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HOW TO FINANCE AN INVESTMENT PROPERTY
The secret in real estate business is to use other
people’s money. This is how most real estate tycoons are made. Unlike
traditional residential real estate mortgages, real estate financing offers
much broader financial options, including lending or financing from various
financial institutions. Transactions like these call for above-average
negotiation skills.
It's not advisable to invest your own money in a real
estate as for a few very important reasons. First, you you tend to give most of
your profits away by not leveraging your investment. Second, real estate is a
very risky business – you don't want to jeopardize everything you have.
This is not to say that real estate investment is all
about losses. On the contrary. if you know how to make money work for you, you
may actually garner a great deal of money in return for your investment.
Here’s how:
If, for example, you purchase a $100,000 property that
increases an average of 7 percent per year (in reality that number could be
higher or lower), you would see a net profit from renting your property
resulting in an approximately 15 percent return.
If you're content with little return of investment, you
might settle with your 15 percent return. But if you really want to earn on
your investment, consider the possibility of what leveraging can do for you. At
present, a typical real estate investor can find financing as high as 95 to 97
percent of the purchase price. There even some instances where you may be able
to get a 100 percent financing but we won't use this for our example as it's an
inadequate comparison.
So, if you're are an investor who is already content with
a smallreturn of investment then 15 percent sounds like a lot. But for those
who really want to make it big in the real estate, 15 percent is far from being
considered a noteworthy return.
How does leveraging work?
Let's assume that the rental income will cover all your
expenses, including the mortgage payments. Taking the same example, a 7 percent
appreciation of your property results in a $7,000 profit per year. With a 95%
financing in place, you'll be able to get a $7,000 return on $5,000 (your 5
percent down payment on a $100,000 real estate property). This will provide you
with a 140 percent return on your investment. Not only that, with the same
$100,000 you can go out and purchase 20 investment properties, finance 95%
percent of them, and make an amazing $140,000 profit a year. This totally beats
the $15,000 profit with an all-cash transaction.
In terms of the additional 20 properties, expect to have
a hard time getting financing for them since usually only five or six new
rental property mortgages are the maximum that lenders presently allow. Which
is why you need to have an above-average negotiation skills.
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