(This topic is big, so I’ve decided to break it up into two parts – part one this week, and part two next week).
In Bulletproof Investing I dedicate the second part of the book to what I call the Bulletproof Approach, which is aimed at building wealth.
Chapters 12 to 15 provide a template for turning an investment of between $80,000 and $120,000 into a net wealth of between $4,140,000 and $4,560,000 over a 20-year period (the amounts differ based on whether you choose to put down a 10 per cent or 20 per cent deposit).
This is what it looks like in year 20 based on a theoretical example of someone who buys four properties over an eight-year period and holds them for twenty years from the date of buying the first one:
But what then?
A fair question: with all the wealth tied up in assets, how do we go about enjoying the fruits of our labour?
This is often referred to as the exit strategy; figuring out a way to go from wealth on paper to income for living.
There are two common ways to go about sampling the fruits of our labour. They are to consolidate, or to switch from growth assets to income assets. But first it’s important to recognise one very important thing.
Rents increase over time too
The majority of people asking the question of what next are focussed on converting their paper wealth into an income.
Let’s say you want a cash flow of $80,000 per annum.
The first question to ask is: how much income do the properties pay you today?
For the purpose of this exercise, I will use the same example as above from Bulletproof Investing.
In the past 20 years, the average rate of annual inflation was 2.5 per cent.
Rents typically increase at a rate of 2 per cent above inflation (they’re actually increasing 3.4 per cent above inflation today).
Using a growth rate in rents of 4.5 per cent per annum, a property bought for $500,000 and renting for $450 per week in year one will, in 20 years’ time, rent for $1,039 per week.
This is what your situation would look like by year 20 across all four properties:
Because properties 2, 3 and 4 were purchased in years 4, 8 and 8 respectively, their rents are a little lower because they haven’t had as much time to grow and increase.
As you can see, the four properties go from providing $1,800 per week at their original rents, to $3,475 per week in today’s terms.
That works out to be a touch over $180,000 per year.
But you don’t receive all of that in your pocket of course – there’s agent fees, maintenance, insurances and all the other costs of holding the property.
You would typically expect to pay 25% of total rent towards those holding costs. In this example, you still end up with $135,521 per annum:
Let’s now assume that you haven’t paid any of the debt back that you used to buy the properties (i.e. you’ve paid off interest only).
The average variable rate on investor home loans today is 3 per cent, however, let’s conservatively use 4 per cent:
As you can see, the properties pay you $57,121 per annum in cash flow or income.
If you’re wanting to get $80,000 per annum as fruits for your labour, you’d only need an additional $22,879 per annum.
There’s two ways to do that – consolidation and growth to income conversion – both of which will be covered in part two next week, so stay tuned
