Day 2 of the GRI Course 3 in Green Bay, WI. A lot of good stuff to digest.
First we discussed the benefits of using one’s retirement account to invest in real estate. If you sell your investment property, unless you do a delayed exchange (one type of a 1031 exchange), your gain on the sale is taxable. If your retirement account owns the property and does the same sale, you realize tax benefits that carry forward -- and you are on the way to wealth building through investment. A fair number of rules are involved, so good tax advice is important.
Next followed a discussion on analyzing the investment value of a rental property or business. As methods of analysis, we considered the gross multiplier formula, the capitalization rate, and the cash on cash ratio. One use for the capitalization rate -- if the cap rate is less than the interest rate on your loan, then you have a problem -- you are (or would be, if you don’t figure this before purchase) negatively leveraged.
Now a story problem. Let’s say you are interested in purchasing an investment property -- say a strip mall -- and want to know how much you can afford to pay for such an investment property if you have these investment requirements:
Must have a net operating income of $50,000
A cash on cash return of 10% (the ratio of cash flow before tax (CFBT) to cash invested, i.e., the down payment.)
Will finance 75% of the purchase
The available financing for this purchase is at 10% amortized over 15 years.
The question is : How much could you afford to pay to meet the investment requirements? Our instructor says not one in one thousand real estate agents could solve the problem, but I can tell you that the answer is $410,797. If you paid more than that for the strip mall, you would not meet your investment goals. Any analysis is only as good as the quality of the data used, or the assumptions made, but the numbers don’t lie.
We ended the day with an exam, but before that we discussed the tax benefits of doing a like kind exchange when selling an investment property. Again, the idea is to carry your gain forward to defer taxes, and put those tax savings to work for you.
Tomorrow we are changing directions. We are starting on the Council of Residential Specialists (CRS) Course 202: Effective Buyer Sales Strategies.