Are you saving for retirement? Are you looking for tax shelters for your money? Are you working to create lasting wealth? All of these require investment of some sort. What makes cash flow real estate such a safe investment? Let me share with you three reasons.
Demand makes Real Estate a Safe Investment
Mark Twain said it well, “Buy land, they’re not making it anymore.” There has been and will always be a demand for real estate – especially income producing properties. As long as the rental property has a positive cash flow, then there will always be ready and willing buyers.
Investors are looking for a return that is greater than what they could receive if they invested in no-risk Treasury Bonds. While stocks, bonds and mutual funds have basically no maintenance or management responsibilities, often real estate has a greater appeal to investors. Not only will they gain a profit off the property appreciation, like a stock market investment, but they will also benefit from the monthly cash flow. While stocks and mutual funds may offer dividend payments, they often fall far short of the cash flow that a rental property can generate. Thus the reason for the demand.
Stability also makes Real Estate a Safe Investment
If you watch the daily fluctuation of the stock market, you can almost feel your anxiety level rising and falling on converse levels. Real estate, on the other hand, is very stable. Annual appreciation is nearly constant. This is a main reason why portfolio advisors recommend real estate investment as a way to balance the risk factor in a diversified portfolio.
Even when there is a loss of market value, real estate remains a stable long-term investment. Take for example the 2008 real estate market crash. In some markets residential housing lost upwards of 45% of their market value. For those investors who patiently waited out the storm and held on to their rentals, they saw a rapid increase in rental rates on their vacant units. Vacancy fell and the income kept coming in – regardless of the appraised value of their real estate. Gradually values returned. In 2009 the median property value for owner-occupied homes, according to the U.S. Census Bureau, was $185,200. Based on the most recent data produced by the National Association of Realtors, the median sales price is now $239,000 representing a 29% increase in value. The market rebounded and meanwhile, the rent kept coming in.
High Cash-on-Cash Returns makes Real Estate an Appealing Investment
Income producing real estate has two things going for it: appreciating property value and cash flow. But one thing that perhaps a few new investors forget about is the cash-on-cash return that real estate creates. Cash-on-cash (CoC) returns reflects not simply the annual income compared to the purchase price, but rather the annual income compared to the actual out-of-pocket investment.
When you compare CoC returns of stocks versus rental properties, rental properties blow the stock market off the board. Let’s say that you have $25,000 to invest. You could take it and invest it in a stock that let’s say provides an 8% annual return. That investment will earn you $2,000 with a cash-on-cash return of 8%. You spent $25,000 to make $2,000 the first year.
Now let’s take that $25,000 and use it as a 25% down payment on a rental property that costs $100,000 and rents for $1,500 per month. If we set aside 50% of the income for expenses and take out the monthly mortgage payment of $350 (at 30 years with an interest rate of 3.75%), the property will earn $3,532 annually. This creates a cash-on-cash return of 14.1% ($3,532 divided into $25,000).
The real estate investment is earning a CoC return of 14.1% rather than the measly 8% with the stock investment. Plus, the owner has $100,000 of property value appreciating annually. Furthermore, each month the owner pockets almost $300 of profit. Additionally, there is a stable tenant on a 12 month lease. Can you see why real estate is under such a high demand?
That is why real estate is such a stable investment.