It is no coincidence that the affluent invest in real estate and use this asset class as the foundation for their wealth. There are many benefits offered by real estate which provide a solid foundation for lasting wealth.
The 9 key benefits include Cash Flow or Income, Appreciation, Leverage, Stability, Control, Tax Advantages, Principal Reduction, Inflation Hedge, and Multiple Fronts of Wealth Creation. In this post I’ll briefly explain each of these benefits to show you why real estate investing is such a great tool for wealth creation.
There is some overlap between items on this list, but each of these benefits are strong enough to stand alone. Combined, they give real estate the ability to create both short-term cash flow and long-term wealth.
1. Cash Flow / Income
One of the best reasons to invest in real estate is that it is an income producing asset. The income can often be great enough to cover all of the associated expenses and still put money in your pocket every month. I focus on positive cash flow properties as a means of increasing financial independence.
2. Appreciation
As Mark Twain said, “Buy land, they aren’t making any more of it.” In addition to positive cash flow on a monthly basis, the value of real estate increases over time. There are several factors which can drive real estate prices upwards, and by investing in areas with strong economic fundamentals, we greatly increase the amount of appreciation on our properties.
The above graph shows the average price over time for an average Canadian house in major urban centres. A home worth around $75,000 in 1975 is now worth over $400,000.
3. Leverage
Not only does real estate investing have excellent potential to provide cash flow and substantial appreciation, it also provides the opportunity to leverage your money. Using the power of leverage, you are able to buy more with every dollar you invest.
The bank is paid interest on the money they loan to you, but the cash flow beyond loan payments, as well as 100% of the appreciation belong to the owner. In this way, applying leverage in real estate is much like having 1 dollar do the work of 3 or more.
4. Stability
There is a reason the banks are willing to loan money to investors who choose to invest in real estate. Real estate is tangible, it is a great store of value, and provides excellent long-term stability. Real estate returns are generally more predictable, more stable, and better collateralized when compared with other forms of investment. This is a key reason banks are willing to provide such excellent leverage on real estate.
5. Control
Unlike many other asset classes, real estate can offer excellent control over your investment. This control can provide greater piece of mind since you will know exactly where your money is being put to work, and have a tangible asset to show for your investment.
6. Tax Advantages
Real estate investing offers several tax advantages which can further increase your effective returns. These tax advantages can generally be divided into favourable tax treatment, and eligibility for deductions, which both reduce the amount of tax paid and increase profits.
Depending on the particular investment and its structuring, profits from appreciation are generally treated as capital gains which are only 50% taxable.
Investors can also qualify for various deductions associated with owning property such as mortgage interest, property taxes, property management fees (if applicable), repairs and maintenance and other related expenses which are deducted from gross rental income and effectively minimize the amount of taxes paid.
Furthermore, tax-free equity take-outs through refinancing offer an additional benefit to owing investment real estate.
7. Principal Reduction
Investment real estate is typically financed using a long-term mortgage. In instances where an amortized loan is used, each mortgage payment reduces the principal balance of the loan, which builds equity for the investor. With investment real estate, the income from the property covers the loan payments, meaning the tenant is building wealth for you.
8. Inflation Hedge
As the general price of goods and services increases, real estate appreciates in value and serves as a great hedge against inflation. As inflation occurs, the buying power of our money is eroded. However, having your money invested in appreciating assets such as real estate protects the purchasing power of your money.
9. Multiple Fronts of Wealth Creation
The bottom line with real estate investing is that it provides the ability to earn income while simultaneously creating wealth in a stable and collateralized investment. As the property appreciates, and amortization reduces the principal of the loan, your equity rises at a rapid pace.
Preferential tax treatment allows you to keep more of the profit in your pocket which further increases your effective return. Factor in the cash flow along the way, and you’ve got a winning way to build equity.
The wide variety of benefits available to real estate investors make this asset class very appealing. If your current investment portfolio is limited to stocks, bonds and other paper assets, its time to diversify. You’ve now got 9 great reasons to give real estate a try.
photo credit: Patrick Denker
