One of the best ways to increase your wealth through real estate: appreciation. While cash flow is the ice cream in your sundae, appreciation can feel like the cherry on top that makes it all worth it.
Appreciation is the increase in value of your property over time. It can occur two ways. The first is through Market Appreciation, and the second is through Forced Appreciation.
Market appreciation occurs when the overall market goes up. You might have experienced this in the past when prices of homes in your neighborhood started increasing and sitting on the market for shorter periods of time when put up for sale. In cash flow producing real estate, most properties experience market appreciation when rental rates and occupancy start going up across the market. Gradually, as rents and occupancy increases, so does the income of the property. When the income goes up, the value of the property can increase exponentially.
Market appreciation tends to occur more on the coasts of the United States where values will rise and fall quickly where as in the Midwest, it’s usually a much more gradual rise and fall. This is where selecting the market and location of your investment is so important. By having the right asset type in the right market, you are more likely to experience market appreciation. However, there can be some big advantages to having a more predictable market, as well, with a slow and steady appreciation.
Forced appreciation can occur by adding amenities, doing capital improvements, or raising rents over time. To force appreciation, it is important to have the right property manager, pick assets with inefficiencies you can fix and in a market that supports it.
If you improve the property just a little bit each year, allowing you to increase rents and in turn increase your NOI. Your value will increase over time. Small changes can make a big difference in income producing properties. In income producing real estate, increasing the income or decreasing expenses by $1 can increase the value by $10 to $14. These small changes can really add up! The better you operate the property, the more money you will earn while you own it and the more it will be worth when you sell it. That is why choosing the right property and the right property management is so important.
Remember, with income producing properties, every dollar you increase the revenue or decrease expenses has a multiplying effect. Raising rents by $10 per month per apartment can increase the value of the property by $1,200 to $1,700 per apartment per year. If you did this each year for 5 years on a 50-unit apartment complex, you would increase the value $300,000 to $400,000. Over time, those small increases can really add up.
Appreciation is one of the biggest and most exciting ways to create wealth in real estate. You don’t have to be a speculator to take advantage of it. Appreciation can occur by the overall market increasing or through the actions of the owner, called forced appreciation. Choosing the right property, property management, and making small improvements over time can have exponential results. Appreciation is the number one way that millionaire real estate investors are made.
“Every person who invests in well-selected real estate in a growing section of a prosperous community adopts the surest and safest method of becoming independent, for real estate is the basis of wealth.”
– Theodore Roosevelt
In this series we’ve learned about two of the most exciting benefits of real estate investing: cash flow and appreciation. The next blog in this series will discuss one of the automatic benefits of real estate investing that most owners forget about. It’s the capital “P” benefit: called Principal Pay Down & Principal Return, but I like to call it the “automatic piggy bank.”
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