Investing in real estate means you must know many terms, including appreciation. You probably know appreciation is when an asset’s value increases, but what is appreciation in real estate, and how does it affect your investment?
What It Means When Real Estate Appreciates
Real estate appreciation happens when the value of real estate increases. Appreciation happens over time; it’s not instant, and it can fluctuate, sometimes showing up as deprecation (loss in value).
There are two types of appreciation:
- Organic: This type of appreciation happens naturally with supply, demand, and inflation. When demand exceeds supply, values naturally increase. The opposite is true when supply exceeds demand.
- Forced: You can force a property’s value to increase by buying distressed properties and improving them. Adding to or upgrading a property’s features can also increase value.
Key Factors Affecting Real Estate Appreciation
As you can imagine, many factors affect real estate appreciation, including the following.
The greater the demand for houses, the faster prices increase, and vice versa. There are more buyers than sellers in a seller’s market, so demand exceeds supply. Buyers naturally increase the price of homes by bidding higher prices to beat other buyers. In a buyer’s market, supply exceeds demand, and sellers often have to “give in” and sell their house for less, naturally decreasing the market value.
Mortgage rates greatly affect housing values because they control the affordability of housing. The higher interest rates get, the harder it is for buyers to afford new housing because their mortgage payments get higher. If interest rates decrease, more people can qualify for mortgages, increasing demand and property prices.
National real estate appreciation is one factor, but there are local factors, too. Certain states, cities, and even neighborhoods may appreciate at a different rate than the national average.
For example, in a highly sought-after school district, houses will be in high demand in the area, which may only inflate the prices in that area.
Not all property improvements increase a property’s value dollar for dollar, but you increase the chances of a higher value with improvements.
If you aren’t sure which improvements will increase a property’s value, discuss your choices with a local appraiser or real estate agent to see what would provide the most value.
How to Determine How Much a Property Has Appreciated
Paying for a professional appraisal is the best way to tell how much a property has appreciated. Only an appraiser can tell you how much your renovations affect the property’s value.
However, if you’re looking for a general idea about how much a property has naturally appreciated, you can use sites like Zillow to find the latest sale prices for properties in the area.
Average real estate appreciation rates
The average real estate appreciation rates have changed significantly over the years. In the first quarter of 2013, the national average house price was $307,400; in quarter one of 2023, it rose to $505,300.
However, appreciation rates have significantly decreased in more recent years. For example, the average appreciation in the first quarter of 2022 was 18.71%, and in the first quarter of 2023, it was 4.61%.
Appreciation rates are highly dependent on what’s happening in the world and market. In 2022, we were in a pandemic, and millions of people were transitioning to work and school from home, greatly increasing housing demand.
Today, demand has greatly slowed, thanks to much higher interest rates and high inflation, decreasing demand and naturally decreasing the appreciation rates.
Benefits of Real Estate Appreciation to Investors
As a real estate investor, you should care about real estate appreciation because it highly affects your investment. Some benefits you can enjoy from real estate appreciation include:
- Higher passive income: The more a property is worth, the higher the rent you can charge. This increases your monthly passive income, especially if you invest in an area with high rental demand.
- Higher capital gains: The more a property appreciates, the higher the profits you’ll make when you sell the property. While your money remains locked up while you own the property, you’ll see higher profits when you sell.
- Greater liquidity through HELOCs: If you want to keep a property but liquidate some of its value, you’ll have a higher chance of approval for a home equity line of credit (HELOC) with a higher property value. Lenders like to keep equity in the property in case of default, so the more room there is in the value, the more you can borrow.
Knowing the answer to what is real estate appreciation is important for an investor. The key is to invest in areas where real estate naturally appreciates and where forced appreciation by upgrading properties is a possibility. The more appreciation you can earn in a property, the more money you’ll make whether you fix and flip properties or buy and rent them out, keeping them long term.
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Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.