Becoming a real estate millionaire is easier than ever. Real estate prices are in the middle of a long-term uptrend, and rents are too. You can potentially secure a fixed-payment loan to buy a property that will rise in value while churning out more cash flow each year.
Of course, you can't just snap your fingers and own profitable real estate. Here are a few tips to become a real estate millionaire over the long term.
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1. Use debt well
This might seem counterintuitive to seasoned stock market investors. We certainly don't recommend trading stocks on margin or racking up loads of credit card debt. So what gives?
The difference is the cost and collateral. Credit card debt is high cost, and that interest quickly compounds against you. Trading stocks on margin can also quickly turn on you. You're required to keep a certain amount of equity in the stock, and if it falls enough, the broker will sell your shares. Even stocks with good long-term potential can be volatile in the short term.
Real estate is stable and cash flow producing. Prices likely won't ever fall enough to cause the lender to call your loan or mortgage, and the rental income can be used to make your loan payments. Even better, the interest on your loan payments can be deducted on your taxes, even though the tenant is effectively making the payment.
Let's say over five to 10 years, you amass $1 million of real estate with 20% down. Over time, as long as you manage the property well and keep it occupied, the tenants will pay off the debt, and you'll become a millionaire with an investment of $200,000. And that doesn't even include the cash flow or tax savings.
2. Make smart tax decisions
The first level of smart tax management is easy: Depreciate everything you can as fast as you can. Keep track of every relevant expense. And hire a good CPA.
The next level is harder, but it could be what separates the future millionaire investors from hobbyists. When you sell a property, use a 1031 exchange to funnel the proceeds directly into a new property -- with no taxes for capital gains or depreciation recapture.
The 1031 exchange rule is similar to an IRA or 401(k) retirement account. It will let you continue to compound your wealth without having to stop and pay 25% or more in taxes.
The catch is that when you finally do sell the property, your cost basis will be so low and the years of depreciation to be recaptured will be so high that you could end up paying taxes on almost the entire sale amount.
The solution to this problem is morbid, but it works. Don't sell the property while you're alive. If you keep trading up for bigger properties and eventually own millions of dollars' worth of real estate with a minuscule cost basis, you will lose far too much money to the IRS by selling.
Instead, take a loan out on the property and distribute the funds to yourself. You can then use the cash while the tenants make the loan payments. When you die and the property is transferred to your heirs, they will be able to step up the cost basis to whatever the current market value of the property is.
But it's close to impossible to do all of this by yourself. Hire a good CPA and lawyer, and let them deal with the details.
3. Stay consistent
Consistency is key in real estate investing. Stick to a profitable niche where you have a circle of competence. Only purchase properties if they have a satisfactory return. Set and keep standards for new tenants. Don't overpay on low-rate debt, and pay down high-rate debt quickly.
A lot of successful real estate investors trip up when they stray from their plan. Investors who have made a ton of money on multifamily decide to buy a medical office. Those who only buy bargains pay up for a fancy new building. And those who aren't used to having a few months of vacancy lower their standards and end up with a bad tenant.
Spend some time creating the best plan that will work for you. Be open to changes if you personally evolve, but otherwise stick to the plan over the long term.
