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Real Estate Loopholes
By Diane Kennedy, C.P.A. and Garrett Sutton, Esq.

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 Real Estate Loopholes

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Real Estate Loopholes
By Diane Kennedy, C.P.A. and Garrett Sutton, Esq.
ISBN: 0446691356
Genre: Business & Money

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Chapter Excerpt from: Real Estate Loopholes , by Diane Kennedy, C.P.A. and Garrett Sutton, Esq.

Chapter 1


Why Invest in Real Estate?


We've all seen the get-rich-quick real estate ads. There is something compelling about the idea of starting with nothing (No money down!), investing just a little time (Work in your spare time!), and getting wealthy (Get rich overnight!). The systems, books, seminars, and infomercials make it seem that all you have to do is buy the right product (the one being sold!) and real estate riches will immediately and effortlessly be yours.

Real Estate Loopholes is not for someone who is looking for a get-rich-quick scheme. It is a book that provides legal and tax knowledge so you pay less tax legally and protect your real estate assets. It is for serious real estate investors who want to understand and apply the loopholes in order to increase their yields with more security. It is written by two Rich Dad's Advisors™ who, although working in their professions as an attorney and a CPA, are building their personal wealth through real estate. These techniques are practiced in their own personal lives as they continue to invest in commercial and residential real estate. Just as with any business venture, the key to finding wealth with real estate investing is through gaining knowledge, developing and following a good plan, and by building a team of advisors and mentors to provide expert guidance.

Why Real Estate Works

Investing in real estate has many lifestyle advantages over other investment strategies. You have more control over the value of your real estate holdings than you do with your shares of stock. You can update your rental property to bring in higher rents, but there's not much you can do with your stock certificates. There is also clearly more freedom involved with just letting your real estate portfolio build than there is with a regular day job or an investment strategy that keeps you glued to your computer monitor.

The benefits that are discussed in this book are primarily the tax and legal loopholes available only for real estate investing. These are the secrets that experienced investors know.

Benefit of Real Estate #1: The Leverage of Good Debt

Picture yourself walking into your local bank, Bank of Your Town, and asking for a loan of $1 million in order to buy an apartment building. You come to the meeting armed with financial projections and pro formas that show income from the apartment building can pay for the debt. With the right financial records as backup, you'll likely get the loan.

Now picture yourself walking into your local bank, Bank of Your Town, and asking for a loan of $1 million to buy stock in their bank. You come to the meeting armed with the financial projections that the bank itself has put out in its prospectus for investors. Not only would you not get a loan, they would likely laugh you out of the bank.

There is an ease with which you can get in the game. In other words, real estate allows you to use good debt (debt that buys assets which in turn bring you cash flow) to build a business and provide passive income. Banks, mortgage companies, insurance companies, and private parties, among others, will finance sound real estate investments run by owners with a track record of sound financial decisions.

What if your past history of financial decisions has been less than stellar? That is another one of the benefits of real estate; there are lots of ways to accomplish the purchase. There are many fine programs available that advise you on how to find seller financing. There are also programs available to help you clean up past credit problems. And, finally, there are always investors available that are interested in the high returns possible in real estate, if they can have a partner they trust who will find the deals and set up the program.

Rich Dad Tip

Good debt is debt that is used to purchase an asset that puts money in your pocket. Bad debt is debt that is used to purchase a toy or doo-dad. A real estate investment makes use of good debt.

Benefit of Real Estate #2: Secret for the Advanced Investor-Using Leverage with Appreciation

One of the biggest advantages of leverage, or good debt, is a trick of leverage that works in your favor. You might have heard the statistics about appreciation in real estate. Consistently, throughout the world, we have seen growth in the value of property. Obviously there are peaks and valleys in the value of real estate, when viewed within the short term and within specific areas. For example, there is a roughly seven-year cycle in the value of real estate in some areas of California. You can see values rise and fall within that cycle. But each cycle raises the value-the highs are higher but the lows are higher as well. In the United States, the overall appreciation for the past thirty-five years has been over 6 percent.

Now here is the real magic. The entire property value rises in value. It's not just the money that you have invested that goes up-it's the bank's portion too.

Rich Dad Tip

Turn $20,000 into Millions with Real Estate!

One of the many benefits of real estate is the ability to leverage-using other people's money. Following is an astounding demonstration of how $20,000 can be turned into over $6 million in twenty years by using this ability to leverage.

Here's one example that demonstrates why real estate is such a good investment. To keep it simple, some basic assumptions have been made. Overall, the assumptions are very conservative based on the real-life experiences of DKA (D. Kennedy & Associates, Certified Public Accountants) clients.

