Real estate investing is a popular way to diversify your investment portfolio. Everywhere we look, we are reminded of the advantages of purchasing real estate. However, just like the stock market, the real estate market and rent prices can fall as well as rise. That is why, when building a real estate portfolio, it is critical to use leverage wisely.
What is Leverage in Real Estate
Leverage is a straightforward real estate investing strategy in which investors borrow money to purchase property in order to increase returns. Leveraging allows savvy investors to build tremendous wealth over time by increasing both their investment return and their purchasing power. It refers to the use of borrowed capital or debt to boost the potential return on an investment. The most common way to leverage your real estate investment is with your own money or through a mortgage.
Leverage works in your favour when real estate values rise, but it can also cause losses when values fall. Here’s how:
The BRRRR (Buy, Rehab, Rent, Refinance, Repeat) process enables investors to generate passive income over time by taking advantage of the real estate market.
Purchasing real estate at a discount is a great way to maximise your return on investment. The key is to purchase properties at or below market value and not invest more than 70% of the property’s after-repair value so that you have enough equity in the property when seeking financing or selling. Choosing how to finance your property, such as with cash, a hard money loan, seller financing, or private loans, is a part of this process.
Determine the construction and renovation costs required to increase the value of the property and make it livable and functional. Second, select the appropriate team to manage the real estate project effectively, efficiently, and, most importantly, within budget.
Rental income generates monthly cash flow, which is important for real estate investors. Furthermore, lenders are more likely to refinance a property that is leased to tenants. More importantly, rental income is an excellent way to pay off your mortgage.
At the refinancing stage of the BRRRR method, it is critical to conduct extensive research to identify trustworthy lenders with favourable rates and terms. When looking for lenders, it is critical to understand whether the banks offer cash out or only pay off debt. If they don’t offer cash out, you should look for a lender who does. Determine how long you must own the property before refinancing. To make the BRRRR strategy work, you must find a lender who will lend close to the appraised value.
If you’ve mastered the BRRRR method, you’ve successfully purchased, rehabbed, rented, and refinanced a property. This is the time to reflect on what you’ve learned and make necessary adjustments. You can reimplement the BRRRR method and be more successful in the future by combining reflection and critique. If you did a good job, you can reinvest the excess profit in a new property.
When the value of property and rents rise over time, leverage works extremely well. However, this is not always the case. Real estate can be hugely impacted by flat or down economic cycles or market conditions that affect a tenant’s ability to pay rent, leaving the investor to make loan payments or risk losing the asset due to loan default. Overall, as an investor, leverage can be used as a key enabler to increase buying power, build wealth, and ultimately enjoy financial freedom with careful planning and execution.
(By Anurag Goel, Director, Goel Ganga Developments)
Disclaimer: This is the author’s personal opinion. Readers are advised to consult their financial planner before making any investment.