Top 5 Reasons Why You Should Buy Income Property
By Oscar T Blasingame, Esq., St Petersburg, Florida
The five top reasons why you should choose income properties over other investments are:
- Provides Cash flow.
- Debt reduction and equity build-up.
- Federal Tax benefits.
- Use of leverage.
Unlike in any other businesses, Income Property investment creates profit in multiple ways. First, the appreciation of the property value over time and second, through rent payments generating an profit that becomes passive income.
These investments work for the investor 24 hours a day, seven days, 365 days a year, with no vacations, no holidays and no sick days. A good economy versus a bad economy does not affect rent due dates. Alternatively, in other businesses there’s only one way to profit — from the sale of a product or a service. Moreover, in a weak economy or recession, selling these products and services becomes more difficult.
The top ten reasons why investing properly in Residential Income Properties is a smart way to increase one’s financial wealth are as follows:
- The population is growing exponentially.
- The supply of land for residential real estate construction is limited.
- Inflation causes increases real estate value.
- Inflation causes increases rent.
- As rents increase, property values increase.
- The average annual price increase of real estate in the United States meets or exceeds that of other countries (realtor.org)
- Income Property investments have led all other commercial real estate asset types, for total return over the past twenty years according to a recent a study by the National Council of Real Estate Investment Fiduciaries, NCREIF.
- Income Property investing offers unique tax shelter benefits unrealized in other industries.
- Income Property offers the highest leveraged use of all types of investments.
- Income Property is relatively simple especially considering the potential for high returns.
The Real Estate industry is divided primarily into two separate categories, residential and commercial. Each category is further divided into sub categories:
Residential Income Property Categories:
- Single Family Residences.
- Condominium Resorts.
- Duplexes, triplexes & four unit properties.
Commercial Real Estate:
- Multi-Family (Residential Income Properties w/ 5 or more units).
The term commercial property (also called investment property or income property) refers to buildings or land intended to generate profit. The profits can be generated through capital gains, rental income, or both.
Residential Income Properties are properties occupied by tenants from all social groups who pay rent and in the process generate income for their owners. The income generated through rents and other auxiliary amenities in the property qualifies it as an income- producing asset and thus a Residential Income Property. In many instances residential Income Properties are also referred to as Multi-Family Income Properties. Duplexes, triplexes, and apartment buildings fall into this category.
Purchasing a single family residence or a single condominium unit and renting it out to a tenant does not make the property a Residential Income Property or Multi-Family Income Property, even though it may produce an income. These properties should be considered somewhat speculative for investment purposes because they are tied directly to, and affected by, real estate housing market trends, both when purchased or when sold.
Investing in Income Properties is less complicated than investing in other sub-categories of commercial real estate. It is easy to comprehend and easy to manage because it is based on economies of scale. Everything is available to the investor in one package. Most importantly, investing in Residential Income Properties is a recession proof proposition. Regardless of economic conditions, people need a place to live. Consequently, rent payments take priority over any other expenditure, which may explain why Residential Income Properties hardly, if ever, become distressed properties.
When interest rates rise in the future, Income Properties will benefit significantly; as mortgage rates rise demand in the rental market increases and makes renting more attractive and available than buying.
There are various categories of residential Income Properties — single family homes, multi-family buildings with up to four units and buildings with five or more units. Buildings with up to four units can be purchased with conventional residential loans and are not considered commercial properties. Buildings with five or more units are commercial properties requiring commercial loans. As such, the loan on commercial properties is based on the cash flow of the property and not on the investor’s personal credit score, as is the case with a conventional loan. Banks treat these properties as businesses, and analyze and evaluate them from a profit and loss perspective when deciding whether or not to finance the loan.
Income Property investments are different from other real estate investments, such as Single Family Residences or condominiums. Therefore, they cannot be analyzed or evaluated using the common approach or formula of conventional real estate purchase. In the conventional sale model, the home or condominium is bought for a seller-based price. The seller sets a price based on the cost of the home and, to a certain extent, improvements, overhead, profit, and sales of similar properties in the neighborhood; commonly known as “just market value” or simply “market value.” This market data approach to value is simply a “feel good” approach to other comparable properties. The more someone likes the property, the more the seller can ask for it, and the more the buyer is likely to pay. This represents emotionally generated buyer satisfaction. The buyer, after all, is seeking a home, not an investment. Although a home may become a good investment, the primary purpose of buying a home is a place to live, maybe raise a family, not as an investment. Equity, preservation of equity, risk, and profit are generally secondary considerations.
Buying Income Properties, however, creates capital security and a moneymaking enterprise. In these purchases there shouldn’t be any emotional value invested; the only purpose is equity protection and growth and the expectation of a reasonable profit relative to the capital invested (known as a CAP Rate). While risk is an ever present element of the equation and it includes both the possibility of failure to obtain the required minimum return (profit) and the possibility of loss of equity. These potential risks can be mitigated or even eliminated if you have a proper understanding of the market and work with experienced professionals including Realtors®, lawyers, accountants and property managers.
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