This is the next installment of a 7 part series exploring ideas of why real estate is such a good investment. The focus will be on single family and multifamily real estate, but a good idea is a good idea, enjoy.
There are a few advantages to real estate investing in this way, one notable one is the use of leverage. If investing in an alternative asset class, such as stocks, you would buy "on margin" for 50%, meaning, you put up $1 and you borrow $1. In real estate, traditionally, you put up 80%, meaning that that you put up $1, and the bank puts up $4. It technically means that you are the junior partner in this joint venture and you should expect the senior partner to ask for more assurances.
For residential real estate, 1-4 units, government-back loan, is no fundamental reason that real estate should have a 30 year repayment term. If you think about, the repayment term is the amount of time that a bank is committed to lend you money at a certain rate. They cannot call your loan due if rates go up, and yet you can prepay if it does (and refinance if it goes down). The only way a bank would agree with this absent any other guarantee is if they only have a fixed rate for 1 to 5 years and adjustable after that, such as Britain, Australia, Canada, and the list goes on. As a side note, this is actually a good function of government if properly controlled, to buy and facilitate loans originated on the primary market to be sold on the secondary market such that banks do not have a bunch of 30-year large loan amounts on their balance sheets, affecting how they lend.
Outside the world of the government-back security, there are also other ways to finance a hard asset. In terms of “flipping” (see part 3), it is very effective to leverage using hard money loans to increase a “return on equity” because you put in less money to begin with. Usually there will be no personal guarantee other than the money you put in and losing the asset itself. Though it is sometimes known as “loan sharking”, it is purer than other forms of debt as the most you can lose is what you put up (versus, for example, student loan debt).
The last point about real estate finance I would like to cover is the use of home equity lines of credit. It is very useful for other forms of investing, such as personal loans (you too can be a loan shark), equipment purchases or capital expenditures. There is low origination fees, relatively low interest (less than business loan, or personal loan), and flexible repayment, you are only charged on the money you use. An additional benefit is that it is a tax write-off (reduced after the TCJA).
Though there are those whom I respect who believe differently, debt used for business/investing purposes for an appreciating asset is really the purpose of it.
Feel free to #askGene about real estate, it is a little bit of a focused topic for him.
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