing at 3% per year is worth $1,343,916.38 in 10 years, and $2,093,777.93 in 25 years.
Buying four investment properties valued at $2,078,900 using equity from your home for the down payment, assuming a break-even cash flow scenario on the investment properties and the same 3% per year growth rate, will be worth $2,793,867.76 in 10 years and $4,352,754.94 in 25 years.
But what about the taxes, the maintenance, the insurance? Investing in real estate is a business and these are the costs of doing business. However, the example above is based on positive cash flow factoring these costs into the equation.
Home equity and qualified-plan funds are low-yield assets that can be leveraged to generate abundant wealth. While most of us were taught to pay off our mortgage debt as quickly as possible, I urge you to think hard about the inherent risks of the traditional mind-set – your financial future depends on it. Even if you enjoy relative success with the traditional route, it’s rarely enough to give you a secure and comfortable retirement. Those who pay off their house and have a little left in qualified plans are often eventually forced to sell their home or use a reverse mortgage to prolong their retirement. That’s just one risk, and overwhelming risk is the reality of the traditional investment mind-set.
Real estate is the foundation for building wealth. No investment is risk-free and you won’t get where you are going unless you execute a plan. To be prepared, I’ve developed a few rules for successful real estate investing:
- Educate yourself. Knowledge makes decision making easier. Knowledge will help you understand what you are doing and help you make decisions that suit your investment style.
- Set investment goals. Set clear, specific, measurable goals. Write your goals down and build an action map to becoming financially independent. Goals may include the number of properties you need to acquire each year, the annual cash flow they need to generate and the property type that appeals.
- Never speculate. Investing in real estate is a long term strategy to build wealth. Don’t chase appreciation. People go where jobs grow. Look for solid economic fundamentals that bring population and job growth.
- Invest for cash flow. Cash flow is the glue that keeps your investment plan intact. Cash flow covers the operating expense and the debt service on your property.
- Don’t be emotional. Markets move up and down independently based on regional and local factors. Train yourself to identify when is the best time to invest, not necessarily when everyone else is.
- Define market parameters. Select markets based on the health of the market (population growth, GDP growth). Narrow down to the best neighborhoods in the best cities. Then find the best deals within those neighborhoods
- Diversify across markets. Focus on one market at a time, accumulating three to five properties per market. Diversify into another market that is geographically and fundamentally different than the previous one. Three markets types I’ve focussed on are knowledge centres, energy hubs and demographic shift regions.
- Use professional management. Property management is critical to the performance of your asset. It drives your results. Professional property managers have a solid understanding of tenant landlord laws, have good marketing skills and strong people skills to deal with tenant complaints. Most of my clients to believe that their time is valuable and their time should be spent identifying other opportunities, enjoying their family, and developing their career.
- Develop an expert network. Work with real estate investment specialists. Mortgage brokers that understand the nuances of financing investment properties are integral to developing a plan that will work. Find people that really understand insurance, property management and legal, and they will help protect your investment by understanding your needs as an investor.
- Leverage your investment capital. Real estate is the only investment where you can borrow other people’s money to purchase and control an income-producing property. Leverage magnifies your overall rate of return and accelerates your wealth creation.
Cynthia Aasen is the managing broker of Investment Revenue Realty, Inc. Cynthia and her team have helped thousands of investors acquire cash flowing properties in North America’s top real estate markets over the past 20 years. Cynthia is passionate about creating wealth for her clients and her family through well selected real estate.