How Can You Make Money In Real Estate?
Time to read: 2:50
When you buy and rent a property, your income comes from the rent that you earn. After you subtract out your expenses, what is left is your profit, right? Of course, but that’s too simple. Let’s walk through a deeper dive into the four main ways you can make money and build wealth by investing in real estate.
Rental Property Cash Flow
The first one, and by far the most important, is cash flow. A lot of people invest in real estate and think of cash flow as an after-effect. Cash flow is the amount that's left over at the end of the month after you've paid all the bills, your mortgage, utilities if necessary, property taxes, as well as setting aside money for maintenance and income tax. Cash flow is the number one way that you can judge the value of your first or second real estate investment because as long as you have positive cash flow, you are not at pressure to sell with the rising and falling changes in the market.
Mortgage Paid Down (Principal Recapture)
The second way to make money investing in and renting real estate is through your mortgage getting paid down, also known as principal recapture. Essentially what this means is every single month when you make a mortgage payment using the rent that you've earned, part of that mortgage payment goes to your principal. So your loan value goes down and down, which means the amount of equity you have in that property will continue to grow because your mortgage debt is lowering. That mortgage paydown is income for you every month that automatically goes to the mortgage, and you don't have to pay it. So that's the second way that you can make money and build wealth by renting real estate.
Forced Appreciation
The third one is forced appreciation. You've probably heard about people using what's called the BRRR strategy. You know, you buy, renovate, refinance, and repeat. What we mean is forced appreciation is what happens when the property you've purchased, you do some renovations to it, you upgrade it, you improve it in a way that changes its value. Maybe it can earn higher rents than it did before. That's probably the biggest thing or the overall value of the property's increased. When you do that, you can then borrow against that property on the higher value, which gives you more cash that you could use to reinvest or to return some of your initial equity or your initial investment back to yourself.
Passive Appreciation
And the fourth and last one is what we call passive appreciation. So what that means is over time, the value of real estate, here in Ontario for example, has gone up by on average, you know, between four and a half and 5%. We're not talking about some of the years recently where it may have gone up by a lot more or gone down by some. But on the long run, if your time horizon is long enough, you'll see that there's a standard amount of appreciation that we've seen in the real estate and market for a long time. And that passive appreciation changes the value of your investment as over time without you doing anything. So what we mean, for example, is if you had a property that you purchased for say $500,000 and the market's growing at say 5% each year, your property every year increases its value by about 25,000. Now, since you didn't even purchase that property with your own cash, you borrowed that money to invest it, the rate of return on your original investment is amplified.
Quick Summary
These are the four ways you can make money and build wealth in real estate:
Cash Flow - This is the money that is left over from your rental income after you’ve paid expenses
Passive Appreciation - This is the increase in value of your property that follows the general market trend
Forced Appreciation - This is the increase in value of your property that happens after you make improvements
Mortgage Paydown - This is the increase in your equity with each mortgage payment that the renter pays for
