Investing in real estate, stocks and funds is where your financial freedom plan really hits its straps. You’ve saved your hard earned cash, learned about investing and now, you’re ready to act!
It’s exciting but it can also be overwhelming. But don’t worry, we’ve got your covered when it comes to the cornerstone, tried and testing investments of traditional financial independence strategies. Let’s get into how to invest your money like a mogul…
Real estate investing for financial freedom
- The best advice you’ll ever get on investing in apartmentsInvesting in apartments to live off the rental income. It can be done! Here’s exactly how…
- We bought a new home with cash!Our big news this month? We bought a new home with cash! Our housing costs are how much a year?? Check out our July 2021 Assets, Income and Savings update!
- How to make passive income from property, double your money & pocket a 15% annual returnHow do you make passive income from property? How we turned $60,000 into a $9,360/y income AND doubled our money in just 12 months as first time investors.
- How to buy the right dual income propertyDual income property can supercharge your financial freedom. Find out how to buy the right property to build capital, cashflow and wealth.
- The wealth building potential of dual income propertyOur newest FI series for financial freedom seekers is all about the wealth building potential of dual income property. How to value hack your way to financial freedom!
- 5 steps before selling your house privately for big dollarsTop 5 steps you must take before selling your house privately for big dollars. Have you got what it takes?
- Can you still make Airbnb profit in 2021? Know before you listIs Airbnb profitable in 2021? 3 things you must know before listing your property on Airbnb? How you can make money with Airbnb.
- Is a Robinhood custodial account the best way to secure your child’s future?
- Stake app brings you cheap and easy access to Wall Street and its about time
More on traditional investing…
Traditional financial freedom blogs often talk about five things when it comes to investing:
- Real estate
- How to manufacture value
- Buy renovate and sell
- Buy renovate and hold
- Dual income property strategies
- How to manufacture value
- Index funds and ETFs
- Retirements funds like superannuation (Australia), $401k or Roth IRA.
Lets look in a bit more detail…
Investing in real estate
When we talk about investing in real estate, where talking about using good debt strategies and other people’s money. Because of the cost and relatively stable nature of real estate investing it is more suited taking on some amount of debt.
We use good debt strategies combined with value creation strategies to build wealth from real estate.
So, let’s talk about these, and how each can help you on your financial freedom journey.
And don’t forget to check out our real estate investing articles down below!
How to manufacture value with real estate investing
Buy, renovate and sell (flip)
This is exactly as it sounds – you buy a property that is undervalued compared to other like properties in the area because it needs some work done. You carry out a renovation, and then you sell the property hopefully for a profit. It’s also called ‘flipping’ and there are tonnes of TV shows on your local lifestyle channel that make it look like easy money.
There are traps for the uninitiated that can leave you worse off with this strategy, so read on financial freedom seekers!
With a property flip, you can either renovate cosmetically or structurally. A cosmetic renovation may seem like the lower risk strategy, but you have to consider transaction costs of buying and selling property.
A cosmetic renovation is when you’re looking at opportunities to add significant value for not a lot of dollars. Finding a house with a good bathroom and kitchen is important because these rooms sell houses and can also cost a lot to renovate. Some of the best value adds are new paint, floors, window furnishings and landscaping. Non-structural wall changes (stud walls not load bearing walls) can also pay off well. Use this method to create open planned living or an extra room within the existing building footprint.
Transaction costs of flipping real estate
One thing about this strategy is that transaction costs are very high. Stamp duty (in Australia) in particular can wipe out a significant portion of your projected profits. Make sure you do your numbers carefully.
In Australia, you also pay high levels of capital gains tax on the sale of the property if you flip it in under 12 months.
Because of the transaction costs involved, this is a strategy that works best in a sellers market. A sellers market is where there are more buyers than sellers in the market.
The high capital gains costs on property in Australia is also a reason this strategy is used for owner occupied homes over investment properties. The approach is to buy and renovate while you live in the property for more than 12 months. You are still subject to stamp duty, but selling your own home is free from capital gains tax in Australia.
If you can bear a live-in reno, this can be an effective wealth building strategy. You are exposed to movement in the property market the longer you live in the property, which is something to think about.
Your aim is to rinse and repeat with this strategy but be aware, if the tax office thinks you are carrying on a profit-making business doing this then they’ll find a way to tax you.
