If you’re a seasoned real estate investor looking to maximize return on an investment, or someone who’s considered investing in real estate, I guarantee you will learn something new in this post you’ve never heard of before.
Disclaimer: I am using general numbers for the purpose of general information. Consult your tax professional to find out how your unique situation may be impacted.
The Four Benefits to Maximize Return on Investment
Most investors that I know have their own favored way of measuring returns. They look at things like Cash Flow, Capitalization Rate, Potential Income, and Cash on Cash. We’ll take a more detailed look at these tools in another post. While useful, they don’t give a potential investor the entire picture.
Appreciation is easy to understand but hard to estimate. Currently in Lewis County, properties are appreciating between $5,000 – $10,000 each month. It varies property to property and area to area. Things like condition, updates, upgrades, location, inventory, and buyer demand all play into how much a property appreciates or depreciates. Smart investors will look for properties that could potentially be re-zoned from residential to commercial, which nets a higher value.
Cash Flow Before Tax
Once you’ve calculated the Net Operating Income (NOI), subtract the annual debt service. The NOI is calculated by figuring out all the income the property provides, minus vacancy, and then subtracting expenses such as utilities, taxes, supplies, advertising, and ongoing maintenance.
The debt service is your monthly principal and interest payments. An easy example of this is if you were to buy a duplex, rent one side and live in the other. If your monthly mortgage payment is $1000 and you rent the other side for $1100, you’d have a cash flow of $100 per month. In other words, you’d be getting paid $100/month to invest in real estate!
One of the benefits to owning real estate rather than renting, is paying down your own mortgage rather than your landlord’s. This is key, You are always paying a mortgage, might as well be yours! In the example of the duplex used above, not only were you making $100/month but your renter was also paying down your loan balance. That is a double whammy of free money!
Tax Paid or Saved
Since you’ve already found the NOI on the property, you’re now ready to to find out if you’re going to pay taxes or save taxes on your investment. The next step is finding out how much you can depreciate assets.
IF YOU ARE NOT USING DEPRECIATION ON YOUR INVESTMENT PROPERTIES, STOP READING THIS AND CALL ME RIGHT NOW!
You can not only depreciate the house, but you can depreciate personal property items like appliances and land improvements like outbuildings and fences. You’ll have to separate the land cost though, because land is not a depreciable asset. The following are depreciation timelines.
Residential – 27.5 years
Personal Property – 5 years
Land Improvements – 15 years
Commercial – 39 years
To find the tax that you will have to pay or the tax that you will be able to save, subtract interest and depreciation from the NOI, then multiply by your tax bracket. A positive number indicates that you will be paying taxes on your income from the investment. A negative number indicates you will be saving money and can use that amount to shelter taxes from your regular income! You’re either making money or saving money. It’s a win either way!
So, there you have it. These are the four benefits to owning an investment property. If you’re not considering them all, you may be losing out on good deals, or a good deal could be made even better. If you have any questions about these, let’s set up a time to talk about them. Let me know if you didn’t learn something new and I’ll do a Return on Equity review for free As always, make it an extraordinary day!