Real Estate Investing Basics

Back to Basics on Buy and Hold

34 Articles Written

This past week was spent catching up with friends we haven't seen in awhile. When these old friends ask what we're up to, they aren't surprised to find out it's real estate related, given that we began investing in real estate in 2001. While most have heard the stories of our crack house adventures in the early days, they are startled to learn that my husband Dave and I are full time investors.

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A few made comments about how “lucky” we were to begin investing 2001 because we rode a really rocking wave of value increases on those properties. And a few commented on how they wouldn’t be buying houses right now because they think the values are going to go down again.

I tried to explain to a few interested folks that appreciation is icing on the cake but it’s not actually the foundation of what we do. But most people seem pretty hung up on house values and what the values will do in the future … and I suspect there are still real estate investors out there that get caught up in these thoughts too so I thought it was time to remind everyone of the basics of buy and hold real estate investing.

There are three ways to make money as a buy and hold investor and one big bonus many forget to think about too!

Appreciation is the way that captures an audience. Who doesn’t love hearing stories about home prices doubling and people making big bucks on a quick flip? It’s a great story.

But we never set out to make money through big property value appreciation. Because we do a lot of market research and carefully select the areas we buy in, we often see solid growth in the value of the properties we buy, but that is not our number one focus for making money. We've always focused on a more long term strategy which sees us making cash flow each month and building our wealth by other people (our renters) paying down our mortgages.

That’s it. Appreciation is obviously pretty nice but it’s not the foundation of what we do.

Let’s look at a basic example. Pretend you found a nice property for $100,000 two years ago, and you bought it for 25% down ($25,000). Today, here’s how your investment looks:

1) Depreciation: Bad news, your property went down in value by 5%. It’s now worth $95,000.

2) Cash flow: Rent each month is $1,000. Your mortgage, insurance, taxes and miscellaneous expenses are $800/month. Income minus expenses = $200/month. 24 months x $200 = $4,800 in income so far.

3) Other people’s money paying down your mortgage: Assuming you have a mortgage at a 5% fixed rate and 25 year amortization, at the end of the two years you will owe $71,805 on your $75,000 mortgage. You have now built an additional $3,195 equity into the property ($75,000 – $71,805 = $3,195) using the rent money you collected to pay down the mortgage.

Your property may be worth less than you bought it for, but you’ve still made $7,995 from it in two years (from the positive monthly cash flow and the principal your renters have paid down).

And – remember – you only actually realize a gain or a loss in property value when you sell the home so you really haven’t LOST the 5% the property went down. If you haven’t sold it and you’re still making money each  month don’t worry about it!

Focus instead on the fact that you’ve made a 32% return ($7,995 divided by $25,000 invested) on your money after 2 years. And if you hold onto it, and ride the market cycle back up, when you do go to sell you’ll likely enjoy a nice lift in value to add to the other two ways you’ve made money on it.

On some of our properties we’re paying down as much as $1,000 per month on the mortgage using the rent money we’re collecting plus we make $500 to $1,200 per month in positive cash flow! Even if the value on those properties never changes we are making money each and every month through the cash flow and growing our wealth by $12,000 a year.

Plus, the big beautiful bonus of buy and hold investing is that you’ll have been enjoying some nice tax deductions along the way that can help offset income you’re making with this property and with other sources too!

I tried explaining this to some of our friends but they kept coming back to the question “What do you think house values will do in the near future?” so I eventually gave up and said my crystal ball is broken but they will eventually go up in most areas. Then I quickly changed the subject over to their jobs, kids and travels. It was easier … but for my fellow real estate investors remember that appreciation is just one way to make money with buy and hold real estate.

