Residential real estate has been the source of millions of dollars in wealth for some of the world's wealthiest people. You may have wondered just how to create wealth by investing in real estate.
The biggest factor that real estate investors can use to accelerate the growth of their wealth is leverage. Leverage is the use of borrowed money -- usually mortgage debt when referring to real estate -- to increase the potential return of an investment.
And leverage, when used wisely to purchase income-producing real estate, is a very powerful tool. It can translate into some pretty impressive returns and literally multiply your wealth over time. It's not uncommon for an investment property purchased with 20%-25% down to deliver annualized returns of 15% or more. Let’s take a look at an example of how this works to give you an idea of the power of building wealth through real estate.
Building wealth by the numbers
Let's say you buy a residential rental property worth $100,000 with a down payment of $20,000 (20%) and take out a mortgage of $80,000. With fees and closing costs, your cash outlay the first year might be $25,700.
You are now controlling -- and benefiting from the income produced by -- an asset worth $100,000 by investing just $25,700. Let's say that you can rent this property out for $1,350 a month. Assuming expenses of $11,000 a year, the property produces a cash flow of $5,200 annually. That's an annual return of over 20% on your initial investment of $25,700. While not guaranteed, rates of return at this level aren’t uncommon.