Why Invest in Real Estate? In a Word – Leverage
Leverage is a word often not well understood, both by the general public and, annoyingly, by those who tend to use it the most (you know the type – your drunk and perpetually-broke uncle who spends Thanksgiving talking about the economy and the wisdom of investing in this or that). Unlike your uncle, who thinks reading Forbes endows him with financial knowledge – and is not at all self-conscious that said knowledge has so far failed to yield any tangible benefit for him – we at Get It Right Solutions would like to spend a few moments defining precisely what leverage is and, most importantly, why it’s a unique benefit to investing in real estate.
Leverage is attained through the use of stock options, margins, or credit/debt to increase the ratio of asset value to cost. If you had $1,000 to invest, you could buy 10 shares of a given publicly traded corporation. Were you to use that $1,000 to buy five stock option packages, you would gain 500 shares and a larger stake for the same cost of $1,000. As the stock value appreciates, so do your holdings, and in a manner proportional to their value.
Real estate works in much the same way. By putting down $100,000 on a $500,000 property (20%), the buyer’s own money makes up a small percentage of the property’s overall value, whereas the lender or investor picks up the rest of the tab in the form of a mortgage. If the property value increases by 5% in a year, the property you own is now worth $525,000. Were you to have bought a $100,000 property outright, that property would only be worth $105,000. Using this example, it’s easy to see why it’s preferable to utilize an investor or lender to buy a higher-value property for the sole purpose of gaining more equity in that property for the same upfront cost.
What sets real estate apart from other forms of investment is the ease with which credit can be utilized to attain leverage; mortgages are exceedingly common for the average homebuyer, and the constant expansion of the real estate market means that investors of all types are eager to get in the game. Whether you’re looking to buy undervalued property and flip it quickly or purchase property in a hot market with a longer-term plan to renovate and increase its value, investing in real estate make sense for the contractor and investor alike.
Be sure to drop by our blog regularly for information, tips, and tools of the trade in real estate investment!