Appreciation - Real Estate Appreciation
What is appreciation? Why do property values
go up? Appreciation is the increase in value of a property over time due to
inflation, supply and demand, capital improvements and other factors. Most
real estate investors purchase income property for cash flow and capital
appreciation. When weighing the benefits of purchasing a home or renting,
many people opt to buy because they can increase their net worth via
appreciation. The real estate investor should therefore have a good
understanding of the factors that cause real estate to appreciate in value.
Understanding why real estate goes up or down in value can help you make
more profitable investment decisions. Properties appreciate in value for
many reasons. The seasoned real estate investor will look for a combination
of factors that will result in high appreciation growth rates.
Property values appreciate in value over time
due to inflation. Inflation is caused by an increase in the amount of
money in circulation. The value of money declines when the supply of
money increases and the end result is increased retail prices. The cost of
the land, construction materials, labor costs, building permits and fees,
etc. go up over time making it more costly to replace an existing property.
These factors alone do not guarantee that an income property will increase
in value. Factors such as poor upkeep, the general decline of an area,
economic obsolescence, reduced demand, increased crime levels, etc. can
cause properties to decline in value even when replacement costs are
increasing. In summary, personal residences and income property
usually appreciate in value over time due to inflation because the cost to
replace them has increased.
You can increase the value of real estate by
making cost-effective improvements. Improvements such as siding, a new
roof, a new addition, new carpeting, landscaping, paint, etc. can increase
the value of both personal residences and income property. Some
improvements, dollar for dollar, will result in a greater increase in value
than others. You should plan carefully and make improvements that
result in the highest level of appreciation for the dollars that you spend.
Keep in mind that if you make too many costly improvements, you might not
recover those costs when you sell. Small improvements can sometimes
deliver the greatest bang for your bucks.
Supply and demand can cause the value of real
estate to go up or down. Over supply can cause real estate values to
fall and undersupply can cause prices to appreciate. Demand for real
estate can vary greatly in different areas of the country and in different
areas of a city. The demand for real estate is affected by the
availability of jobs, the level of interest rates, availability of land,
proximity to shopping, schools, parks, churches, etc., infrastructure
improvements, population changes, desirability of an area, crime levels,
property tax rates, zoning changes, etc.
Are mortgage rates increasing or decreasing? The general level and
the direction of interest rates can greatly affect the demand for
real estate. As mortgage rates increase, the demand for real estate
decreases and vise versa. Higher interest rates translate into
higher mortgage payments for single-family home-buyers and
inadequate cash flows for income property investors. Falling
mortgage rates result in greater demand for real estate and faster
Over supply of a particular type of income property can result in
high vacancy rates and reduced cash flows making it difficult for
property owners to meet their financial obligations. The end
result is lower prices. Ineffective property management and
poor property upkeep can also result in high vacancy rates.
Correcting managerial problems that improve operational efficiency
and increase the bottom line can have a positive impact on the value
of an income property. Be sure you understand your local real estate
market place before you buy. You can correct a mismanagement
problem, but you have little to no control when an oversupply
Is the job base in your community growing or is it declining? The
availability of high paying jobs can greatly impact appreciation growth
rates. If good job opportunities are available in an area, the demand for
real estate will be high. People will move to the area to take
advantage of job opportunities. The end result will be increasing real
The location of a property can affect how fast it appreciates in
value. Water properties have been increasing in value at a
fast pace. There is a finite amount of water property
available in the United States and demand has been increasing.
More and more people are reaching retirement age fueling the demand
for recreational property.
The proximity to recreation such as golf courses, cultural
facilities, parks, universities and colleges can result in a higher
rate of appreciation.
Low property taxes can increase demand for real estate. Many
areas of the country that have low property taxes are experiencing
high population growth rates and high appreciation rates.
Is the local economy expanding? Changes in the infrastructure
of an area can have a large impact on the demand for property.
Proximity to shopping centers, schools, hospitals, jobs, police and
fire protection, public services, etc in most cases will increase
the demand for real estate. An increase in infrastructure in a
town or city usually translates into more jobs and greater demand
for real estate. The smart investor will take advantage of
Is the population growing in your area? Population increases
usually translate into higher real estate prices. The demand for
real estate in general has been increasing over time due to
population increases. The population of the United States has
been increasing every year. The amount of land is not
increasing and the number of people looking to buy is.
The level of new housing starts is a good indicator of the demand
for single-family homes. If the level of new housing starts in
a particular area of the country is high, home prices will likely be
increasing. To understand the long-term picture, the investor
should determine what is driving the demand and if will it continue.
Note that the level and direction of interest rates have a big
impact on new housing starts.
Economic conversion which results in a change of use for a property
can have a positive or negative impact on the value of real estate.
Several examples of changes in use would include the conversion of
apartments to condominiums, the construction of a restaurant bar in
place of a commercially zoned personal residence and the conversion
of a personal residence to a bed and breakfast.
I have listed a few of the reasons why real
estate appreciates in value. As a real estate investor, you should be
looking for a combination of the above factors that will result in a high
level of future appreciation. Be sure to take advantage of leverage to
compound the affects of appreciation. Leverage is the use of borrowed money
to increase real estate profits. You can compound your real estate gains by
using leverage effectively. For example, you put $40,000 down on a $200,000
income property. It goes up 10% in value in one year. You have a gain of
$20,000 and a before tax profit of 50% on your initial investment amount of
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