The Ultimate Leverage Plan
In the accompanying articles I have related to my readers the very successful business strategy I have utilized for using rental real estate as a vehicle to accumulate net worth. Imagine this plan as a table supported by four legs. The understanding of these basic concepts is the key to amassing significant financial wealth with minimal risk. The first of these concepts was founded on the impact of inflation on real estate investment. The second was based on the fundamental principal of using net rate of return to establish the value of an investment. The third fundamental is the use of other people’s money to enhance your of rate return. In this article I will give you the fourth key concept. How would you like to leverage something that you don’t even own yet? Does that sound too good to be true? Here’s how!
This concept is based on property development. Therefore it utilizes some classic real estate principals such as “highest and best use” and “change the use change the value”.
However what is most interesting about this concept is that it is a vehicle to finance something that you don’t own yet. Yes, you do have to have something to start with- but you could never have purchased the end product with the money that you started with as a down payment.
Here is the rough outline: You purchase the land preferably for cash. That, together with the soft cost (i.e. building plans, etc.) is your down payment on the project. You have an appraiser prepare a future value appraisal of what the project would be worth completed and leased. Ideally, you would have a tenant lined up. Based on the future value, you arrange a “take out mortgage” that will finance the project once the tenants move in. Based on the take out mortgage, you arrange “construction financing” that will fund the project as the construction costs are put in place.
Essentially, what is happening is that the enhancement in the value that is created in the development process is accruing to you as part of your equity in the deal. At the end of the day, you end up with a much more substantial investment than you could have acquired on a straight purchase basis. One that will continue to grow as the rate of return grows and the impact of inflation has its sway.
As this is probably the most complex of the concepts let me add a few codicils. It is assumed that the project makes economic sense. Time and timing are paramount, as there is no cash flow until the lease up us in place. I welcome your questions and or comments.