Keep More of Your Real Estate Profits

It’s What You Keep that Matters!

One of the key things that really set successful real estate investors apart is knowledge of the difference between what you make and what you keep.  You may hear investors making a big deal about their buy price versus the sale price when they flipped a house, but other than providing a good story, that information tells us little about the success of the investor.

Compare that to the investors that speak in terms of Return On Investment or Cash on Cash Return.  These investors know that how much you make is irrelevant, if most of it gets sucked away by expenses.  At the end of the day, it’s what you keep that matters!

The two biggest expenses for a real estate investor are… Taxes and mortgage interest.

Most investors are aware of the 1031 exchange provision of the tax code that allows investors to defer the taxes due on profits from a real estate investment.  Like the IRA retirement provision for individuals, the 1031 exchange allows real estate investors to keep more of their money longer, leveraging it to work for them and build wealth.

For example, let’s look at a $200,000 property that appreciates 50% over 10 years. Normally, simply put, taxes reduce to $85,000 the profits kept by the investor, but using a 1031 exchange, the full profit of $100,000 is available to reinvest in the next property. Over time, this tax deferral increases the ability for an investor to build wealth by allowing him to keep 15% (typical long term capital gain tax rate) more money working for him, instead of going to pay taxes immediately.

Over a 30 year investment career, assuming a 5% average annual appreciation of property and an exchange every 10 years, an investor can build an initial investment of $40,000 into $2.8 million using the 1031 exchange for each sale and reinvestment.  That is $787,633 more wealth than without using the 1031.  If you do not yet understand how the 1031 exchange works, it is definitely worth your time to find out!

However, what most investors are not addressing is the larger expense of mortgage interest.  In that same scenario over 30 years, adding a mortgage acceleration system to your investments results in $40,000 being built into $10.9 million!  This is over 5 times as much wealth for the same investments, in the same market, for the same time.

Interest is money paid to the bank that is never recovered by the investor.  However, equity built by paying down the mortgage is real money that comes back at the closing table and is independent of market conditions.  With some education and a smarter approach to handling their cash flow, investors can substantially increase the amount of their hard earned money they keep.

Most investors, as well as most homeowners, have been conditioned to believe that a standard mortgage is a necessary evil and is just the way houses are bought.  Have you asked yourself who has trained us to buy houses this way?  Who benefits the most?

The typical mortgage is front-end loaded so that most of the payment in the early years goes to pay interest. For example, on a small, two-bedroom rental property, with a fully amortized $200,000 mortgage loan for 30 years at 6%, the borrower will pay back $231,677.04 in interest.  Effectively, the investor has bought one house for himself and one for the bank.  No wonder we are bombarded daily with mortgage advertisements!

In fact, on a 30 year loan, the bank gets half of the total interest due in 10 years, whereas the homeowner doesn’t pay off half the principal until the 21st year. Now you might be saying, as an investor, I only hold properties for 3-5 years anyway, so why do I care?

In our $200,000 mortgage example, in 3 years, the investor has made 36 monthly payments of $1199.10 each for a total of $43,167.60.  Of this, $35,335.80 goes to interest payments to the bank and $7,831.80 goes to principal payoff and building equity (investor keeps only 18.1% of his payments as equity).  In 5 years, $58,054.80 is paid in interest and $13,891.20 is kept in equity (investor keeps 19.3%).

What if there was a way to build equity in a property 4-5 times faster than what the typical investor does?  And what if that method required no refinancing, no biweekly payments and no change to the property’s cash flow?  Sounds too good to be true?  It’s just math.  In fact, it is the same math the banks use to maximize their profit.  What if we could turn that around and use that math for the benefit of the real estate investor instead?  What would the results be?

In 3 years, the investor would build $36,615.35 in equity instead of $7,831.80.  And in 5 years, the investor would build $64,963.75 in equity instead of just $13,891.20.  And remember, equity is money back at the closing table that can be reinvested.  Equity increases 4-5 times faster when efforts are made to minimize the mortgage interest expense, rather than just assuming it’s the cost of doing business.

We have been conditioned to believe that it is normal to pay 2-3 times the price of a house by the time it is owned outright.  I, for one, have never been comfortable with this idea.  When I discovered the power of mortgage acceleration, and put it together with the power of the 1031 exchange tax deferral, I saw my wealth building really take off!

The Benefits of a Mortgage Acceleration program for the Real Estate Investor are:
»  Build equity 4-5 times faster than normal
»  Build equity quickly, even with interest-only loans
»  Have an emergency fund readily available for unexpected expenses
»  Make properties positive cash flow when they would not otherwise
»  Reduce the total cost of the property by minimizing interest charges
»  Have your money work harder for you, not for the bank

Remember, it’s what you keep that matters!

by Daryl Hemingway

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Make your Financial Vision 20-20!
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