May 21, 2016 - 12:46
When most people think of building wealth and accumulating money for their future, they think about putting money in their savings account and adding to their 401ks. These methods are good but will not get you very far because of inflation and will take a very long time. Here is a bit more on inflation, appreciation and how real estate can help bring in more return for your investment.
The problem with any kind of investment strategy is inflation, the decrease of value your money has over time. Since 1913, inflation has averaged out about 3.2% a year in the U.S. So for every dollar you save you will lose around 3.2% of its buying power every year, you save $100 then $3.20 of it will not be valued in a year. If you are thinking about a savings account, well your bank gives you interest on that, but the average savings account will give you a 0.06% return which still leaves you with a loss of 3.14% a year. You could also invest in a 5-year certificate of deposit but even that will keep you at a 1.2% loss. With 401ks you can expect a return anywhere between 6-7% on average, so if you are making 7% on return each year then you would not be loosing but actually gaining 3.8%. So lets make an example, if you put $50,000 into a 401k for 20 years then at the end you would have $193,000. But lets add appreciation loss over time, which would mean you actually have made $105,000, a little bit over double the initial investment.
The above examples are good investments but there is so much more potential in profits when you use real estate as an investment vehicle. If you put 15% down ($50,000) on a property worth $330,000 and appreciation stays at 5%, 2 percent less than 401k, for 20 years. In the end your property would be worth $876,000, if we include inflation loss your property would still be worth $471,000 and you also get cash flow, which is extra in your pocket. This is five times more return than comparing it to the same initial investment in the 401k. Of course there will be other numbers included like maintenance fees, repair fees, mortgage interest rate and more but this is just for you to get the main idea that real estate can help you make much more than a 401k if managed correctly.
Now, if you own a rental property you might be thinking, “since inflation is 3.2% a year does that mean I should increase my rent every year by 3.2% so I wont loose money?” In my opinion, the answer is no and here is why. Tenants don’t want you knocking at their door just to tell them that their rent has increased, the more this happens then the more likely they are motivated to move out. Believe me, having vacancy is expensive. If you rent out a home for $1000 a month and have a 2-week vacancy, that is already a $500 loss just for wanting to push a $360 yearly increase. Also, if the tenants know that their rent will be increasing each year for $30 a month then that would not make them feel good. So I suggest this, raise the rent every 3-4 years to offset inflation instead of every year. Or if they only rent out for a couple of years then, clean the place up a bit once they leave and then raise the rent for the new tenants to adjust for inflation.
With this being said, this quickly shows you that real estate is a great vehicle for bigger profits. Remember, with 401k you just sit and relax and with real estate rentals you will have to do a little bit more work but once managed correctly it will be easier for you. Wouldn’t you do just a little bit more work for five times more profit?