Working with investors from many different countries, I have uncovered more reasons for investing in real estate than I could ever have imagined.
Beyond the common goals of cash flow and a forced savings plan are objectives like looking for a safe haven for their money, sheltering income and assets from taxation, lifestyle investments, children going to college at a particular area and the list goes on and on.
One common denominator in their investing objectives is that they all aspire to build equity in real estate. Understandably so, as an estimated 90+ percent of all millionaires made their wealth this way.
Given that, it becomes important to identify all the ways you can actually build equity. Like many other investors, I thought equity was generated organically as property values rise. I was investing and noticing my net worth increase due to the rise in my equity position. The cash flow was nice but it did not add to my balance sheet in the same capacity that the equity was contributing to it.
I was looking for more ways to build and grow my equity portfolio. Applying some common sense and reading up on the topic I learned there indeed were 9 key ways to build equity:
1. Appreciation
This happens organically. The U.S. has a 50-year national average of 6 percent appreciation in home values. This offers nice equity buildup for homeowners and real estate investors.
2. Buying in undervalued markets
This is the part I love most. You can actually accelerate equity build in real estate by buying in undervalued markets. The U.S is made up of many different markets.
To increase and or accelerate your equity buildup, you want to invest in stronger, emerging economic markets that are poised for stronger growth. Markets that are positioned stronger than the national average will give you above-average equity growth.
This property yielded an equity buildup of $20,000 for Larry Arth.
3. Buying real estate at discounted prices
Whenever you can buy property below the current market price, you just bought instant equity. There are a variety of ways to buy real estate at a discount; my favorite tends to be REO properties which typically can be bought at a discount.
4. Debt reduction is a key way to build equity
For us investors, our tenants are paying down parts of our mortgage each month, the interest portion of the payment gives us a tax write-off and the principal portion of the payment reduces our total mortgage debt. This, of course, is equity buildup in real estate.
5. 15-year mortgages
The shorter-term loans come with lower interest payments, which will reduce your total borrowing cost and also contribute more each month toward principal reduction, which of course creates quicker equity buildup in real estate.
6. Manufactured growth
Also called the value play. This is renovating a home and updating an outdated property. Simply making repairs to those deferred maintenance issues can go a long way to building equity in your real estate investments. Spending say $10,000 to increase the value by $20,000 to $30,000 is great manufactured growth.
This fourplex generated $245,000 in equity buildup for Larry Arth when the conversion to condos was completed and refinanced.
7. Highest and best use is a key to build equity
The best use for a property at the time it was built may not always remain the best use for a property. Converting a property from its current use to today’s best use (such as this fourplex I converted into condos) can build you huge equity quickly.
8. Leverage to obtain more equity in real estate
This tool must be used wisely, but as your property develops a large amount of equity, you can refinance it to buy another property. Essentially you transfer part of the equity from one property to another property. You now have two properties appreciating in value that have tenants paying down mortgages and doing equity buildup. Keep multiplying this process and you will allow your equity portfolio to grow exponentially.
9. 1031 exchanges
As great as it is to build all this equity, you want to ensure the equity does not become threatened due to market conditions. What I like to do before a market softens, when the market is in a strong sellers’ position, is to reposition my assets from the current market to the next emerging market. The tool that allows you to maintain the current equity and continue to build in a stronger market is of course the 1031 tax- deferred exchange.
Over the years I have used all these tools. There is nothing finer than to combine all these investment strategies into continually building more and more equity.
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