The Four Main Ways To Make Money In Income Properties.
Here’s a quick quiz. Do you know the four main ways to make money through income property investment? If you’re considering looking at real estate through an investor’s eye, then you certainly should. As previously implied, there are four vectors in analyzing prospective properties that you and your agent should take into account in order to get a ‘full picture’ of what each potential investment can do for you. Only once you know the value of each, can you realistically determine which investment meets your personal goals best. Let’s have a look at what we should be factoring in:
(1) Operating Income. This is usually first to spring to mind when we think of income properties. It is the total revenue that comes your way each month collected from such sources as tenant and parking rentals, as well as any other incomes like coin laundry, etc. This is what we’re gauging when we hear discussions of the ‘gross rent multiplier‘ and other related terms. This number fluctuates with the specific property and its earning potential within the overall rental market, based largely on the number of units (multi-residential) and their desirability. It certainly plays a big role in income property analysis, but is not the only factor to consider.
(2) Appreciation. Aha! I bet you got this one as well, didn’t you? Appreciation is the increase in the overall market value of the property itself, and is actually realized (earned) when the property is sold. Smart investors, however, will commonly factor appreciation into ongoing cash flow models by applying a small portion of the market increase to each month’s ‘big picture’ as earnings. Contrary to recent belief, over the long term, this figure is historically a very significant positive number.
(3) Equity. This one is easy to understand although sometimes overlooked. Whatever portion of your mortgage that is going toward buying equity (as opposed to the banks’ interest premiums) and is being paid for by your tenants (hopefully!) will also be realized in cash upon the sale of the property. This is in addition to the positive cash flow of monthly rental income surplus and so requires its own separate mention.
(4) Tax Sheltering. This one most people miss, but it is a very valuable asset in your overall portfolio. As always, when it comes to taxes, I must make the disclaimer that every person is different and so you should speak with your tax professional before proceeding with anyone’s advice. However, real estate provides an interesting tax advantage in that net losses can sometimes be recouped in other areas of your personal portfolio as tax write-offs. Also – there are many ‘creative’ ways to arrange real estate ownership that may allow for further advantage. Don’t be fooled, preliminary tax analysis is complex and requires at minimum an experienced adviser and preferably a lawyer, but there are huge savings to be had through careful decision making here. Sometimes this can swing the whole deal one way or the other.
Overall, the goal is to determine the present value of the future income from the property. This is often done using discounted cash flow analysis, which is a way to compare the time value of money, and is a bit beyond our scope here. (Email me at shaun@shaunnilsson.com for a more in-depth discussion). In a nutshell though, the concept is simple. You want to know how much future money you are buying by investing your money now. Then the process simply becomes choosing which property provides the most suitable investment for your risk level, lifestyle and income goals! As always, if you are interested in learning more, please contact me and we can discuss how best to get you started.
Speak soon,
Shaun Nilsson
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