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## More Windfall Choices

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**THE SCENARIO**
Last time, we looked at a choice between investing in the S&P 500 versus buying a rental house after receiving a windfall of $200,000. I've gotten feedback that the results were surprising, as lots of people favor rental real estate over stock market investing. I understand that feedback, but if we look at *why* the results came out that way, it's easy to see that we didn't do a great job buying a good rental house - there are certainly far better options out there. So let's look at the same scenario again, and this time we'll be a bit more judicious with the property we buy.
Instead of buying one $200,000 rental house free-and-clear which only nets $400 per month in rent (which is quite a low amount for a free-and-clear house in that price range), let's think about using *leverage* to get more out of our windfall by buying multiple different properties, and using bank financing to purchase them.
Banks often like to see at least a 20% down payment when financing rental property, and we'll make them even more comfortable with 25% down on each of 4 properties. Each of these properties will be the same: $200,000 cost with 25% down, gross rent of $2,000 per month and 45% net expenses before debt service. We'll use the combined net rents from all four of these houses to buy S&P 500 index funds, just like we did in last week's post. The index funds will appreciate at 7.5% per year.
We'll get the same kind of loan for all four of these houses: 25-year fully amortizing loans at 6.125%.
The houses, like the one in last week's post, will appreciate at a 3% annual rate.
**The question:** If I sell everything at the end and combine the money, how much will I have in 25 years?

**THE SOLUTION**
This one has several parts:
**Step 1: Find net rent**
Each house has gross rent of $2,000 per month, and 45% of that goes to expenses. That leaves me with 55% of $2,000, which is $2,000 x 55% = **$1,100**.
**Step 2: Find loan payments**
Each house is worth $200,000, and I'm putting down 25%. This means that I'm borrowing the other 75%, or $200,000 x 75% = $150,000.
N: 300 (The loans are 25-year loans, which is 25 x 12 = 300 months)
I/YR: 6.125 (The loans have an interest rate of 6.125%)
PV: 150,000 (The initial balance on each loan is $150,000)
PMT: (This is what I'm trying to find)
FV: 0 (The loans amortize fully)
**Step 3: Find monthly stock investment**
Each house makes $1,100 before making the loan payment, which is $977.95. This leaves $1,100 - $977.95 per house, per month left over to buy stocks with. $1,100 - $977.95 = $122.05.
Since there are four houses, the total I'm putting into the S&P each month is $122.05 x 4 = **$488.20**.
**Step 4: Portfolio value**
N: 300 (I'm investing in the S&P 500 for 25 years, which is 25 x 12 = 300 months)
I/YR: 7.5 (The index is assumed to increase in value by 7.5% per year)
PV: 0 (When I start, I don't have any money in it)
PMT: -488.20 (Each month, I invest $488.20)
FV: (This is what I'm trying to find)
**Step 5: Total house value**
N: 300 (The houses appreciate for 25 years, which is 25 x 12 = 300 months)
I/YR: 3 (The houses appreciate 3% per year)
PV: 200,000 (At the beginning, each house is worth $200,000)
PMT: 0 (No money flows in or out of the value of the houses each month)
FV: (This is what I'm trying to find)
After 25 years, each house is worth $423,003.91. Since the loans are fully amortizing and have terms of 25 years, they're completely paid off at this point.
**Step 6: Overall total value**
After 25 years, the stock portfolio is worth $428,292.98 and the houses are worth $1,692,015.65, for a total of $428,292.98 + $1,692,015.65 = **$2,120,308.63**.
As we found in last week's post, the total value of the windfall when invested solely in the S&P 500 for 25 years was $1,296,576.09.
Using the blended approach *with leverage* nets us $2,120,308.63 - $1,296,576.09 = **$823,732.54 more** than the stock index alone.

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- Find the net rent per house before debt service
- Find the payment on each loan
- Find how much I'm investing in stocks each month
- Find the value of the stock portfolio after 25 years
- Find the total value of the houses after 25 years
- Find the total value of my windfall after 25 years

The payment on each loan is **$977.95 per month**.

After 25 years, my stock portfolio is worth **$428,292.98**.

All four houses together, then, are worth $423,003.91 x 4 = **$1,692,015.65**

What do you think? Is this result more in line with your expectations? Did I miss anything, or use unrealistic assumptions? Let us know in the comments!