    Jeff Brown
    Replied almost 10 years ago
    Are we related? 🙂
    Julie Broad
    Replied almost 10 years ago
    Well our initials are the same so that HAS to mean something … 😀
    Shae Bynes
    Replied almost 10 years ago
    Bingo! Thanks for this article, Julie. I was just having a similar conversation with someone earlier this week 🙂
    Julie Broad
    Replied almost 10 years ago
    Thanks Shae!! I couldn’t believe how many times I had this conversation at the wedding on the weekend! I figured there were a lot of us out there trying to explain to others why real estate has so many powerful benefits even if the house prices aren’t on the rise at the moment.
    Mark Loeffler
    Replied almost 10 years ago
    Julie, Wonderfully put as always. I recently walked a 27 year old what it would look like if he bought a $150,000.00 Town House Condo 1 per year for 5 years and with out any appreciation or rent increases. How that would look and I have to tell you he was a bit surprised by the results. Only 1 per year for 5 years sets you light years apart from people not taking control of their financial destiny
    Julie Broad
    Replied almost 10 years ago
    What a great example Mark! I bet if more people looked at the simplicity of such a scenario they would be more inclined to put their money into real estate than into a mutual fund where everyone else handling their money makes a profit before they do.
    Replied almost 10 years ago
    I was thinking it would be great to buy a house every year. However, even if you do place someone in the house to cover the mortgage, and save enough for a down payment on another house will you be able to get another mortgage? If you get it for the 2nd house, how about the 3rd? then 4th? From what I heard, banks will not approve loans for a new house every year. You will surely max out your credit no? Please correct me if I am wrong, because I am a beginning investor and have been trying to find an answer to that question.
    Wade Graham
    Replied almost 10 years ago
    Ray there are many of us with multiple rental properties. You need a great relationship with a bank and maybe a mortgage broker to get the financing done but it certainly can be done. Make sure you are buying cash flow possitive property or the bank will shut you down quickly. Financing is usually challenging from time to time but most determined investors figure it out.
    Julie Broad
    Replied almost 10 years ago
    Great answer Wade!! Ray – there are a lot of ways to finance properties. Going the traditional bank route is only one of the ways. Typically it’s the cheapest money but if you’re buying properties with good cash flow then you should be ok to pay a slightly higher interest rate for private financing or a VTB. Bottom line is exactly what Wade said and that is basically where there is a will there is a way. The hardest part about real estate investing is getting started … but once you start taking action you’ll find ways to deal with the obstacles like financing if you really want to find a solution.
    Replied almost 10 years ago
    Thanks for the quick replies! Sadly I live in the west where the properties seem generally more expensive. So while I save for a down payment on a house (which would probably take me 2 years), what do you suggest I do? Should I skip mortgages and look at private lending? Maybe it’s possible for me to get started that way? Or look for investors to partner with? Or are there other options for me to get started instead of wait?
    Rachel aka Mobile Home Gurl
    Replied almost 10 years ago
    Nice article, Julie! I agree. It’s hard for most folks to understand. I find most who pursue real estate are in it for the big money, just like winning the lottery. Many folks don’t see the difference between having a pot of gold and having an endless stream of income coming in. Most would pick the pot of gold over an endless stream of income. But, what happens when the pot of gold is gone off and spent? It disappears. Yet, the endless stream of income keeps coming in – day in and day out. But, they just don’t get it. This is what separates those who work for money and those who make money work for them. Thanks for sharing!
    Julie Broad
    Replied almost 10 years ago
    What a wonderful analogy Rachel!! So many people think real estate investing is risky (and of course, it’s not without risk) but to me it’s more risky to not take control of your money and get it working for you. Plus, with real estate, there often is a pot of gold at the end of the steady stream of income too … so we kind of get our cake and eat it too in some cases!! 🙂 How’s that for another analogy?? Thanks for your comment Rachel!
    Wade graham
    Replied almost 10 years ago
