The Arithmetic of Investing

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Investing in Real Estate isn’t Rocket Science. It is simple math.

  1. Will your income exceed your expenses?
  2. How much return do you receive on your initial investment?
  3. What is the difference between the investment and a simple and safe bank savings or investment account?
  4. Are the risks manageable?

It is just doing the simple research and putting the numbers on paper and a few simple calculations.

Just as an example (disclaimer, disclaimer, disclaimer) If you had a property you could buy for 3 bedroom 2.5 bath property for $200,000 and had the 20% down payment so you could finance $160,000. With estimated principle, interest, taxes and insurances your and an estimated 4% interest rate your expenses would be about $1000 per month (numbers are rounded for this illustration).

Huge Income Potential on this House

Depending on your market you could rent for $1500 per month and keep it on a year to year lease. So the answer to question #1 is

  • 1. Your income exceeds your expenses by $500 per month. (factor in if you or the tenant are responsible for maintenance costs)

The next question (#2) is return on your initial investment. Your original layout was 20% of the purchase price or $40,000. The return on this for a rented house is $500 per month (income less expenses) or $6000 per year. On face value that is a 15% return on your investment. By any standards that is excellent ROI (Return on Investment). It is even better when you factor in the $1000 portion of their $1500 rent that goes toward paying down the mortgage. The renters are in fact paying your debt and building your equity in your investment. Each and every month they are adding to your original $40,000 worth of equity. Also happening is most real estate increases in value over time. That increase is additional equity value you are building.

  • 2. The return on your $40,000 investment is around 15% or better.
  • 3. You’d have to check the bank and CD rates yourself but they are less than 2%, for Mutual Funds a decent return is 10% to 12%
  • 4. The risk management. With a CD the principle is guaranteed, in a mutual fund it is at risk, real estate is subject to boom and bust bubbles but people always need housing. The rates may fluctuate with the labor market but you would be best advised to get a fixed mortgage rate. When inflation happens your expenses remain constant but the rental rates tend to keep up with inflation.

Ultimately real estate requires your involvement and management. This can be outsourced but you have to factor in a percentage of your income.

Real estate investment is NOT for everybody. If you are not adverse to some research, work and controlled risk, a good investment or two or three could be your retirement account. The most important part of the investment process and not mentioned at all in the preceding text is that in order to make a good investment you have to buy right. To do this enlist the services of a real estate professional. Realtors have a fiduciary responsibility to advise you and can help you do the research and overcome the hurdles to a successful transaction. If you want to invest, call your agent today. If you see a property that you think you might like to add to your investment portfolio, call your Realtor.

The best time to invest is today!

Chinese proverb – The best time to plant a tree is 20 years ago, the next best time is today.