The Most Important Step in Real Estate Investing: Leverage

How to turn $100,000 into $1.25 million by real estate investing with leverage.

A real estate investor’s most valuable tool is leverage.

Without it, you can’t buy, can’t hold, and can’t profit from your properties.

To prove our point that leverage is the most important step in real estate investing, let’s ask the question:

If you had the free capital to spend, would you make more money by buying a home outright or by using debt (leverage)?

Let’s break down a simple transaction to answer this question.

How Far Can You Get with $100,000?

First off, we’re going to use simple numbers in this example.

Of course, home costs and rent costs will change in different markets and different areas. But we’ll run with these numbers – even if they aren’t 100% accurate, they’ll paint a good picture of the math that backs up leverage.

Let’s say you have $100,000 at your disposal that you want to invest in real estate.

Income Real Estate Investing with NO Leverage

To begin with, you could take all the money and buy one property valued at $100,000 outright. You’d invest the full $100k, own the house free and clear, and receive $1,200 of net rent income per month.

This adds up to $14,400 per year you’d earn from a house you fully own.

Income Real Estate Investing WITH Leverage

Now let’s see how it plays out when you involve a lender rather than buying outright.

You could offer to put down $25,000, and the lender might agree to loan you the other $75,000. That $75,000 covered by the lender would be your leverage.

And now, instead of pouring all your money into one property… you only have to put in $25,000.

Take your $100,000 and divide it by 25,000. That’s 4 properties you could buy with leverage. For the same out-of-pocket amount as buying 1 property outright.

However, because you’re now paying a mortgage on these rental properties, your monthly net rent goes down.

Your income is now $750 per property. Multiplied by 4 properties. So this brings in $3,000 per month, or $36,000 per year.

You have the potential to make an additional $21,600 per year – just from using leverage.

No matter what amount you start with (in this case, $100,000), using leverage brings in more income.

How Does Leverage Change Your Net Worth?

Monthly rent income isn’t the only way a rental property makes you money. It will also increase in value.

When a home appreciates, it increases your total net worth. The average yearly appreciation rate for real estate across the country is 5%.

It’s clear that leverage impacts income, but what about wealth?

Let’s throw this 5% number into our equation and see what happens with leverage.

Net Worth No Leverage

If a property was purchased for $100,000, that one home would increase in value by an average of $5,000 per year.

So, the one home you bought outright would give you $150,000 in equity after 30 years.

You bought it for $100,000. After 30 years, you’re adding $150,000. So that’s a net value of $250,000.

Net Worth with Leverage

Next, let’s see the equity of the 4 properties purchased with leverage.

Multiply your 4 properties by the $5,000 in value they each increase every year. Your portfolio will appreciate $20,000 per year.

Over a 30-year span, your 4 properties would add $600,000 to your net worth. Add the original values of the homes (4 × $100,000), and your net worth increases by $1,000,000.

A million using leverage definitely beats the $250k you got from buying 1 home outright.

What If You Maximize Your Real Estate Investing Leverage?

A real estate investor’s goal is to maximize leverage – get the best, cheapest, easiest leverage available.

This means going an extra step:

• Having great credit.
• Having great income.
• Coming to the lender prepared.
• Having investment experience.

Let’s say you’ve done everything right, and you’ve earned yourself better leverage from your lender.

What happens when the same scenario is taken to the next level with top-tier leverage?

80% Leverage

You meet the bank’s criteria, and they agree to lend you 80% (or $80,000) on each $100,000 house you purchase.

Income with Maximized Leverage

Your down payment per property is now only $20,000, so you can afford 5 properties. But since you borrowed more money, the mortgage payment is higher, and the net rent goes down to $750/month.

Five properties with an income of $700 per month is $3,500 per month. This works out to be $42,000 per year. Annually, that’s $6,000 more than using a 75% loan, and $27,600 more than using no leverage at all.

Equity with Maximized Leverage

Lastly, let’s look at the wealth side with maxed-out leverage.

Thirty years adds $750,000 to the value of the 5 homes. All that money is added to your net worth.

As a result of the $750k of equity plus the $500k of the original purchase of the homes, your net worth is increased $1,250,000.

Once your mortgage is paid off and you own all 5 properties free and clear, you earn the full amount of rent per month. This is $1,200 × 5 properties, or $6,000 per month!

Using good leverage has the potential to make you literal millions of dollars over buying investment properties in cash.

How to Start Maximizing Your Leverage as a Real Estate Investor

Our goal is to help you understand and use the power of leverage. We scour the markets looking for debt with the best terms – the lowest down payments, the lowest credit requirements, and the lowest rates.

If you’re looking to maximize your leverage, email us at Info@TheCashFlowCompany.com. We’ll help you with questions and deals, and get you headed in the right direction.