Not everybody understands Investing
Subra one does not know whether I will pop off at 45 or like A K Hangal at the age of 98. So in order to live peacefully, I need to create a serious amount of income and wealth. – So said a reader who is about 40 years of age.
He also said ‘the only way I can do that is by leveraging and buying a lot of real estate’.
Ok it goes somewhat like this…Let us say a person earns Rs. 250,000 per month, after expenses, say he has about 150,000 available for paying EMI for a house. It means he can buy a house worth Rs. 1.75 crores – make a Rs. 25,00,000 down payment and borrow Rs. 1.50 crores. He can give the house on rent and earn about Rs. 500,000 as rent (annual).
After 4 years (by which time real estate will double, right) he can sell the house for Rs. 3.5 crores and buy another house for Rs. 6 crores. Rs. 2.5 crores will be a loan and on this he will have to pay Rs. 2.5L per month as an EMI….
After another 4 years….blah blah….
I am sure you are getting the hang.
Will this work? Have people tried this before? What is the risk?
Well it will work for sure. However for this to be a real success you should have a real big PORTFOLIO already so that if something goes wrong, you have a fall back option.
What are the risks:
-to repay the loans the current income has to be enough so that negative leveraging does not affect the lifestyle
-the surplus on a monthly basis should remain constant or keep increasing so that the EMIs can be repaid
– the house has to appreciate by a rate higher than the interest rate for long periods of time.
– the house has to be on rent continuously and there should be no gaps while being on rent
– if the income stops for any reason whatever the landlord should be able to sell at a price high enough so that the loan can be repaid, AND there is a surplus left.
This is a high risk strategy http://www.subramoney.com/2010/03/robert-kiyosaki-understanding-is-an-issue/which does not suit me at my age, net worth, and my love for equity.
Negative Gearing is not something which I like too much, and have benefited being conservative…in the past….
Bhushan
The Biggest assumption that has been proved false in recent times” The real estate will double in 4 to 5 years” In the last 4 years in many pockets of Pune the prices have stagnated and even fallen. So even a stagnation of price for 4-5 years will easily break this strategy and bring that person’s House crumbling down.
And yes looking at the Economy many jobs are on the edge and we dont know when we will be sitting on the bench without a job. That would be a nail in the coffin for this strategy. Too risky in my view
Financial Squirrel
I for one feel more comfortable using equity to build wealth. Maybe after retirement, will look at rent from real estate as an ‘inflation linked annuity’. Though I am just 35 now and a long way away from both being wealthy and retiring.
Ignoring personal preference aside, asset allocation is a must and having all eggs in one basket is not advisable. Hopefully he at least has a life insurance that will cover his liability and have enough left over for living expenses.