The best real estate investments are businesses and the best businesses are real estate investments.
One reasons why real estate is a preferred investment by so many wealthy people is because real estate is typically an income generating asset.
Real estate with great rents and a high NOI (net operating income) trade for more money than others and also properties with a high NOI can also borrow more money than others.
When it comes to real estate, it’s all about cash flow.
Cash flow is king.
When making a decision on which type of real estate to investment to make or what kind of real estate is the best real estate investment you must consider the following six profit centers of a deal before making an investment decision.
The 6 profit centers of real estate
- Equity on day one
- Leverage
- Cash flow
- Mortgage pay down
- Appreciation
- Depreciation
If you can make money using all 6 profit centers on a deal, chances are you will have a winner over time.
The best real estate investments take advantage of all six profit centers
Profit center #1 – Equity on day one
If you buy right, you will have equity on day one. Most of the deal I purchase in real estate are at extreme discounts at 40-60 cents on the dollar. If you buy right and purchase right, often times that is where all of the money in the deal comes from. Buy right, buy at a discount and make sure you have equity on day one.
Profit Center #2 – leverage
I was recently evaluating a development deal I could get into for $100,000 of cash. The purchase price was $900,000 and I could leverage it up to an $8,000,000 valuation over time by increasing the NOI and repurposing the property. The deal had great leverage because I was going to move my office into the building I could get away with more leverage than normal. Leverage is the ability to borrow money and get more done with less. Real estate is one of the best investments because you can get in with a little bit of money and leverage a lot through debt. Leverage is a major factor in choosing what kind of deal is right for you.
Profit center #3 Cash flow
When it comes to business, cash is king, and when it comes to real estate cash flow is king. The NOI of a property, the net operating income, is one of the most important numbers for making the best real estate investments. A extra dollar earned in income per month can be leveraged with debt into hundreds and thousands of dollars of value and if you are going to buy the best real estate investments you MUST have a strong cash flow, otherwise it makes no sense to own that particular piece of real estate.
Profit center #4 mortgage pay down
One of the major benefits of real estate investing is the ability to borrow hundreds of thousands of dollars or millions of dollars cheaply at historically low interest rates. Every month when your tenants pay their leases, your mortgage gets paid down and you receive a little bit of equity which makes you richer every year. On many properties, the lion share of the profit comes from the mortgage pay down, and in many ways, mortgage pay down is the only guaranteed money in most deals. The more you can borrow, the more you can pay down and this is a major factor when selecting the best real estate investments.
Profit Center $5 – Appreciation
Appreciation is not always guaranteed, but the government is always printing more money which somewhat guarantees appreciation and inflation of hard goods. You can pretty much count on your property inflating in value at least 3% annually, and depending on the area and timing, you can get double digit appreciation. Appreciation is so powerful with real estate because you are appreciating on the leveraged value not on your down payment. If you spend $20,000 to buy some stocks and they go up by 5% in a year, you will have $21,000 at the end of the year. If you use the same $20,000 to buy a $100,000 property and it goes up 5%, you will have $25,000 of equity which is a $5,000 gain due to leverage. The leveraged appreciation is a 25% return instead of 5%.
Profit center #6 – Depreciation
When you own a piece of cash flowing real estate, you essentially own a little business and the business has tax advantages. The government provides tax breaks for the things that they do not want to provide: Housing and jobs. If you are an entrepreneur and you provide housing and jobs, the government will give you tax breaks. Your property has the option to depreciate at 4% per year typically which lets you tax defer your income until you sell. Yet another reason why real estate makes the best investment.
So when selecting the best real estate investment for you, evaluate your property on the 6 profit centers and make a decision. The best real estate investments often have profit in all six centers and that is where you will win over time.
Respect The Grind,
Stefan Aarnio
