In my last post I explained the primary reasons as to why you should consider buying investment properties. You can create long term wealth, set yourself up for financial freedom and take full responsibility for a self-funded retirement by creating a Passive Income.
In this post I am going to outline how a portfolio of properties could achieve this, but first lets reiterate what financial freedom is:
Financial freedom is achieved when your Passive Income is greater than all your expenses after tax.
Everyone has a different personal situation and future goals. You should work out what level of Passive Income you would like to achieve to meet your future goals. You might want a modest Passive Income that just supplements your regular income or you may aspire to replace your entire salary.
Passive Income Strategies
I am going to outline three different strategies available to produce a Passive Income from property investing. The first is when you have a high positive cash flow across your portfolio. This is where the rent you receive is much greater than all your property expenses. The difference between the two is net Passive Income.
The second strategy is to sell all your investment properties at some point in the future and pay off any remaining debt. You can then invest the proceeds into an interest bearing account. The regular interest you receive then becomes your Passive Income.
The third strategy might be a combination of both. You could sell a portion of your investment portfolio and use the proceeds to reduce the debt on the remaining properties. This would then give you a much greater positive cash flow than you previously had. You continue to receive a Passive Income from your remaining properties and they continue to grow in value.
The strategy you go for now might change over time but what’s important is setting a target that you can aim for. The easiest goal to set now is a net worth figure that you would like to achieve at some point in the future. You can use the second strategy of selling down your portfolio to estimate a future net worth and therefore a Passive Income.
Future Net Worth
Today the average salary in Australia is about $80,000, but considering inflation we will use a Passive Income target of $100,000. To achieve this you would need a net worth of around $2 million after selling all your properties and investing the proceeds into a cash investment paying 5% interest. This might sound like a high net worth now, but we know from using the power of leverage and compound growth that over at least a 15 year period this can be achievable.
Despite what some property spruikers out there might tell you, investing in property is not a get rich quick scheme. If you set aspirational goals, formulate a plan and carry out your strategy over the long term you can build substantial wealth from property.
The table below shows an example portfolio where a $400,000 investment property is purchased each year for five years and allowed to grow over the long term. You can see the capital growth increasing on average each year whilst the total debt remains the same after the fifth property purchase. This results in a net worth position of $2 milllion after 15 years which could equate to a Passive Income of $100,000.
|Total Assets||Total Debt||Equity||Growth @ 5%|
Again, I have used a conservative capital growth rate of 5% and assumed that none of the investment debt has been reduced over the 15 year period. In reality, once you have eliminated all personal non deductible debt, you can start to reduce your investment debt. If you have a positive cash flow portfolio this can speed up the rate at which you can reduce your loans too. Therefore your net worth position could be much higher in 15 years or a target Passive Income of $100,000 could be achievable with a smaller portfolio.
A Passive Income of $100,000 is an aspirational number and buying five $400,000 properties in five years is a big target. Not everyone will be in a position to undertake this, but what is important is setting a target that is realistic to you. If you were able to achieve a Passive Income of $50,000 in 15 years this would still make a huge difference to your financial wellbeing.