Leveraging loans for profit: an introduction to loans and leverages

Matthew Nunez

In the previous issue’s installment of Credit Fundamentals, we closed out the mini-series on credit cards. We will now move on to the two “L” words — loans and leverage.

Both individual consumers and large entities can use loans to leverage other people’s money to reach their financial goals. I will introduce each loan, along with an example of how it would be used by a regular consumer versus a business-savvy consumer.

1. Auto Loans

People love cars, but not everyone has the money for an all-cash deal. That’s where an auto loan comes in.

If a person is wise, they will arrive at the dealership with financing for a plan for a loan from the bank. If the person doesn’t, the dealership will create multiple hard inquiries on your credit report searching for deals.

Take two different people for example.

Person A receives a car loan for $25,000 at a great 2.5% interest rate. With an 8.875% tax and other fees — usually calculated at $500 — this person will pay $547.85 per month. With $4,015.59 calculated in interest, Person A will end up paying $29,015.59 in total for their car.

Person B receives a car loan with the exact same terms, but they rent it out on Turo, an app where you can rent out your own cars. Person B may rent out their car for 20 days at a rate of $50 per day. They will make $1,000 in gross income by the end of the month, but after Turo fees and taxes — which is calculated at 24% — they will be left with $760 by the end of the month.

If you look back on these two examples, Person A is paying $547.85 a month, while Person B is making $212.15 a month. Person B would not have their car available for 20 days out of the month, but this goes to show how one may use loans to leverage assets and earn potential.

2. Home Loans

A good example for home loans would be retail units from Airbnb Inc.

Person A takes out a 30-year mortgage for a $250,000 house with 7% interest. With property taxes and homeowner’s insurance factored in, their monthly payment would be $1,894. This factors out to $348,992 in interest over 30 years, so the total loan cost would be $598,992.

Person B takes out a 30-year mortgage for five rental units at $50,000 each for a total of $250,000 with 7% interest. With property taxes and homeowner’s insurance factored in, this person would pay about $431 a month for each rental unit, or $2,155 in total for all five.

Let’s say the homeowner makes $2,000 rent on each rental unit for the month. That is $10,000 before tax. To keep this explanation simple, I will refer to the 24% tax figure in the auto loan example.

The rental unit owner will make $7,600 in net profits after taxes. Their mortgage on all the houses will be $2,155 only, so they will make $5,445 profit each month.

You may use the extra profit to scale up or even purchase your own dream house for personal use. This example does not take into consideration miscellaneous expenses, but it is a prime example of how you can use other people’s money and the leverage of loans to generate cash flow.

The next issue will delve more into big corporations and debt.