How do you impact the Financial Returns on your investments?
If you are a anything like I was early on in my career, it was my understanding that contributing to my 401K on a consistent basis was going to be my ticket to a financially stable retirement. However, once I read Tony Robbins book “Money, Master the Game” it became apparent that although 401K’s can provide a nice way to save for retirement, we don’t achieve the returns that we should because of all the management fees that it requires for these large firms to manage the money and this can cost us huge $$$ based on the compounding interest formula. If we end up averaging 6% returns instead of 8% because 2% is being skimmed off the top to pay for management fees, this can result in large sums of money over a 30–40 year investing time frame. Not only can we get “feed” to death on these investments, but how much control do we really have on the share price of Google or GM or Tesla? We are relying on the decisions of the management teams to increase the value of the company and therefore the share price. So if that is the case relative to investing in the stock market, where can we have more control over our destiny? Real Estate investing……so get this formula in your head first!
NOI = Net Operating Income
Gross Income = All Income from Rent in addition to Laundry, Parking etc.
Gross Expenses = Any expenses for the asset like electricity, Real Estate Taxes, Insurance, Heating, Water & Sewer, Maintenance etc.
CAP Rate = Return you would receive if the asset was acquired in full with Cash
Let’s have a look at this scenerio with a little more detail? When investing in the stock market, it is well understood that over a 50 year time the returns of the S&P 500 was 10.49%, not bad at all! But let’s talk about the returns we can achieve by investing in multi-family properties and I will give you a real world example. We purchased a 31 Unit apartment building in 2017 and when purchasing real estate investments, part of the magic of high returns on our investments come from leveraging the banks money for purchasing. So for this acquisition we required 20% down on a $1.4M purchase price which would result in $280,000, however in this scenerio we were able to have the seller of the building do owner financing for 10% and therefore only required $150,000 for the initial purchase including some closing costs. Below are the financials at purchase;
As you can see from the numbers, the annual NOI (Net operating Income) was around $143,550 and based on the cash investment of $150,000 required to purchase we were able to achieve a 31.6% return on that cash investment!!! This is 3X the return that we would have achieved by investing in S&P 500 over time, so it becomes pretty apparent which investment path will lead to financial freedom over time. Now I realize that 31% return on our money is incredible, but the best thing about this asset, is that I have been able to force appreciation by increasing the income and reducing the expenses on this building. Some of the things that I have been able to do over the past 3–4 years;
- Use monthly cash flow to renovate the apartments as they became available
- Replace the Oil based heating system with Natural gas high efficiency units
- Replace all common area lighting with LED low power usage with motion sensors
- Built additional 2 Bedroom unit by leveraging unused space
So by being proactive and looking at these areas of improvement over the past 4 years, the NEW financials can be seen below;
As you can see, we have been able to significantly improve the financials of this asset over time by focusing in on improving the income and reducing the expenses resulting in an improved NOI of $296,700 currently! So if we go back to the original equation and calculate the NEW value of the property at a 10% CAP Rate, it would be worth $2,967,000 and this is because of the forced appreciation that we gain from improving the NOI. So by utilizing some of the monthly cash flow to re-invest into improving the NOI, we have been able to force over $1.5M in building appreciation in ~4 years!
Another wonderful thing about investing in multi-family is that over time the loan or debt that you have on the asset along with the payment remains the same if you have a locked interest rate, however the rents will increase over time allowing you to improve the cash flow of the building to use for other investments or to more aggressively pay down the principal of the building.
So as you evaluate where to put your hard earned $$$ to prepare for a time when you won’t be working, it may be time to consider multi-family properties. You can see from this one example that the financial returns that investors can achieve as compared to the stock market are much more lucrative and considering that our time is finite, let’s choose the path that will get us to financial freedom at a rate that is 5 times faster than a typical 401K corporate plan where the only ones guaranteed to make $$$ are the ones managing the fund. Time to start hunting!!!! Happy investing….
