However, that is a statement of cash flow, not profitability, as capital gain plus rent would offer sufficient coverage. Thus, land loans have down payments or other land that can contribute collateral mortgage and additional cash flow to meet loan payments. Interestingly, land loans that initially appear infeasible, might end up being workable due to increasing rents over time. Of course, such loans are risky because overestimation of rent can cause such loans to fail. Review the financing example and Figure 3.
Land is a capital investment, where profits play out over many years.
Consequently, the maximum bid on land that can be supported economically is based on, not only current rents, but expectations of future rents and future land values. Whether the land will actually be sold at that time is not particularly relevant. Interest, or discount, rates also matter in determining maximum bids, as do income tax rates on ordinary income and capital gains. Land purchase decisions depend intimately on the present value concept. Review the 11 components of the maximum bid process.