“How much can I get in cash flow from the equity in my house if I invest in commercial property?”
That's the question that came up recently.
It fits the age-old saying “How long is a piece of string” and it's not far off “what is the sound of one hand clapping”.
But, never afraid of a challenge, I've decided to try and quantify the length of string to help you get a handle on commercial returns.
You might even be able to use that one hand clapping to grasp that handle, unlock your unused equity and open the door to income replacing cash flow.
Good! Let's dive in before I have time to think up more Zen related quips.
I've assumed someone with $300k available equity in their home.
With lending, banks only tend to lend 80% of what's available so that means that this person would actually need a bit more than that to allow a usable $300k.
But you knew that right?
They borrow that equity and use it for a deposit on a $1m commercial property.
The deposit would be less than that but the rest, I'm assuming would be sucked up in purchase costs, legals, valuations and building inspections etc.
So right now we now have two loans.
The first is the equity borrowed from the house… Which would need to be paid back at probably around 4% (based on current loan levels)
The second is the commercial loan for the rest of the deal. Paid back at around 5% (based on current lending trends)
That way we're assuming in this deal 100% finance. Make sense?
If we go regional we could reasonably expect an 8 or 9% net return. Net return means after all property operating costs are paid, like rates, insurance, strata fees.
This might be directly from that deal. It might be that we get something with slightly lower returns but through engaging the available upsides we increase that return to that level.
(If you don't know what an upside is – check out my blog)
So for this deal, we'd be getting around $90,000 returns after all expenses but before loan repayments.
Repayments on all loans would be around 49,500 leaving you $40,000 per year passive income.
Not bad given that as equity it's not really earning you any money.
As a side note if you happened to have. That $300k in cash… You'd improve that income by another $12k bringing up your income from that one deal to around $52,500.
So the quick and dirty back of napkin calculation you can do right now is this:
Take your available equity and multiply it by 13.5%
And you'd approximate the income you'd get if you landed a decent commercial property.
If you've got cash and don't need a loan for the deposit, multiply that number by 17.5% to get the potential income.
***Now – bear in mind that this is a VERY rough figure.***
And this is only the figure you get from day 1… In year two that income figure would increase.
In year 3 it would go up again if your lease it right.
If you had some good hidden upsides you could increase that figure still more!
And every time your income increases so too does the value of the property… Giving you more equity to potentially use to buy your next commercial deal.
The flow on effect is fantastic and can lead to life-changing “lifestyle cash flow”.
The important thing is this though:
Right now if you own a property, and you have owned it for a while, there's a good chance that you have some available equity.
Right now that equity is doing you very little good.
If you've sold an investment property and have the cash – and you're wondering how best to invest it…
Or even for that matter if you have super and you're wondering if using a SMSF is a good way to go…ask your accountant about that.
Commercial as a strategy could create a regular income that keeps landing in your bank account year after year, after year.
Let me ask you right now… If this was you in this situation; if we were talking about you and this was your case study: What would you do with an extra $1000 a week in your back pocket?
I'll bet you could pull out a piece of paper and come up with at least 5 things you could spend that money on every week… Am I right?
Find out more about choosing the right property – see the kind of deals I've been doing (and my students) in the last 24 months on the next training webinar. Register here and I'll see you on the webinar.