Buy renovate and hold
This is the same as the strategy above, but instead of selling the property after you renovate, you rent it out and have it revalued by the bank.
The idea is that the renovation will have lifted the property value (by an amount significantly greater than the renovation cost). Doing so leaves you with some equity. You then draw on that equity for your next property investment.
Property education ‘guru’s’ love to spruik this strategy along with promises of ‘10 properties in 10 years’ or ‘10 properties to financial freedom’.
There are two things you need to balance to keep this strategy alive over multiple property purchases however – capital growth and cashflow.
Capital growth vs cashflow strategies
You need capital growth to draw out equity for future property investments. You also need cashflow for the banks to keep giving you loan after loan.
Capital growth can be manufactured with a smart renovation but getting cashflow with capital growth is where plans can come unstuck!
One approach if you want to build wealth with a large property portfolio is to alternate your purchases between capital growth and cashflow properties. The traditional thinking here is that city markets are generally capital growth and regional markets are cashflow.
We used this strategy to fund our four investment properties and there are a couple of showstoppers to know upfront.
Know what part of the market cycle are you investing in
Firstly, the longevity of this approach is strongly dependent on the direction of the market. Makes sense right as you need the capital growth to draw down equity. Long term growth rates in the area you invest in will impact how far and fast you go with your multi property portfolio.
This article from long time Aussie property investor Michael Yardney presents data on capital growth rates in Australian cities over the past 25 years. Annual growth has ranged between 5.9% and 8.1% across different cities. But the thing is growth comes in cycles with a few years of boom growth and then a period of flatline or dropping values. The timing of purchase within these cycles will significantly impact how fast and far you go building your property empire.
If you want a high-level indication of where a particular locale sits in its growth cycle, start here with the Herron Todd White national property clock in their free monthly residential property report.
Secondly, your wealth building progress is also beholden to bank lending rules. In particular:
- the rules that govern what kind of deposit you need to buy a property and
- the loan servicing requirements you will have to meet.
In Australia these rules are also cyclical and go through both tightening and loosening periods depending on the state of the economy and politics. This kind of regulatory risk is difficult to manage. It can also put a complete halt to any drawing of equity to fund future investments – it did for us!
Dual income property strategies
The dual income property strategy is where you buy multiple semi-detached properties – like a duplex or a triplex. This type of property provides multiple income streams.
Dual income property is a strategy to cashflow your property investment so that your borrowing and holding costs are fully covered by rent. The holy grail of dual income properties is an immediate cash flow positive property. By ‘immediate’ we mean that as soon as you buy, your rent is enough to have money left in your pocket after costs at the end of each month.
Investors using this strategy aim for at least a cash flow neutral outcome where you have zero holding costs and leveraged exposure to the property value increasing over time.
There are a few tangents on the dual income property strategy that you can use to either super charge your wealth building or reduce your living costs.
House hacking with dual income property
The first spin-off of the dual income property strategy is to live in one of the properties and rent out the other.
This allows you to house hack your way to free accommodation IF the rent pays your mortgage and other holding costs. At the very least, it’s a cheaper form of housing for singles and couples. It’s a difficult strategy for families due to the smaller or higher density housing that is duplex or triplex living.
Rent hacking with dual income property
This is another twist on the dual income property strategy. In this strategy, you look for a ‘fixer upper’ dual income property. Ideally, you are looking for cosmetic renovation opportunities, not structural renovations. The strategy involves 4 steps:
- Buying a dated dual income property,
- Doing some cosmetic renovations – in Australia, the timing of these renovations will impact your tax offsets like depreciation and overall tax outcome so talk to your accountant before you plan the renovation out.
- Renting the properties out for higher rent to improve your cashflow position, and
- Having the property revalued and taking out any manufactured equity.
You will need to have sufficient initial investment to cover the deposit, buying costs and some funds set aside to renovate each of the properties.
We took the rent hacking with dual income property to another level in 2019.
When we talk about dividend investing, index funds ETFs and stocks below we are referring to investing your own money. If you’re into margin lending for these types of products, then all power to you but we are not and so won’t talk about that here. 🙂
Dividend investing is buying shares in companies that pay a regular dividend, holding those shares and living off the dividend payments. A dividend is just a payout of a portion of a company’s profit to eligible stock holders.
