Real Estate Investing Tips On The 4 Ways You Can Profit- Do You Know Your Real Estate Mathematics?

Profit is the main reason we invest in real estate so it’s important to understand how and where your profits come from. We’ll call this the mathematics of real estate profits. The four basic ways you will profit from real estate are:

1. Appreciation
2. Principal Reduction
3. Tax Deductions
4. Cash Flow

Appreciation - Calculating your return on investment (ROI):

We can calculate the appreciation in the value of the property over time in dollars or as a percentage of the cost. Let’s say you bought a house for $100,000 a couple years ago with a down payment of $10,000 and now it’s worth $120,000. The appreciation is $20,000, or $10,000 per year.

Since $20,000 is our appreciation amount over two years we divide it by two to get an average annual appreciation of 10% based on the original property cost. The ROI is the percentage of profit you have earned based on the down payment you made. We divide the appreciation amount of $20,000 by the down payment amount of $10,000, showing that you return on your investment from appreciation is 200%.

Principal Reduction:

Principal reduction is the amount of your mortgage that has been paid off. A small part of your mortgage payment goes toward paying the principle and the rest goes toward interest, insurance and taxes. The mortgage company keeps the interest but you get a tax deduction and the principle reduction increases your equity in the property. Our loan was $90,000 after a $10,000 down payment and $2,000 has gone towards the principle in the first two years leaving you with a $98,000 debt.

To figure out your equity return simply divide the equity by down payment. Your total equity is $22,000, your down payment is $10,000 so the return on your equity is 220% after 2 years. Pretty good ROI in this example.

Tax Deductions:

Real estate investing has some of the best tax shelters compared to anything else. If your gross income is under $100,000 and you’re in the 33% tax bracket the government gives you back 33 cent for every dollar of tax deductions you can create. So, for every $1,000 in tax deductions you’ll get back $330 in cash or in reduced taxes. Your appreciation and equity will be long term but your tax deductions create cash flow in the current year.

Cash Flow:

Dealing with rental property investments means dealing with cash flow; neutral, negative, or positive. We all hope to have the positive kind but that’s not always possible. Even so, it can still make sense to invest in a property that has neutral or slightly negative cash flow because of the tax deductions and long term equity you can eventually cash in on. A common mistake from investors with good intentions is to get in hot water with unexpected maintenance costs, vacant properties, and non-collected rents. Not having a contingency plan in place for covering negative cash flow can leave one scrambling for co-investors or worse; foreclosure. Some negative cash flow can be offset by tax deductions. Keeping expenses down together with rent increases can eliminate negative cash flow and this should be an obvious long term goal.

Beginning Real Estate Investing? Increase Your Profits With The Magic Of Leverage

When you invest your money in things like RRSP’s or stocks and bonds your leverage is zero because you have used your own money and none of other people’s money. When you buy a home with a mortgage you have used leverage, which is common in most all real estate investments. You own the down payment of coarse but the lending institution owns the rest.

You bought a house for $100,000 with a $5,000 down payment. The OPM you used, or leverage is 95% and your down payment was 5%. Here lies one of the most important principles for someone just beginning real estate investing or even if you’re well into it:

The More Leverage You Use, The Greater Your Profit Potential.

Now the house you bought for $100,000 has increased in value up to $105,000 in just under a year, not bad. It only appreciated 5% but the good news is the return on YOUR investment is 100% because you invested $5,000, it went up $5,000 so you doubled your money earning a full 100% on your investment. Let’s say that over the next 10 years your property goes up to $25,000 in value, this will give you a 500% return on your money. Leverage is computed by dividing the increase in value by the cash down payment (25 divided by 5 is 5).

If you had $100,000 you could buy one property outright with your cash or you could make a lot of money with leverage and buy 20 properties by putting $5,000 down on each one. So, now instead of having a $100,000 property you’ve got $2,000,000 worth of property. Now let’s say the properties all appreciated by 5% during the first year your profits would be $100,000. If you had bought just the one property instead you would have only made $5,000 in profits.

As you can see, the less of your own money you use, the greater your profit potential and if you were able to buy a property with none of your own money, then the return on your investment is infinite. You can’t divide by a zero down payment. To figure out the return on investment from appreciation, taxes, or principle reduction, always divide by your cash down payment.

We have seen here how leverage can increase you chance for profits, but if you are financially unprepared it can greatly increase your potential risk. Higher earning strategies always have a higher risk potential that go along with them. The super save route of investing the entire $100,000 into one property is totally safe but will give you a much lower ROI. Those 20 properties you bought all have a mortgage on them which you are responsible for so if a few aren’t rented or the rents don’t get paid the money comes out of your pocket. Does this additional risk warrant the use of leveraging? Yes it does but you have to plan ahead and be prepared to handle any possible negative cash flow problems should they arise.

“How to handle negative cash flow” will be discussed in an upcoming article.

Real Estate Investing Tips On The 4 Ways You Can Profit- Do You Know Your Real Estate Mathematics?

