How to get rich using property leverage

I started investment since year 2004, but I only invest in stocks, unit trusts and treasury bills. Recently, I found property investment the other good option to make good ROI.

One of the theory that caught my attention is the property leverage. It helps the middle class people to get rich easier.

Let's see how the property leverage can help us grow. Assume we have 400k to invest in real estate now, and there is one good property with good location cost just 400k, how should we invest in it?

There are two options, either we pay a lump sum to sleep peacefully or just pay 20% down payment and get a loan from the bank.

To illustrate the difference, let us do some mathematic exercise:

Assumption:

1. Since the property is in the good location, we estimate that the property price will become double in 10 years, and we will just sell it after 10 years.
2. The renting yield of the property is 6% annually.
3. The mortgage interest rate is 6% annually.
   
4. The property price is 400k.
   

Case 1:

Renting return after 10 years = 400k x 6% x 10 = 240k
Profits after 10 years
= property value - original payment + rental yield
= 800k - 400k +240k = 640k
Annual compound return rate = 9.6%

Case 2:

Renting return after 10 years = 400k x 6% x 10 = 240k
Down payment = 400k x 20% = 80k
Loan amount for 25 years = 400k x 80% = 320k
Profits after 10 years
= property value - original payment + rental yield - total interest paid - loan balance
= 800k - 80k + 240k - 174.5k -254.5k = 531k
Annual compound return rate = 20.5%


As you can see from the calculation above, we can get double compound rate return over the lump sum payment. The most important thing is that you only need to pay 20% of the original property price. Thus the property is more affordable to the middle class.

How smart and rich people can get richer and richer by property leverage? It is very simple. The rich people just need to put the original 400k to 5 same properties and get the loan from the banks. Just see the bank as your shareholder. Then you could get the same 20.5% compound return, and it is five times as shown below:

Compound rate = 20.5%
Payment = 400k
Profit = 5 x 531k = 2,655k


If you look at the profit amount above, it is five times more than the profit without using the property leverage! Thus, we must enforce the property leverage whenever possible to get the best ROI.