A real estate investor who owns over 1,000 units and retired at age 36 shares the 5 pillars that drive wealth in real estate — and explains how investors can combine them to compound their income and 'create true financial freedom' (2024)

• Dave Allred officially retired at age 36, just 13 years after buying his first property.
• Allred successfully combined the 5 drivers of real estate wealth to scale his portfolio.
• These 5 pillars include using tax depreciation benefits to maximize the time value of money.

At the age of 17, David Allred ran away from home and moved into a small house with a caved-in roof, where he had co*ckroaches for roommates and subsisted on a diet of fast food and ramen noodles.

A few years later, he officially dropped out of college — just nine credits shy of graduating with a business degree — to pursue a full-time role as regional sales manager with a home security company.

Fortunately, through a combination of hard work, determination, and ambition, Allred was able to build a nest egg from his sales job, which he used to purchase his first property at the age of 23. Over the next 13 years, Allred rapidly scaled his portfolio to successfully "reverse engineer" his financial freedom, hitting his goal of owning "40 doors by 40" at the age of 36 — allowing him to officially retire from his day job four years ahead of schedule.

Today, Allred has grown his real estate portfolio to ownership in over 1,250 units across 30 different properties in 15 states, including the real estate syndications for which he is a general partner, according to documentation verified by Insider. Altogether, the now 42-year-old estimated that his portfolio equity adds up to over $30 million in total value. In 2020, Allred launched investment firm Axia Partners, which is focused on recession-resilient real estate to create maximum value for its investors and is currently in the process of raising capital for its third fund.

But it took far more than luck or willpower for Allred to get to where he is today. Allred credits a huge portion of his success to a deep understanding of the five pillars that create wealth in real estate — cash flow, market appreciation, tax benefits, principal reduction, and leverage.

"All five of these different pillars create wealth on their own, but the beautiful thing about real estate is that we combine all five of these at the same time," Allred explained in a recent interview with Insider. "This is the beauty of a compounded effect of investing in real estate — it continues to create more and more wealth, repeatedly, while you're sleeping."

He continued: "This really is why I love real estate so much, and why I believe it is the best way to create true financial freedom, time freedom, lifestyle freedom, and generational wealth."

Pillar 1: Cash flow

Out of all five wealth drivers, Allred's favorite by far is cash flow.

"It happens consistently without me having to trade my money or time for it," he explained. "The cash flow is what allows me to basically be retired and have that time freedom and lifestyle freedom because that reoccurring 'mailbox money' comes in every single month, like clockwork."

According to Allred, cash flow can be incredibly beneficial for investors due to its risk mitigation effect. As long as an investor has positive cash flow, they should have enough capital coming in to service their debt payments, like their mortgages or other upkeep costs. This effectively minimizes the risk of defaulting and losing ownership of a property.

With mounting volatility ahead for real estate markets, Allred believes that default risk will increase in 2023, meaning that now is an especially important time for investors to focus on maximizing their cash flow so they can retain their assets for the long term. "I think there's going to be a lot of distress in the markets and quite a few assets that owners lose due to not having liquidity to be able to service those debt payments," he said.

Pillar 2: Market appreciation

Allred's second pillar, price appreciation, is also the most effortless one for investors to utilize.

"One of the most beautiful things about real estate is that the market naturally appreciates over time, and this appreciation creates real wealth and equity without any work or time requirement from the property owner," he explained.

While home prices have historically appreciated at around a 3% rate per year, the last few years have been an exception, with annual appreciation in certain markets reaching up to the mid-twenties range, said Allred. That's why he's expecting a price reset back to standard rates of appreciation in 2023, rather than a housing collapse anything like what happened in 2008.

"When people look at 2023, they talk about a housing correction and all these scary things. To me, it's actually so much more of a healthy reset to being more in line with what's normal," he said.

Pillar 3: Tax benefits

Allred believes that tax benefits — or depreciation, as he calls it — are among the most underappreciated aspects of real estate investing, especially given how favorable the US tax laws are for real estate investors.

A few years ago, the US tax code was changed to allow accelerated depreciation for investors — meaning that by using cost segregation studies, Allred can take a massive amount of depreciation benefits upfront in his first few years of ownership.

Down the line, this depreciation benefit can then be used to offset other income and effectively minimize an investor's tax liability. "Every dollar that you don't have to pay in taxes can then be redeployed into acquiring more and more real estate assets and further building the portfolio," Allred said.

The depreciation benefit is recaptured down the road upon the sale of the asset, but this is where the time value of money can really benefit an investor. "In the meantime, you're able to go out and acquire more and more property, and that additional property is going to have more cash flow, more appreciation, additional depreciation benefits, and principal reduction, and therefore creating more and more wealth," Allred explained.

And instead of recapturing that depreciation when he sells the asset, Allred's strategy is to use a 1031 exchange to trade all of his sales proceeds — including the depreciation — into a new asset, allowing him to further defer his tax liability, "like kicking a can down the road, repeatedly and repeatedly," he said. Theoretically, the US tax code's step-up basis for real estate should even allow Allred's children to eventually inherit his real estate portfolio with zero depreciation capture and zero taxes due.

Pillar 4: Principal reduction

Principal reduction allows an investor to effectively increase their amount of equity on an asset through their monthly mortgage payments. With an investment property, the beauty here is that it's actually the tenant paying down the monthly mortgage and increasing equity over time for the homeowner, said Allred. "Another benefit to investing with a long-term perspective is that every year, the percentage of principal reduction increases due to the real estate amortization schedule," he added.

Event without a separate investment property, homeowners can still save money through strategies such as house-hacking, where they rent out parts of their primary residence. House-hacking is especially beneficial because it can make investors eligible for residential owner-occupied financing such as FHA loans, which lower interest rates and decrease the amount required for a down payment, according to BiggerPockets' Dave Meyer.

Pillar 5: Leverage

As someone who was raised to fear debt, Allred has since come a long way in understanding the difference between bad debt and good debt. He defines the latter as "low-interest, fixed-rate, long-term debt that creates positive cash flow," and believes it has been crucial for his success as an investor.

"I believe that leverage is one of the greatest wealth magnifiers because it allows you to use other people's money to purchase real estate. Generally speaking, for every $1 that I invest in real estate, $3 is provided by somebody else or by a lender. This allows me to acquire a lot more property than I would be able to if I was only using my own personal dollars," Allred said. He added that any interest paid on a loan is also 100% tax-deductible.

Nowadays, Allred prefers to go into new deals with at least a 25% down payment and 75% leverage ratio, a level that naturally goes down over time due to market appreciation. Overall Allred is comfortable keeping a more conservative leverage ratio of around 60% in his portfolio, both due to his age and the current real estate cycle.

"When I was young and really hungry and trying to build a portfolio, I would've been running that leverage ratio closer to 75% or 80%," he explained. "It's more aggressive, but when you're earlier in life, you have time on your side where if you do make a mistake or you lose, you make up for it."

Debt may now be essential for investors who wish to scale their portfolios, but Allred emphasized the importance in using debt correctly and responsibly. "In my opinion, leveraging debt in a responsible fashion is the only way to really compete in today's economy," he said.