    Another great post Julie. You definately have a knacknfor writing as well as investing. As you know from some of the blogs I have written I totally agree with you. However I do believe that there are smarter times to buy, hold and sell. You don’t have to chew on a 3% value drop just because you didn’t have the patience to wait 6 months. I don’t think one should really try to time the market but in Canada it generally make sense to buy in the winter and sell in the spring (exactly the opposite of what most people do). Another time to be patient is durring large price climbs (like Canada in past two years). These are much harder to spot but i will bet dollars to donuts we see a price correction this fall. This may sound like bad news bur it is actually an opportunity for first time home buyers and investors! Happy investing! Wade
    Julie Broad
    Replied almost 10 years ago
    Thanks Wade! I do appreciate your comment. And I do agree with what you’re saying. I think it’s tough to generalize across Canada because I believe that we’re seeing different market conditions in BC than you are in Calgary/Alberta. In fact, I believe there is a nice window of opportunity here in BC thanks to the HST and the summer slow down which always occurs. These are things that have influenced the market and are not driving it. I highly recommend the books by Kieran Trass if you haven’t read them. The Housing Bubble was a great read and speaks to the cycles and when it’s a good time to buy and sell. It’s very much to your point – there are good times to buy and good times to sell. And it’s not as much about timing the market as it is about understanding where the market is at currently and what the best strategy is for taking advantage of the current state of the market!!
    Taylor White, PHD
    Replied almost 10 years ago
    Nice article Julie and breaking it down. The piece of the puzzle that is always most difficult in the buy and hold game are the tenants. Finding good tenants, who pay on time – all the time, is huge in this strategy. Maybe I missed it, but I would assume you are your own property manager as well for your properties? Not my business, I just found that I needed to manage my own properties to make the cash flow cycle complete.
    Replied almost 7 years ago
    Hi Julie, I’m fairly new to BiggerPockets but have been reading a lot of the great articles available. Im still learning the basics about real estate but I’m sure I want to buy and hold in the very near future. Thanks for the great article, really enjoyed it.
    Replied almost 6 years ago
    I am soo glad I read this!! I was discussing this today with a mortgage banker and he didn’t quite understand or maybe I didn’t express myself correctly that it wasn’t logical to me for a depreciation to be affecting anyone who plans on keeping the property and someone whose financial situation hasn’t changed since the origination of the loan. If you’re getting cash flow then depreciation shouldn’t concern/alarm you.
    Tapiwa Wakatama Healthcare from Decatur, GA
    Replied almost 5 years ago
    Excellent article! 3) Other people’s money paying down your mortgage <— Icing on the cake!
    Roberto Nazario from Waco, Texas
    Replied about 4 years ago
    Nice Article, I really will love to start my journey as a Buy and Hold Investor, but my question is how people mitigate risk when they take on 4 + mortgages at the same time. Nobody seems to talk about mitigating risk and planning for this type of Investement. I understand the numbers make perfect sense to buy 5 Houses with 100K instead of 1 house, but how do you prepare for the risk?
    Hans Re Real Estate Agent from Pompano Beach, Florida
    Replied almost 4 years ago
    Hello, Thanks for the article, very well explained. I recently joined biggerpockets, I’m a real estate agent and recently sold a condo, and the seller wants to start working with me to look for deals to flip. I am so caught on on this side of the business that I’m considering start doing it for myself as well. I registered today for a class on real estate investment with the board, and I ordered my first 2 books, as I told you before, I am captivated by this new possibilities to invest in what I love to do, real estate. I’m looking forward to learn more from your blog!
    Ben Olson
    Replied over 3 years ago
    Great post, great comments! I am new to real estate investing, but the way I am looking at it, there is the potential to do really well with yourself. This is a long term investment with a 30, 25, 20, or less(depending on your terms) maturity, that has the potential to pay you dividends on the way. Of course it is not all quite that easy, but when you know your initial down payment is going to mature into not just something of appreciated value(hopefully), but a cash generating machine at the end of the mortgage, it is hard to overlook. I am currently trying to do my calculations with management and maintenance included in the figures. If I can invest in something with as little as 3.5% down,(thank you FHA!) and in 25 years have it mature to full value, AND pay wonderful monthly dividends, that sounds better than any 401k or investment vehicle available to the general public.
    Daniel Fitzroy
    Replied 9 months ago
    This was a great article thanks for sharing your thoughts/mindset with us!