Yields are typically anywhere from 3 – 8%
Becoming financially independent with this ROI is not a beginner strategy. You have to have a few hundred thousand behind you in order to be able to live off the income. This also means it’s a very long term strategy.
If you’re starting small, you need to be invested for decades to see the results. Patience is king with dividend investing, although it’s not a set and forget strategy. You need to keep an eye on company announcements, earnings and the long term price trend to make sure you don’t lose your capital.
This is why dividend investors typically target blue chip stocks (to reduce their capital risk) with a dividend yield of 5% and above.
Is 5% return enough?
Dividend investing is what we would call a traditional FI strategy because the rate of return and the new rules of money. Let me explain….
Once upon a time, 5% may have been sufficient to keep you in front of the cost of living. In the new money game, a dividend investing strategy may no longer leave you ahead. With money printing, fiat currency debasement, and the spectre of inflation – 5% may not be enough.
You’re aiming for a rate of return, including stock price capital growth, that outperforms inflation, currency debasement rates and other income producing assets.
The other thing to know is that dividend payments are discretionary. This means they are subject to macroeconomic risks as well as company risks (that the board decides not to pay a dividend). It’s important to think about this in the context of lock downs and impacts on company bottom lines. Dividends took a massive hit in 2020 as companies tightened their belt buckles and profits tanked.
While dividends are forecast to return in 2021, we’re still seeing the false effects of free money flowing through the economy.
Index funds and …
Index funds and ETFs (or exchange traded funds) seem to be the primary investment of choice investment instruments for financial independence bloggers. Both are just funds you buy into that aim to track the performance of a particular index, such as the S&P 500 or Dow Jones Industrial. You buy units in an Index Fund whereas ETFs trade like a stock with a given price.
The benefits of these instruments are perceived to be simplicity and diversification. You get exposure across an entire class of stocks and this diversifies your risk over putting all of your money in one stock.
For financial freedom seekers, these kinds of fund are good way to get broad exposure to international markets (if that’s what you want) if you don’t have particular commercial skills or knowledge to invest in stocks.
Index fund and ETF providers include the likes of Vanguard, Fidelity and iShares.
Index funds vs ETFs – what’s the difference?
Index funds typically are not closely manage. They are left to track the ups and downs of the index they mirror.
EFTs are probably the more favoured option in the FIRE community. They often have lower fees as you don’t need a broker. It’s easy to sign up directly on the Vanguard and Fidelity websites. ETFs also have a clear stock price, so you know what price you’re buying and selling at. This is different from the unit price and ‘buy and sell spreads’ you have to work through with index funds.
ETFs are also more liquid. They trade all day like stocks. Index funds are settled once a day on the close of trading and it takes more time to get your money out.
At the time of writing, marijuana and energy were among the best performing ETFs of 2021.
Be careful tho if you’re thinking of investing in gold or silver backed ETFs. Have a read of this article before you buy in.
Investing in stocks is pretty ‘stock standard’ – most people know what it’s about so we won’t going into that here.
Stock investing fits into the long-term wealth building aims of financial freedom if you look at the performance of the stock market over decades and your strategy is to buy quality companies and hold over the longer term.
Investment powerhouse Goldman Sachs says the S&P 500 returned 13.5% annually over the last 10 years, which probably outperformed residential real estate in many locations. However, Goldman also says that these returns are set to halve over the coming decade with a bunch of uncertainty lingering post pandemic.
Over the past 140 years US stocks average 10 year returns of just over 9%.
Stocks vs Index funds & ETFs
Individual stock investing is riskier than ETF and index fund investing because you kinda need to know what you’re doing. This would explain why ETFs in particular have exploded in the last decade among mom and dad investors. They offer low fees, and are pretty much set and forget. All you have to do is pick the right index or sector.
If you’re thinking of short term trading your way to financial freedom, that’s a different strategy and well, good luck to you! We’re not going to be much help I’m afraid…
Financial freedom seekers should be across a major shift in stock investing that has occurred in the last few years. Apps like Robinhood and Webull have sought to ‘democratise’ stock investing by removing some of the high cost investment barriers of larger stockbroking houses that can charge $30 per trade, making micro trades uneconomic.
If you do end up going down the stock investing path, there are options now for zero commission investing on the go – good news for financial freedom seekers.