Archive for August, 2010
Real estate investing makes people think of money. You will see a lot of good reasons for this. Real estate is something that is only available in limited quantities. After all, manufacturing more land is impossible. As a result, real estate is nearly universally thought to be a sound investment.
However, it must be acknowledged that conventional views on real estate are changing. This certainly has something to do with the economy. It is not uncommon to find people who are afraid of real estate investing. They think there is no money there anymore. They may also believe that they cannot succeed without investing large sums of their personal money. Both of these beliefs are dead wrong.
More than 14 million borrowers were underwater as of Q1 2010, and with a further 10.8% decline in house prices expected relative to Q4 2009 levels, another 6 million borrowers are likely fall into negative equity by the end of 2011, according to commentary today by Deutsche Bank.
The presence of negative equity goes hand-in-hand with an increased likelihood of strategic default, as borrowers may sometimes not be willing to pay the mortgage when the house has lost substantial amounts of value. The firm noted that, even when strategic default makes economic sense, many borrowers resist on moral and social grounds, as well as from fear of legal consequences. The existence of recourse — when a lender is able to pursue a borrower’s other assets — also acts as a disincentive against strategic default.
Deutsche Bank noted 11 states are considered non-recourse — though not all explicitly forbid deficiency judgments on homes or on purchase loans.
Don’t get me wrong. Cash flow is good (assuming it’s positive), but absolutely NO one has ever become rich from cash flow alone. Think about that for a minute.
Let’s look at a quick example. Let’s say you have a $100,000 property that generates $200 per month in positive cash flow. That’s $200 per month after all your expenses and debt service. That would give you $2,400 per year or $12,000 over five years in cash flow.
Assuming you follow our advice of maintaining a reserve account for each of your properties to cover future maintenance and repairs, you will have made $12,000 in net profit over those five years. This assumes that nothing unforeseen happens along the way such as a hot water tank or leaky roof requiring replacement, or a long-term vacancy.
If you’re going to put your investment capital, credit, and possibly your income at “risk” for $12,000, then you’ll need more than just cash flow to make it worthwhile. You need to be investing in markets that offer good appreciation potential. That is how you become rich!
