3 Principles for Successful Real Estate Investing
In business and in life, we all adhere to certain rules and principles that help us save time, avoid mistakes, and align with our personal or professional standards. In real estate investing, finding a solid deal can feel time-consuming, and mistakes are often costly, so establishing a framework from which to operate is crucial to success.
Without perspective and guiding principles to return to, you’re simply gambling, making it impossible to make smart decisions consistently. Here, I break down my three simple principles for successful real estate investing to help you weather any storm and grow real wealth over time.
1. Buy for cash flow
Cash flow, in simplest terms, is your income minus expenses. Ultimately, it should trump almost every other metric that determines success in real estate investing. Master this, and you’re well on your way.
Appreciation is a Gamble
If you invest only with the hope that the asset will appreciate, you’re merely speculating. If appreciation is your top priority, there are many other avenues that could potentially lead you to better returns than real estate investments. Take Dogecoin, which soared 2400% at one point in 2021. That is certainly more appreciation than any real estate asset has ever seen. But investing in things like cryptocurrency, gold, and certain startups won’t earn you steady cash flow. And that, my friends, is why we buy real estate.
Shield Yourself from Market Downturns
As long as you buy real estate that provides consistent cash flow, you can protect your portfolio when market conditions get volatile. Too many people get distracted over shiny objects—the “next big thing”—in real estate but, at the end of the day, cash flow is king. Stay true to this principle, and you’ll make far fewer mistakes than the hype-obsessed investors around you. And if you do make an investing mistake (which happens!), you can use this income stream to pull yourself back up.
The best thing about cash flow is that it helps your bottom line today, and you can also use it to reinvest in other cash-flowing assets. Let any appreciation be the upside, the cherry on top of an otherwise great investment.
#2. Secure long-term, low-leverage finance
It’s vital that every real estate investor understands leverage, or purchasing assets with debt. Ultimately, you want to secure the longest term on your loan as you can with the lowest leverage. Let’s talk about why.
Low Leverage is 70–80%
If you’re starting to reach 95% leverage or more, you’re likely taking on too much risk. We’re already starting to see loans in the 110% range of leverage, which is a similar tune to what we heard in 2008. I consider low leverage as anything within the range of 70-80%. Again, lower leverage creates a buffer to help you withstand market downturns.
Long-Term Mortgages are an Investor’s Best Friend
It can be reasonably argued that the best tool for building wealth is the 30-year mortgage. (Commercial real estate loans typically top out around 20 years.) But with such a lengthy mortgage term, won’t you be paying more interest over the course of your loan? Absolutely, but from a cash flow perspective, it’s an advantageous trade-off. Additionally, any interest you pay on your mortgage is tax-deductible.
Over a couple of decades, it’s safe to assume that assets will appreciate and rents will increase, but your mortgage payment will stay the same. Long-term loans not only let you pay off debt with deflated dollars, but it also allows you to leverage your cash into other assets to steadily grow your portfolio. As such, leverage can be incredibly powerful when used wisely.
#3. Keep cash in reserves
Not If, But When
Principle #3 is no different from the cardinal rule of personal finance: Keep cash for a rainy day. It’s not a matter of if something will go wrong, it’s when. From emergency repairs to tenants not paying rent and temporary no-eviction laws, having a stash of cash will get through most unforeseen setbacks. While your rainy-day fund won’t earn you great returns, it’s part of the foundation from which you can actually conduct business and grow your wealth.
Save 3-4 Months of Costs
Personally, I reserve 3-4 months’ worth of mortgage payments, taxes, and insurance, plus a few thousand dollars (roughly) for unexpected repairs. Once my reserves grow beyond that, there’s my opportunity to go seek deals where I can reinvest that cash.
Last, But Not Least…
Real estate investing is one of the best ways to get out of the rat race and create generational wealth. Whether you’re just getting your start or want to confidently continue building your portfolio, we hope these principles help you make smarter decisions and sidestep unnecessary risk. If you want to hear more from us, check out our weekly podcast, where we sit down with successful investors to uncover their secrets in the real estate investing space.
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