Getting started with real estate investing is something that anyone can do. Learning some of the lingo can be really helpful before you start to talk with other investors or real estate agents. Once you get comfortable talking about cash on cash return or appreciation, then you can dig deeper and research more complex topics.
Understanding the core principles of real estate investing will enhance your wisdom and decision making process when it comes time to find the right property.
Take a look at the list outlined below – some great terms to get you started on your real estate journey.
Appreciation is an increase in the value of an asset over time. The increase can occur for a number of reasons including increased demand or weakening supply, or as a result of changes in inflation or interest rates. This is the opposite of depreciation, which is a decrease over time.
At its core, depreciation is simple: You figure out how much the property is worth for tax purposes (the property’s basis), how long the IRS says you must depreciate it for (its recovery period), and then you deduct a certain percentage of its basis each year during its recovery period. Rental buildings are depreciated over 27.5 years. The recovery periods for personal property—office furniture and computers, for example—are much shorter, usually five or seven years. This means you’ll get your full depreciation deduction much more quickly. It is to a landlord’s advantage to be able to classify as much rental property as possible as personal property, rather than real property.
You need to keep accurate records for each asset you depreciate showing:
- a description of the asset
- when and how you purchased the property
- the date it was placed in service
- its original cost
- the percentage of time you use it for business
- the amount of depreciation you took for the asset in prior years, if any
- the asset’s depreciable basis
- the depreciation method used
- the length of the depreciation period, and
- the amount of depreciation you deducted for the year.
The capitalization rate is the rate of return on a real estate investment property based on the income that the property is expected to generate. The capitalization rate is used to estimate the investor’s potential return on his or her investment.
Cash-on-cash return is a rate of return often used in real estate transactions that calculates the cash income earned on the cash invested in a property. For example, when an investor purchases a rental property, she might put down only 10% for a cash down payment. Cash-on-cash return measures the annual return the investor made on the property in relation to the down payment only.
- Sales Comparison Approach
- Capital Asset Pricing Model
- Income Approach
- Cost Approach