When I was younger, I had a dream to replace my earned income with passive income (also known as investment income). Years later, my wife and I were in Paris, doing the tourist gig. The Eiffel Tower lit up at night is a stunning site. Every night, Becky and I would dance to the music of a merry-go-round on the banks of the Seine River beneath the lights of the Eiffel tower. It was breathtaking.
On the third night, when we returned to our hotel, I began to write in my journal different ways that I could become financially independent. I wanted to be able to capture life’s beauty like this more often. I listed several, but one scheme particularly stood out.
In my journal I wrote this: 30 houses x $300 dollars a month positive cash flow after PITIM is $108,000 annually. (PITIM stands for principal, interests, taxes, insurance and management.) As I reflected on the possibility of this, a thought came to me so strongly it was as if someone spoke it aloud. “And yeah. It will all be tax free.“
There is a tax benefit in real estate investing called depreciation. The IRS allows for the property minus the value of land under it to be depreciated at approximately 1/27th per year. That means if a property minus its land value has a cost basis of $100,000, then $3,704 (or $100,000 divided by 27) is considered a loss. This is true even though in reality the property is appreciating every year.
The positive cash flow of $300 per month per house equals $3,600 annually. The positive cash flow is “sheltered” by the “phantom loss” ($3,704-$3,600) so that no net income is booked even though you are putting $3600 per house in your bank account. You get to spend the money tax free. Let me repeat that: You get to spend the money free of taxes.
Here is a hypothetical example of how this could work:
- Acquire 30 Single-Family Homes
- Total Investment of $100,000 Per House
- Cash Flow is $300 Per House After PITIM
- Depreciation “Shelters” the Positive Cash Flow Making it Tax Free
- 30 Times $300 is $9,000 Per Month or $108,000 Annually
That small chicken scratch in my journal years ago turned into a wonderful life for Becky and I. I hope this helps you as well! If you’re interested in real estate investing and want some free videos and content on how to go about it properly, just put your email in the list below and I’ll send some content your way!
Have any questions about this method? Let me know in the comment section!
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Disclaimer: This is for illustration purposes only as to what can be accomplished in real estate investing. For neophyte investors please know that vacancy and repairs can affect cash flow. Also a “1031 exchange” would need to be used if these properties were sold.