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  • Writer's pictureMichele Correa

What is Leverage in Real Estate Investing?

In one of my previous posts talking about Instant Equity, I mentioned the concept about how in most investment markets, we have no choice but to pay the full market price for whatever it is we’re buying, such as buying an ounce of gold. If gold costs $1900, you will pay $1900. You have to pay the full asking price. It’s not the smartest way to turn a profit on your investment. Wouldn’t it be great if you could find someone else to help you pay for the investment you’re making, while still allowing you to keep 100% of the profit earned?

With real estate, that’s possible. It is the concept called "leverage". Leverage is when you use borrowed capital in order to increase the potential return on investment. In real estate investing, this typically looks like borrowing money from a bank in the form of a mortgage to purchase a property.

For those of you who are familiar with how a mortgage is structured, you may know that banks will typically cover 75-85% of the cost of a property while you make a down payment for the remainder. This limits the amount of money you have to invest in the first place thus increasing your return on that investment. Leverage also allows you to purchase more properties. For example, if you had 100,000 dollars to invest, and a house costs 100,000 dollars, you could buy one and pay cash, or you could leverage the bank's money and buy 4 or 5 properties. This increases your net worth over time as the properties are paid down and with any appreciation that occurs.

Properties can naturally gain value over the course of time. Say you purchase a property valued at 500,000 dollars, and the bank finances 80% of that. You’ve put 100,000 dollars into that property, with the rest covered by the bank. And let’s say that then, the property appreciates by 5%, or 25,000 dollars. It may seem at first glance that you’ve made a 5% profit on that investment, but that’s not actually the case! You get to keep 100% of the appreciated value - AKA, profit! - from that property, but the amount of money you paid remains the same.

With that in mind, you didn’t make 25,000 on a 500,000 dollar investment. You made 25,000 on a 100,000 investment. That is a 25% profit which is a better return than a 5% profit. You can also leverage the equity in your home to purchase real estate, that is another post topic.

You can use leverage to earn a nice profit. By utilizing the resources that banks have to offer, you can maximize your financial gain and make the most of your money. It also shows what a stable investment real estate is when banks will lend you the majority of the money to purchase it. What do you think a bank will say to you if you ask for a 75% loan to purchase the bank's own stock? The answer will not be yes; however, it will be yes if you want to purchase a piece of real estate that checks the right boxes. Take action and use leverage.



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