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October 23, 2013

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Oh heck, with the mainstream financial media, they're just lucky to spell "profit" correctly.

The standard of writing on most blogs (yours included) far exceeds that on most commercial media outlets these days.
Bloggers tend to do research and then write - lazy journos seem to write first then try to find the research that best fits their "opinion"

3 of the top 10 places they list are in Texas. This is not a coincidence. Texas has no income tax. Which is nice if you have high income. However it still has a state and local government so where does it get its money from? One of the places it does this is by having one of the highest property tax rates in the country.

About.com lists them as third highest only barely behind New Jersey and New Hampshire (another no income tax state).

http://taxes.about.com/od/statetaxes/a/property-taxes-best-and-worst-states.htm

So by ignoring expenses they have self selected for areas that have higher expenses than other areas which are made up for either by cheaper purchase prices or higher rents in proportion to those expenses.

As FMF correctly points out this tells you nothing about whether or not something is profitable and worse yet because their methodology has selection bias it could potentially be selecting worse than average investments rather than better than average investments.

It's not just that the percent return is wrong. It is likely that the top 10 would radically change after accounting for expenses.

The article is worse than worthless. It has negative worth, as it could harm you if you were to take the advice seriously.

I am anxious to invest in my first rental property hopefully next year, but I want to make sure that I find the right real estate agent that specializes in investment properties because I don't want to be upside down on my house or mortgage payments.

This is why I follow my own advice and make up my own rules based on “real life” and all “details and facts”. I’d rather and DO get advice from real people rather than just the net or the articles who so very often do not take everything into consideration when writing and/or giving erroneous information and advice.

Hence, why I read FMF daily.

Some of the errors in mainstream financial media really get on my nerves. There is no wonder that the majority don't understand personal finance when misleading media reports highlight "facts" and "figures" to sensationalize their headlines rather than reporting the reality. Grrrrr.

Very true. Simply dividing rent by the cost of a property doesn't tall you much. You really do have to look at expenses.

FMF, Can you show the same example return caculation but with a mortgage? Thanks!

LHR --

You would simply add the monthly mortgage payments as expenses (you would have some upfront loan costs, but they are one-time)and you would divide by the amount of equity you have in the property -- not the total value of the property.

LHR,

FMF, pointed to my article on running the numbers at the bottom of his article. That shows returns with a mortgage (both cash on cash return and ROI). It also shows cap rate which would be the same as your return without a mortgage. So it shows the results on a return that a mortgage will make.

If you want the very short version and don't want to read the article, the results looked like this on that property.

Cap Rate = 9.1% - this would be the profit after all expenses with no mortgage.

Cash on Cash Return = 14.7% - this was the amount of cash returned each year as a percent of original cash investment based on a 75% mortgage.

ROI = 18.4% - this was the actual net profit (including equity pay down) as a percent of original cash invested based on a 75% mortgage.

a 75% mortgage more than doubled the return on this particular property (9.1% -> 18.4%)

You can check out the complete article for real numbers on a real property at the link below:

http://www.freemoneyfinance.com/2012/10/real-estate-101-running-the-numbers.html

Good post for anybody thinking about getting into rentals for the first time. I made this mistake on my first rental. Luckily after 4 years of barely breaking even it had appreciated enough to sell this year. But I didn't want to "get lucky". I wanted a long term cash flow asset.

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