When looking for a solid and dependable place to invest your hard earned money, many people consider equities, bonds and real estate as the primary options of investing. For many people, they want to achieve the highest levels of growth possible without risk of capital depreciation. This causes many to look at real estate over the stock market due to the lack of variability; however, is the real estate market as stable as it first appears?
The Top Line
The first thing we must review is the revenue. How much do we think we can make on the property? A new real estate investor is starting out with $30,000 in capital. With this amount, the investor is looking to maximize leverage. The investor purchases $500,000 worth of real estate and is able to generate $2600/month in rental income from two $250,000 units.
The other revenue the investor will receive is capital gains on the sale of the property; however, this should only be done when values are high or in a low income year due to taxes.
The Deductions
The second thing we have to look at is what the expenses are for maintaining these properties. Renters are less than perfect, and you will have periods where renters are non-existent. You will also be responsible for upkeep, utilities and other general expenses.
The following are some of the annual expenses:
- Property Tax ($4500/annum)
- Utilities ($3600/annum)
- Insurance ($1200/annum)
- Mortgage Payments ($27,600/annum)
The total deductions when added together outpace that of the total rent payments, so you cannot rely on the rent to pay your mortgage payments; especially, when this income is tax deductible.
The Bottom Line
With all these expenses, does it make purchasing profitable? Let’s look at the property after 35 years when the property is all paid off.
- The house is valued at $1,375,000
- You have received $1,092,000 in rent (excluding inflation)
Your total income on the property is $2,467,000. The following are the net deductions:
- Property Tax Paid: $157,500
- Total Utilities Paid: $126,000
- Total Insurance Paid: $42,000
- Total Mortgage Payments Made: $966,000
The total deductions are $1,291,500. This leaves you with a net profit of $1,175,500 after 35 years of investment.
Clearly, this is subject to many other variables that do have an impact; however, over the course of 35 years, then most likely you will profit by approximately this amount. Now, let’s look at how this compares to the same $30,000 being invested into the stock market.
The Stock Market Return
You take the same $30,000 and invest it into an index linked mutual fund for 35 years. On average since 1938, the NASDAQ has yielded an average annual return of 8% approximately. If we use this as the annual yield, then the investment will only be worth $443,560.33 after 35 years.
Unfortunately, there are too many variables to say exactly that one investment is greater than the other. The best way to measure success is to choose what you prefer to use as your investment strategy. Whether if it is real estate or investments, make sure that you have done the research before you begin, and you know what you are getting into.
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