What Is The Rate of Return On Your Minneapolis Duplex?
If you own your Minneapolis duplex free and clear, is it still a good investment?
It’s likely the cash flow is good, so many of us would likely say yes without thinking twice. Upon closer examination that may not be the case.
One of the greatest powers of real estate investment is the ability to use other people’s money (the bank’s) and a little of your own to buy a large asset like a duplex. When you own the property outright, however, 100% of its current market value, is in reality the amount you have invested in it.
Let’s do easy math. Say your side-by-side duplex is worth $400,000. Each unit gets $1600 a month in rent. That’s $3200 per month, and $38,400 per year and your units are full all the time.
Out of that $38,000, you must pay the following expenses
Trash, water, sewer: $180/month = $2160
Insurance: $2000/year
Property Taxes: $5300
Lawn care/snow removal: $120/month = $1440
Maintenance & Capital Expenditures: $3600/year (you will have to replace a roof/furnace or update a kitchen or bath at some point).
Total Expenses: $14,500
That means in reality, your cash flow is $38,000 – $14,500 = $23,500.
So your annual cash flow is $23,500. Divide that by the value of the duplex ($400,000), and your rate of return is 5.875%.
For comparison, my credit union is currently offering 5.3% on an 11-month certificate of deposit. And I guaranty that CD will never call you about a backed-up toilet.
But are you really earning 5.875% on your money?
Uncle Sam says you still have to pay taxes. Because you’ve owned it so long, odds are you may no longer claim either the mortgage interest deduction or depreciation on your taxes. Now, let’s say your personal income tax rate is 22%. $23,500 x 22% = $5170. $23,500- $5170 = $18,330.
Your annual cash flow, after expenses and taxes, is $18,330. We divide that by the value of $400,000 and get a rate of return of 4.58%.
In this scenario, is your money working as hard for you as it could be?
What are your next steps?
You could always sell. If you did, you either need to do a 1031 exchange to defer capital gains tax and depreciation recapture. Or, you could also pull some equity out of the property and invest in an additional property. This new duplex would provide the benefits of the mortgage interest deduction and a new depreciation schedule to help offset those lost benefits on the first.
If you’d like to learn how your Minneapolis or St Paul duplex is performing for you, give me a call. I’d be happy to help you determine if there’s a way your duplex’s equity can help you earn more.