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Alan Smith
  • Rochester, NY
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Appreciation vs "Free" Equity?

Alan Smith
  • Rochester, NY
Posted Jan 16 2017, 10:41

Hi Guys,

This is my first post to the Bigger Pockets forums and I'm at the beginning of my real estate journey with my current goal for 2017 being getting my first rental investment under my belt. My intent is to have a different vehicle that grows that is diversified from the typical 401k and IRA investments as well as giving me the ability to access that wealth through cash flow or liquidation of equity at a later point in time before retirement age. That being the case I'm looking at buy and hold rentals.

I am looking for some feedback on my thought process that I've yet to see people highlight. Using easy numbers in this hypothetical example, lets say I purchased a $100k property with a 10% down payment and a 30 year loan. Ideally you would have cash flow because you purchased it correctly, but for demonstration purposes lets assume the rent only covers taxes/mortgage, capital expenditures, property management, vacancies, etc with $0 left for cash flow (I know there's closing costs too, but lets assume its seller financed). Provided you purchased in a stable market and continued to keep up maintenance, your $10k turns into $100k if you sell after 30 years due to the renter covering your costs. Isn't that an annualized return of 30% ([$100k - $10k] / $10k * 100% / 30 years) ? Put a typical 20% down and the annualized returns in this example would be 13.3%, right?     

As a long term buy and hold investor, is there a flaw in my thinking? I realize most discuss appreciation, but even with zero appreciation isn't the "free" equity still a solid investment? I want to be conservative with my first buy and have been thinking about increasing my down payment to 25% or 30% to ensure it cashflows positive. I realize that decreases the "cash on cash return" that many people here talk about. But if you begin to compound the cashflow with the equity at the end of 30 years aren't you still getting a solid return on your initial investment? 

Welcome feedback to my thought process. I'll be looking in the Rochester, NY area as I'm located out in 315 territory (Wayne County) and am in the process of building my team of resources. 

Regards,

Alan

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