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How Financial Illiteracy is Holding You Back

Effective real estate investing requires a certain level of financial savvy to get the best return on your investment. Read more to see how self-education can help you stay ahead of the pack in real estate investing.

Refugio Garcia
Refugio Garcia

Financial literacy is important for securing one’s financial future. However, that alone does not guarantee success in real estate investing. They are dependent on each other for financial success.

Home ownership is a direct means of building wealth and in doing so takes a thorough understanding of finance to establish a solid set of behaviors geared for savings and responsible money management.

As the saying goes, being poor is a state of mind. While financial literacy begins at home, not everyone gains exposure to these concepts but it’s never too late to learn.

Having the ability to analyze finance is crucial in avoiding the pitfalls that so many consumers fall victim to. Certain factors such as credit cards and student loans are readily available but can lead to financial hardship when used carelessly.

Having a firm grasp on financial literacy can assist in forming a clear understanding of personal finance, how to plan for the future, and how to achieve one’s financial goals. While such knowledge could be conveyed in high school, or earlier, it seldom is.

Related: BRRRR Method for Real Estate Investing Beginners

Why Real Estate Investing Requires a Financial Education

A successful real estate investor will also network with other more seasoned investors who’ve had some skin in the game for some time. Real estate can be a Pandora's box of laws and loopholes, so it’s good to know an investor who has experienced any one of the situations that a new investor will most likely encounter at some point in time.

For those who wish to invest in residential real estate, the ability to enact sound financial planning is crucial. Understanding the details of purchasing property becomes much easier when some level of financial education is involved.

A homebuyer who understands personal finance should have the financial capability to make an offer on a home and understand the long term financial commitment. Knowing how interest rates affect the monthly mortgage payment as well as the final price once the loan has been repaid is just one of several important factors involved.

While purchasing property can be a major financial leap for many people, becoming a homeowner or property investor isn’t strictly limited to covering the costs of mortgage payments, insurance and property tax.

Property can be leveraged and the portion of the mortgage that’s been paid off can be used in the form of equity and applied to things such as upgrades to the home itself or to invest the funds elsewhere.

Tellus has created a pathway for homeowners to easily access their home equity and receive funds within a fraction of the time that banks require to process a loan application.

Understanding the Power of Equity

Words like “equity” and “mortgage” can sound complex to some but understanding these concepts is fairly simple.  

Let’s say you just bought your home and the mortgage loan is an empty cup. Now let’s say that water represents your monthly loan payment. As you make payments, the cup begins to gradually fill with water. This is your equity, and here’s the good news – you can dip into this equity.

And there’s an entire industry dedicated to home mortgage lending and mortgage investing that’s valued at over $9 trillion dollars in the U.S.

Needless to say, having a firm understanding of finance will help any individual understand the core concepts of owning property including, cash flow, overhead expenses and profit.

The Importance of Managing Liquidity

Once a clear understanding of finance in real estate has been achieved, a property investor should then weigh the risk involved with any particular opportunity. Unlike the stock market, real estate investing functions much differently.

A trader on Wall Street can buy and sell shares of stock at will and can either lose money or make a profit. Owning property involves a longer process and property is not a liquid asset like stocks. Property can’t be cashed out immediately.

Real estate is known as an “illiquid” asset. This typically results in a long term commitment when buying a property outright.

The hope of every real investor is that the property they’ve staked increases in value so that it can eventually be sold at a higher price. But like the stock market, nothing is set in stone.

Both the stock market and the real estate market are subject to unforeseen market fluctuations that can have a tremendous effect on the value of these assets.

Financial Decisions and Measuring Risk

Having a clear understanding of finance and real estate can also influence a homebuyer's ability to assess the risk in purchasing property based on specific locations, taking into account the historical returns reported for that area.  

Certain variables such as the rental market and the fluctuation of housing prices are strong indicators of whether or not the potential return is worth the risk.

There’s also the type of property to consider. Many homebuyers are doing what’s called a “house hack” where they buy a house and sublet the rooms to increase their cash flow. This is often done with a single family home, duplex or even a house with an accessory dwelling unit or “ADU.”

Taking the house hacking route will assist in adding equity much faster and will create the opportunity to make other investments sooner than later.

There are many financial vehicles that allow investors to take advantage of the real estate, and yes, they also come with some level of risk, but opposed to stocks, property investments are often secured by the collateral of the property itself.  

One example of property investing that’s similar to stocks are real estate investment trusts or “REITs.” These trusts own a number of properties that people can invest in and are paid dividends based on the revenue that the properties generate. However, investors have no control over the management of the portfolio and this may not fit the risk profile of certain investors.

However, without possessing the necessary level of financial literacy, such opportunities will never be accessible. The minimum investment for shares of a REIT range between $1,000 and $2,500 and often have a set of criteria that each investor must meet such as earning upwards of $200,000 a year or having $1 million in personal assets.

Obviously, it takes a degree of knowledge and the proper financial decisions to achieve such a financial standing.

Final Word

Having a firm understanding of finance can improve one’s day-to-day quality of life as well as forming a sound investment strategy based on wise financial decisions. While financial literacy can have an immediate impact on a person’s life, it can also have an impact on the future as it can help plan for retirement.  

The bottom line is this: the investor who takes the time to improve their financial literacy will be better prepared for the journey towards financial success.

Related: 7 Ways to Make Cash on the Side

Personal Finance