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Author: SoftSimp Two stars, 250 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 5069  
Subject: Re: A Strategy for Retiring Early Date: 8/8/2003 11:57 AM
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FMO, if it's not too much trouble, could you post the equation that you use to compute return 't' years in the future given the numbers you are using.

I'd be interested in this, too.

Ben,

I'm not FMO, but I may be able to give you a decent "ballparking" tool. On average, taking the typical expenses into account, a property with a 1:100 ratio between purchase price and monthly rental income will break even from the outset (no income, but also no loss). For instance, a property that costs $100,000 should generate about $1,000 per month gross if breaking even is your goal. Typically, your income rises each year because rents increase, but your mortgage remains fixed. So almost any property will give you a positive cashflow sooner or later, even if it starts out negative.

Things like interest rates, downpayment amounts, tax rates, etc. will impact this ratio one way or another, so you will really need to analyze each property individually. This ratio is basically helpful when deciding which properties are worth further study.

Now, not everyone's goal is to make money, or even to break even, in the first few years. In the example that FMO gave where a property will cost $135,000 and earn $600, it's not even close to breaking even - HOWEVER - he figured that his IRR would be 14.75% within 10 years and he's comfortable with that. So it really depends on what your goals are.

For me, the goal is always to AT LEAST break even from the start, and preferably to come out ahead, with a 20% downpayment. The ratio on the property I currently have started out at about .7:1, or 1:1.4, so it was putting a monthly income in my pocket from the start. Based on my initial investment, my before tax ROE was only .02% in the first year, due to my fix up costs (which the income from the property paid for) - but at least it was positive! The second year, my before tax ROE was over 18%. Last year it was about 21%. These figures don't take tax benefits or appreciation into account. Using those would make these figures much higher.

But - I got very lucky in getting the price I got on that house. A typical house like it in the same area would have sold for $85,000-$105,000 at the time. I bought it for $68,500, because I found someone who just wanted to sell it and be done with it, and I was able to show them I was a serious buyer and would be able to close the deal.

If you look at houses just one city over, the typical selling price for a house generating the same gross income was between $140,000 and $175,000. While I couldn't resist looking at those houses (they're newer and "cuter"), I couldn't justify buying one for my purposes. However, if I were buying it as a retirement vehicle and wasn't concerned about coming out of pocket for the first few years, I would consider one of them. And if I intended to live in half the house, they would be my first choice. So it really depends on what your goals are.

We would not be able to afford to buy a house that was costing us money every month, so if they don't at least break even, we can't afford them.

This isn't exactly what you were looking for, but I hope it helps.

SS
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