Real estate investment is a privilege craved by all and earned by a few. Despite the global financial gloom, the real estate market of Singapore has been on a strong run over the past 5 years.
The truth is that property investment is not just a trophy you achieve after years of saving your hard-earned money and happily letting it sit in the dust in your portfolio. Whether you simply plan to be a humble home owner or a real estate tycoon, there needs to be a proactive involvement from your side in assessing the risks, and most importantly, calculating your future returns.
Although there are a number of meticulous solutions available to gauge the value of your real estate investment returns, the Internal Rate of Return (I.R.R) is probably one of the most championed methods of figuring out the cumulative property investment returns over a particular holding period.
One of the common oversights made by rookie property investors is assuming that capital gains are the key indicator for the success of their investment. Capital gains do not factor in a host of complex variables such as taxes, financing and how the loan amortization is carried out.
So How Does IRR Work?
IRR is the magic word that every aspiring property investor should be on the lookout for if they want some real financial foresight into the future profitability of their investments.
The Internal Rate of Return essentially calculates the yield from an initial investment made by you based on the value of dollars today instead of their future value. In order to effectively carry out IRR calculations, it is recommended to keep a calculator handy.
Let us now suppose that there are two Singaporean real estate investors – A & B. Our job is to review their financial data and examine which one of the two will emerge as the smarter investor. In order to zero down on the champion investor, we must assess a specific set of variables involved such as:
Gross dollar profits – Assuming investor A and B have gross dollar profits worth S$280,000 and S$270,000 respectively, the real cash returns of investor B turns out to be twice as much as that of investor A.
Down-payment – Suppose the down-payment is S$104K for B and S$180K for A. Even though investor B’s property down-payment is lower in comparison to A’s, the actual cash returns on investment is double that of A’s.
Rental yield and increments – If investor A’s chosen property happens to be located in a matured estate and investor B has opted for a property in a growing market, the rental yield will obviously be higher for B. Additionally, investor B also stands to gain from better rental increments in the future.
Cash flow – While investor A’s initial cash investment generates null returns for 3 years until property completion, investor B’s cash is consistently generating a healthy stream of income through rentals.
As we can deduct from the above example, a strategy that prioritizes rental income and property value gain in equal measure will most definitely prove to be a winning investment. It is a fantastic low-risk strategy for cash-strapped working class Singaporeans who do not have abundant financial resources at their disposal.
Investor A’s path is derived from speculative investment strategies, which is only a reliable form of investment in a consistently growing economy. It is meant for investors who are merely interested in buying and selling the property without expecting any cash flow from it.
However, it is important to note that investor B’s property choice is not something you run into without putting in an adequate amount of research and risk assessment. Decoding the IRR for your real estate investments is the biggest justice you can do in maintaining the integrity of your investment returns.
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