Bill buys a rental house for $100,000 cash.
Peter also has $100,000 but and wants to invest on the same street. But rather than buying one house, he buys 4, $100,000 houses with $25,000 down on each and takes out loans to cover the rest of the cost.
Over the next few years Bill enjoys nice rental cash flow from his one house and averages $800 net income each month.
Peter on the other hand has to pay mortgage interest, and his 4 houses only net $200 each, worse, most of that income gets sucked into paying towards the principal of the loan as required by the bank, so Peter has almost zero cashflow.
Bill enjoys an easy life and always has plenty of cash.
Peter needs to keep his full time job and has a struggle keeping up with expenses, especially when things break or there is a vacancy.
10 years go by.
Bill has netted $96,000 in rental income.
Peter has only netted $24,000* (see EDIT2)
Bill is feeling pretty good, and Peter is worn out.
But all the houses have doubled in value and both investors decide its time to sell.
Bill sells his one house for $200,000 and nets $100,000, so his total gain was $196,000, not bad. His $100,000 investment has nearly tripled!
Peter sells his 4 rentals for $200,000 each netting $100,000 each for a gain of $400,000, so his total gain is $424,000*, so his investment has more than quadrupled!
So who won?
The more you leverage a house, the harder things are going to be for you while you own that house, but if you do it right, you will also enjoy stronger growth in the end.
If both investors wanted to buy again under their same strategies, Bill now has buying power to buy maybe 2 houses at best (everything cost double now) while Peter could buy 8.
(Disclaimers; This was a fictitious example, which was intended to demonstrate the effect of leverage. It ignored sales cost, and tax benefits of having mortgage debt. It also ignored investing potential Peter could have with his extra cashflow) * and assumes that houses will double in value in 10 years which is optimistic (thank you for your comments)
Here is my real example;
This represents rental number 7. I’ve bought 14, but sold half of them. Without the power of leverage, I would have never been able to get even one.
Right now, I’m geared like Peter. Cash flow is not that great, but the growth is phenomenal. Every several years I can refinance one of these and use it as a down payment on another, or if the property is not renting well, can sell it and replace it with two others that are.
One day I will want to be geared more like Bill. when that day comes, I will sell off the worst performers and pay off the best performers. The cashflow from even 5 of these that are free and clear would support a pretty nice retirement.
But for now, I’m still happy working, and still happy growing, so for now, I will be like Peter.
Please upvote me if this was helpful. Thank you!