ASSUMPTIONS:

(1) Loan at 90 percent of value of property. NOTE: If you can't find a 90 percent loan (called 90 percent LTV, loan to value), keep looking. A good mortgage broker can find this loan.

(2) Zero effect cash flow with no closing costs. NOTE: Obviously, you will have closing costs. Also, if you've made a good real estate investment, you will also have the positive cash flow return. In order to keep this model simple, we have assumed that the cash flow can cover the cost of the payment, insurance, vacancy, and repairs as well as cover the closing costs.

(3) No negative tax effect. NOTE: There would be a phantom passive loss due to depreciation. This passive loss could reduce your taxes. The benefit from this passive loss has not been included in this example.

(4) The appreciation rate is assumed to be 5 percent per year.

PLAN ONE:

Buy a property for $200,000, with 10 percent down. Assume a loan of 7 percent per annum, fully amortized over thirty years.

At the end of twenty years, the property will have appreciated to $530,660. At the end of twenty years, the loan balance will have decreased to $103,142. Your initial $20,000 investment has become $427,518 (the equity in the property). Not bad! In fact, that's a rate of return of 16.5 percent over twenty years. But you can make much, much more by using the magic of good debt.

PLAN TWO:

Step One

Buy a property for $200,000, with 10 percent down. Assume a loan of 7 percent per annum, fully amortized over thirty years.

Step Two, Five Years Later:

Property #1

Property appreciated value: $255,256

90 percent (available for loan): $229,730

Note balance: $169,437

Cash-out refinance amount: $60,293

Buy a second property for $600,000, with $60,000 down (10 percent down using the $60,000 from your cash-out refinance).


Step Three, Five Years After Step Two:

Property #1 Property #2

Property appreciated value: $325,779 $765,769

90 percent (available for loan): $293,201 $689,192

Note balance: $216,248 $508,310

Cash-out refinance amount: $76,953 $180,882

Buy a third property for $2,570,000 with $257,000 down (total cash-out refinance is $257,835).


Step Four, Five Years After Step Three:

Property #1 Property #2 Property #3

Property appreciated value: $415,786 $977,337 $3,280,044

90 percent (available for loan): $374,207 $879,603 $2,952,039

Note balance: $275,995 $648,748 $2,177,263

Cash-out refinance amount: $98,212 $230,855 $774,776

Buy a fourth property for $11,030,000 with $1,103,000 down (total cash-out refinance is $1,103,843).


Step Five, Five Years After Step Four (Twenty Years After Step One):

Property #1 Property #2 Property #3 Property #4

Property appreciated value: $530,660 $1,247,357 $4,186,259 $14,077,386

Note balance: $352,247 $827,984 $2,778,801 $9,344,443

Equity: $178,413 $419,373 $1,407,458 $4,732,943

The total equity is now an amazing $6,738,187!

Advanced real estate investors use other people's money to grow their wealth. What if you don't have twenty years to wait for your wealth to increase? Or what if you want to start off with more, or less, than $20,000? You can develop your own personal investment plan with the Real Estate Wealth Builder calculator, for free, at www.taxloopholes.com. Please note that the above example used some rounding which will give you a slightly different answer than you would get by running the "Real Estate Wealth Builder" calculator.

Benefit of Real Estate #3: Tax Advantages of Real Estate Another exciting advantage of real estate is the tremendous tax benefits available for the real estate investor. One of the fundamental principles in the United States has always been the advantage of the property owner. When the Constitution was first written, property ownership was the measure of voter eligibility. In other words, only property owners could vote and determine the direction of the country. Half of the measurable wealth of our country was held in property. We were set up over 200 years ago to be a country shaped by real estate owners. That's why there are so many tax loop-holes written in tax law. They support the real estate investor. Congress continues to pay attention to the voting public. The many tax advantages of real estate ownership are more secure than other current tax provisions because Congress recognizes who votes!

Part Two, "Tax Secrets," will explain seven of the top loopholes available only for real estate investors.

How to Have a SUCCESSFUL Real Estate Investment Of course, you want to take advantage of all the tax benefits for your real estate investments. As the value increases for your real estate investment, you will also want to protect that investment. One drawback with real estate is that it is a highly visible asset. There are unscrupulous people who might want to take that valuable property away from you. The ownership of the property also has some risks. We call them tenants. You can protect yourself against these risks. Part Three, "Legal Secrets," discusses how you can legally protect your property.

Excerpted from Real Estate Loopholes , by Diane Kennedy, C.P.A. and Garrett Sutton, Esq. . Copyright (c) 2003 by Diane Kennedy, C.P.A. and Garrett Sutton, Esq. . Reprinted by permission of Little, Brown and Company, New York, NY. All rights reserved.

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