Profit is the main reason we invest in real estate so it’s important to understand how and where your profits come from. We’ll call this the mathematics of real estate profits. The four basic ways you will profit from real estate are:

1. Appreciation
2. Principal Reduction
3. Tax Deductions
4. Cash Flow

Appreciation - Calculating your return on investment (ROI):

We can calculate the appreciation in the value of the property over time in dollars or as a percentage of the cost. Let’s say you bought a house for $100,000 a couple years ago with a down payment of $10,000 and now it’s worth $120,000. The appreciation is $20,000, or $10,000 per year.

Since $20,000 is our appreciation amount over two years we divide it by two to get an average annual appreciation of 10% based on the original property cost. The ROI is the percentage of profit you have earned based on the down payment you made. We divide the appreciation amount of $20,000 by the down payment amount of $10,000, showing that you return on your investment from appreciation is 200%.

Principal Reduction:

Principal reduction is the amount of your mortgage that has been paid off. A small part of your mortgage payment goes toward paying the principle and the rest goes toward interest, insurance and taxes. The mortgage company keeps the interest but you get a tax deduction and the principle reduction increases your equity in the property. Our loan was $90,000 after a $10,000 down payment and $2,000 has gone towards the principle in the first two years leaving you with a $98,000 debt.

To figure out your equity return simply divide the equity by down payment. Your total equity is $22,000, your down payment is $10,000 so the return on your equity is 220% after 2 years. Pretty good ROI in this example.

Tax Deductions:

Real estate investing has some of the best tax shelters compared to anything else. If your gross income is under $100,000 and you’re in the 33% tax bracket the government gives you back 33 cent for every dollar of tax deductions you can create. So, for every $1,000 in tax deductions you’ll get back $330 in cash or in reduced taxes. Your appreciation and equity will be long term but your tax deductions create cash flow in the current year.

Cash Flow:

Dealing with rental property investments means dealing with cash flow; neutral, negative, or positive. We all hope to have the positive kind but that’s not always possible. Even so, it can still make sense to invest in a property that has neutral or slightly negative cash flow because of the tax deductions and long term equity you can eventually cash in on. A common mistake from investors with good intentions is to get in hot water with unexpected maintenance costs, vacant properties, and non-collected rents. Not having a contingency plan in place for covering negative cash flow can leave one scrambling for co-investors or worse; foreclosure. Some negative cash flow can be offset by tax deductions. Keeping expenses down together with rent increases can eliminate negative cash flow and this should be an obvious long term goal.

Real Estate Investing Tips On The 4 Ways You Can Profit- Do You Know Your Real Estate Mathematics?

Profit is the main reason we invest in real estate so it’s important to understand how and where your profits come from. We’ll call this the mathematics of real estate profits. The four basic ways you will profit from real estate are:

1. Appreciation
2. Principal Reduction
3. Tax Deductions
4. Cash Flow

Appreciation - Calculating your return on investment (ROI):

We can calculate the appreciation in the value of the property over time in dollars or as a percentage of the cost. Let’s say you bought a house for $100,000 a couple years ago with a down payment of $10,000 and now it’s worth $120,000. The appreciation is $20,000, or $10,000 per year.

Since $20,000 is our appreciation amount over two years we divide it by two to get an average annual appreciation of 10% based on the original property cost. The ROI is the percentage of profit you have earned based on the down payment you made. We divide the appreciation amount of $20,000 by the down payment amount of $10,000, showing that you return on your investment from appreciation is 200%.

Principal Reduction:

Principal reduction is the amount of your mortgage that has been paid off. A small part of your mortgage payment goes toward paying the principle and the rest goes toward interest, insurance and taxes. The mortgage company keeps the interest but you get a tax deduction and the principle reduction increases your equity in the property. Our loan was $90,000 after a $10,000 down payment and $2,000 has gone towards the principle in the first two years leaving you with a $98,000 debt.

To figure out your equity return simply divide the equity by down payment. Your total equity is $22,000, your down payment is $10,000 so the return on your equity is 220% after 2 years. Pretty good ROI in this example.

Tax Deductions:

Real estate investing has some of the best tax shelters compared to anything else. If your gross income is under $100,000 and you’re in the 33% tax bracket the government gives you back 33 cent for every dollar of tax deductions you can create. So, for every $1,000 in tax deductions you’ll get back $330 in cash or in reduced taxes. Your appreciation and equity will be long term but your tax deductions create cash flow in the current year.

Cash Flow:

Dealing with rental property investments means dealing with cash flow; neutral, negative, or positive. We all hope to have the positive kind but that’s not always possible. Even so, it can still make sense to invest in a property that has neutral or slightly negative cash flow because of the tax deductions and long term equity you can eventually cash in on. A common mistake from investors with good intentions is to get in hot water with unexpected maintenance costs, vacant properties, and non-collected rents. Not having a contingency plan in place for covering negative cash flow can leave one scrambling for co-investors or worse; foreclosure. Some negative cash flow can be offset by tax deductions. Keeping expenses down together with rent increases can eliminate negative cash flow and this should be an obvious long term goal.

Real Estate Investing Tips On The 4 Ways You Can Profit- Do You Know Your Real Estate Mathematics?

