Investors Use Leverage In Real Estate
Financing a rental property using a down payment is a strategy real estate investors use to mitigate risk and maximize potential rewards. By spreading investment capital across multiple homes, investors can generate multiple cash flow streams and quickly grow a real estate investment portfolio.
However, there are pros and cons to everything, and leverage is no exception. Let’s discuss how using leverage in real estate can help you build wealth and how to avoid the pitfalls of using too much leverage to buy an investment property.
Key takeaways
- Leverage in real estate combines a down payment with debt to increase returns.
- Conservative use of leverage helps investors to balance risk with potential reward.
- Leverage can be a double-edged sword and work for or against an investor.
- Using too much leverage results in a larger mortgage payment, less favorable loan terms from lenders, and an increased risk of negative cash flow.
What is leverage in real estate?
Leverage is a technique that real estate investors use to increase potential returns and build wealth over the long term. Also known as other people’s money (OPM), real estate leverage involves using debt plus a small amount of equity in the form of a down payment to purchase investment property.
For example, by making a $30,000 or 25% down payment on a $120,000 single-family rental (SFR) home, an investor collects 100% of the rental income and net cash flow, plus any profit from the increase in equity over the long term.
However, the real estate market and rent prices can go down as well as up, just like the stock market. That’s why it’s important to use leverage wisely when growing a real estate portfolio.
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