I’m completely fascinated by compound interest. I am constantly working with it for my own investments and for the investments of my clients. I honestly enjoy creating different ideas where different investments are layered on top of each other to accelerate compound interest.
In my Freedom & Wealth with 10 Single-Family Home book, I setup a simple investment plan where someone could use existing retirement savings to buy 5 single-family homes for cash. All of the income from the properties would flow back into the person’s retirement account. They would then setup an automatic monthly investment in their retirement account so the rental income, after expenses, is reinvested into a low-cost Vanguard Small Cap Index fund.
This plan created double compound interest, as the income from the 5 single family homes is reinvested into the index fund. The long-term results created by double compounding are simply amazing. Download the book on this page and see for yourself.
The incredible thing about this idea of layering investments on top of each other is you can do this several times setting up triple, or quadruple, compound interest.
Yesterday, I sent one of my clients some information on this HUD foreclosure listed for sale in my area:
This is a four bedroom, two bath ranch offering 1,689 square feet. This home is listed for $51,000 and would easily rent for $1,100. Here’s how the numbers might look:
Monthly rental income $1,100
Monthly Taxes & Insurance ($275)
Monthly Maintenance & Repair Budget ($125)
Net Monthly Rental Income $700
Let’s say an investor acquired this home for $51,000 and put an additional $9,000 into the home to get it rent ready with fresh paint, new flooring and an update to the kitchen. This investor would invest a total of $60,000 and would receive $8,400 of annual income from this asset. The return on investment would be around 14% annually, after deducting property taxes, insurance, and repairs.
This $8,400 of annual income can be reinvested to setup another layer of compounding. Instead of investing this $8,400 into the Vanguard Small Cap Index Fund, this investor decides to acquire a mobile home investment property. In my area, an investor can purchase a used mobile home for around $8,000 to $10,000. Here is an example of a $8,000 mobile home investment:
This investor could purchase this mobile home and rent it on a long-term lease for $300 a month. If we subtract $100 a month for expenses including repairs, this second investment would bring in an additional $2,400 a year of income. This $2,400 of annual income works out to be an annual 30% return on investment. ($2,400/$8,000)
Remember, this is on top of the $8,400 coming in from the single-family home.
If at this point, the investor decides to invest the income from the single-family home and the mobile home into the Vanguard Small Cap Index Fund, here’s how this might look:
Single-family home investment: 14% annual return on investment
Mobile home investment: 30% annual return on investment
Vanguard Small Cap Fund 10.8% average annual return since inception (includes dividends and appreciation)
Combined annual return 54.8% (triple compounding)
See why I’m fascinated by compound interest?
These little scenarios are really cool to play around with because they open your eyes to what is possible. Crunch the numbers and see what happens when you invest $60,000 at 54.8% for 10 years.
This is an entirely different way of thinking about investing. Most people simply go straight to the stock market with their investment dollars. Unfortunately, the stock market doesn’t provide the same opportunity to setup multiple layers of compounding. For me, and my clients, the stock market is the last place we funnel our investment dollars. This is only after the income has moved through one, or more layers of compounding.
In this plan, the investor invested $60,000 to buy the single-family home. The mobile home was technically free as it was acquired with income from the single-family home. In addition, every single share of the Vanguard Small Cap Fund is also free to this investor as they are paid for by the first two investments.
This triple compounding plan isn’t easy. It will require the investor to manage two rental properties. This means they’ll have to deal with vacancies, evictions, leaky toilets, and everything else related to real estate investment. However, all of these items are worth it when you have the opportunity to generate 30 to 50% annual returns.
Before I wrap this up, let’s ponder one final question…
Is this triple compounding plan risky?
The single-family home was purchased for cash using existing retirement savings. There is also no mortgage on the mobile home investment. Interest rates and real estate pricing have no bearing on the this plan whatsoever. This investor won’t owe ONE penny to anyone and will therefore never go bankrupt. If the real estate market crashes and the value of the home and mobile home fall by 50%, will this investor lose $$? No, because the plan is not based around market values. The plan is based on compounding income.
The single-family home and the mobile home can be protected by insurance.
The most volatile investment in this plan is the Vanguard Small Cap Index fund. The prices of these shares will fluctuate significantly over time. The fund will not provide a consistent 10.8% annual return on investment. In some years the actual return of the fund may be negative. These fluctuations should also have no bearing on the plan over the short-term and will be easier to handle as all of the shares were paid for by the tenants living in the two rental properties.
Disclaimers and Disclosures:
1. I am not a licensed investment advisor.
2. I am not a CPA. (Used to be, but my license has been inactive for many years. I don’t even do my own taxes.)
3. I am not an Attorney.
4. This article is an example for educational and/or entertainment purposes.
5. I haven’t factored in taxes, inflation, and other investment related expenses.
6. Please consult with qualified professionals before making any investment to make sure it is appropriate for you.
7. You can, and may, lose money investing in real estate.
8. You can, and may, lose money investing in mobile homes.
9. You can, and may, lose money investing into the stock market.
10. I am a licensed real estate salesperson in Ohio.
11. Some of my hair is turning gray.
12. I’m about to turn 45.
13. I like ice cream… a lot.
14. I am surrounded by women in my family and there is a lot of drama.
15. I am right handed.
16. My shoe size is 10.5.
17. I like coffee.
18. I can’t think of anymore disclaimers or disclosures.