Profit is the main reason we invest in real estate so it’s important to understand how and where your profits come from. We’ll call this the mathematics of real estate profits. The four basic ways you will profit from real estate are:

1. Appreciation
2. Principal Reduction
3. Tax Deductions
4. Cash Flow

Appreciation - Calculating your return on investment (ROI):

We can calculate the appreciation in the value of the property over time in dollars or as a percentage of the cost. Let’s say you bought a house for $100,000 a couple years ago with a down payment of $10,000 and now it’s worth $120,000. The appreciation is $20,000, or $10,000 per year.

Since $20,000 is our appreciation amount over two years we divide it by two to get an average annual appreciation of 10% based on the original property cost. The ROI is the percentage of profit you have earned based on the down payment you made. We divide the appreciation amount of $20,000 by the down payment amount of $10,000, showing that you return on your investment from appreciation is 200%.

Principal Reduction:

Principal reduction is the amount of your mortgage that has been paid off. A small part of your mortgage payment goes toward paying the principle and the rest goes toward interest, insurance and taxes. The mortgage company keeps the interest but you get a tax deduction and the principle reduction increases your equity in the property. Our loan was $90,000 after a $10,000 down payment and $2,000 has gone towards the principle in the first two years leaving you with a $98,000 debt.

To figure out your equity return simply divide the equity by down payment. Your total equity is $22,000, your down payment is $10,000 so the return on your equity is 220% after 2 years. Pretty good ROI in this example.

Tax Deductions:

Real estate investing has some of the best tax shelters compared to anything else. If your gross income is under $100,000 and you’re in the 33% tax bracket the government gives you back 33 cent for every dollar of tax deductions you can create. So, for every $1,000 in tax deductions you’ll get back $330 in cash or in reduced taxes. Your appreciation and equity will be long term but your tax deductions create cash flow in the current year.

Cash Flow:

Dealing with rental property investments means dealing with cash flow; neutral, negative, or positive. We all hope to have the positive kind but that’s not always possible. Even so, it can still make sense to invest in a property that has neutral or slightly negative cash flow because of the tax deductions and long term equity you can eventually cash in on. A common mistake from investors with good intentions is to get in hot water with unexpected maintenance costs, vacant properties, and non-collected rents. Not having a contingency plan in place for covering negative cash flow can leave one scrambling for co-investors or worse; foreclosure. Some negative cash flow can be offset by tax deductions. Keeping expenses down together with rent increases can eliminate negative cash flow and this should be an obvious long term goal.

Real Estate Investing Tips On The 4 Ways You Can Profit- Do You Know Your Real Estate Mathematics?

Profit is the main reason we invest in real estate so it’s important to understand how and where your profits come from. We’ll call this the mathematics of real estate profits. The four basic ways you will profit from real estate are:

1. Appreciation
2. Principal Reduction
3. Tax Deductions
4. Cash Flow

Appreciation - Calculating your return on investment (ROI):

We can calculate the appreciation in the value of the property over time in dollars or as a percentage of the cost. Let’s say you bought a house for $100,000 a couple years ago with a down payment of $10,000 and now it’s worth $120,000. The appreciation is $20,000, or $10,000 per year.

Since $20,000 is our appreciation amount over two years we divide it by two to get an average annual appreciation of 10% based on the original property cost. The ROI is the percentage of profit you have earned based on the down payment you made. We divide the appreciation amount of $20,000 by the down payment amount of $10,000, showing that you return on your investment from appreciation is 200%.

Principal Reduction:

Principal reduction is the amount of your mortgage that has been paid off. A small part of your mortgage payment goes toward paying the principle and the rest goes toward interest, insurance and taxes. The mortgage company keeps the interest but you get a tax deduction and the principle reduction increases your equity in the property. Our loan was $90,000 after a $10,000 down payment and $2,000 has gone towards the principle in the first two years leaving you with a $98,000 debt.

To figure out your equity return simply divide the equity by down payment. Your total equity is $22,000, your down payment is $10,000 so the return on your equity is 220% after 2 years. Pretty good ROI in this example.

Tax Deductions:

Real estate investing has some of the best tax shelters compared to anything else. If your gross income is under $100,000 and you’re in the 33% tax bracket the government gives you back 33 cent for every dollar of tax deductions you can create. So, for every $1,000 in tax deductions you’ll get back $330 in cash or in reduced taxes. Your appreciation and equity will be long term but your tax deductions create cash flow in the current year.

Cash Flow:

Dealing with rental property investments means dealing with cash flow; neutral, negative, or positive. We all hope to have the positive kind but that’s not always possible. Even so, it can still make sense to invest in a property that has neutral or slightly negative cash flow because of the tax deductions and long term equity you can eventually cash in on. A common mistake from investors with good intentions is to get in hot water with unexpected maintenance costs, vacant properties, and non-collected rents. Not having a contingency plan in place for covering negative cash flow can leave one scrambling for co-investors or worse; foreclosure. Some negative cash flow can be offset by tax deductions. Keeping expenses down together with rent increases can eliminate negative cash flow and this should be an obvious long term goal.