Key Points:
- You might not know now, but learning is reasonably straightforward and inexpensive.
- Proper homework and planning up front can help reduce the risk.
- There are more than two ways to make money with real estate.
Investment Property Numbers
It’s no secret that investing in real estate can make you wealthy. Ninety percent of all millionaires become millionaires through real estate.
It’s easy to learn, and everyone has access to it. Like anything, it can feel overwhelming at first, but once you get going, there’s nothing to it.
First, let’s cover some roadblocks or mental hurdles that keep people from investing in real estate.
I Don't Want to be a Landlord
There is work that comes along with being a landlord. However, it’s primarily up-front work.
When running your numbers for potential properties, account for a property management fee. This includes those of you who plan on managing yourself.
Initially, you may want to handle the management on your own. However, at some
point, you may decide that you have too many properties to manage or that it’s just not worth your time.
Put yourself in a winning position up front that allows you to hire a property manager.
Finding a good property manager can be a challenge and a task you don’t want to take lightly. This has been one of my most significant learning curves in owning rental properties. The right questions need to be asked upfront.
It’s also essential that there are several management options in the market that you’re buying in. That way, you have options to change. Brandon Turner from Bigger Pockets Podcast suggests having at least six options for property managers in your market.
It's Too Risky
“My poor dad often said “investing is risky.” My rich dad said, “being financially uneducated is risky.” Robert Kiyosaki
Let’s address what the most significant risks can be. Lousy location, negative cash flow, lack of liquidity, high vacancies, problems with tenants, ongoing repairs/maintenance, and unpredictable real estate market.
- Lousy Location:
You must follow the top three most important criteria when buying real estate. Location, location, location.
Anything beyond a desirable location could be a risk. - Negative Cash Flow:
It’s up to you to run the numbers before buying the property. A common problem while doing this is falling in love with the property. Don’t buy with emotions. You’re not living there.
- Lack of Liquidity/Unpredictable Real Estate Market:
I don’t suggest investing in real estate as a short-term investment. Real estate is a long-term game.
Getting your money out can be more challenging than selling stocks. The process is a little more involved.
However, the idea of selling when the market is low is no different from having to sell stocks when the market is down. You’re at the mercy of the market either way.
- High Vacancies:
Know your numbers going into it. Having a good realtor and property manager on your team is essential.
They can help with estimating what these vacancies will be. Account for them when running your numbers before you buy. The amount you should account for regarding vacancies depends on the property, but 7-10% of the monthly rent is a good baseline.
If you have Class C properties, you’ll want to be more conservative with your numbers. Remember the top three criteria in real estate. Location, location, location.
Any time you buy outside a suitable area, you increase your risk. Sure, you may be able to capitalize on an up-and-coming neighborhood with higher appreciation, but there’s risk involved.
Below are ways to avoid high vacancies:
- Price your rental properly
- Start advertising for new tenants as soon as your current tenant gives notice.
- Keep the property in good condition. This requires regular maintenance and upkeep.
- Work with a property manager that has an extensive database of potential tenants.
- Price your rental properly
- Problems with Tenants:
You’re right to want to avoid problem tenants or issues with tenants in general. They’re a time suck (for your property manager) and can be a financial drain.
While it’s impossible to eliminate the risk of problem tenants, there are ways to mitigate it.
- Check the credit and background of every applicant over 18 living on the property. Don’t give in to the standards that you set. If you do, you’ll regret it.
- Tenants with previous issues on their rental record target properties that have been on the market for a while. Avoid this by keeping your property in good condition and not overpricing.
- Don’t fall for their story. Everyone has a story, and there are some cases where someone just caught a bad break. Sorry to say it, but that’s not your problem. Set your standards of what criteria you will accept from a tenant (within the legal requirements) and stick to them.
- Check the credit and background of every applicant over 18 living on the property. Don’t give in to the standards that you set. If you do, you’ll regret it.
- Ongoing Repairs & Maintenance:
This is a fact of owning a property. You will have to maintain it, and more significant replacements will need to be made.
Account for these in your numbers before purchasing the property. The age of major items in the house can be found with a simple online search.
When you do your home inspection and learn the age of these items, account for them in your numbers.
I Can't Afford a 25% Downpayment
- House Hacking:
This is where you live in the property and rent the rest out to others. By doing this, you have more mortgage options to choose from.
The lender often requires a 25% down payment if it’s strictly investment property. However, if you’re living there, you can use a 0% down VA, 3.5% FHA, or a 5% conventional loan.
- Seller Financing:
This is where the seller finances the buyer’s mortgage instead of a bank. So instead of applying to the bank and having them loan you the money, you apply to the seller, and they lend you the money, and you make monthly payments to them.
They’re not technically loaning you the money. They’re not making you pay it upfront. They own the property outright, so they use it as collateral. This option can benefit both sides and is often much more flexible than applying through a bank.
- Hard Money / BRRRR:
BRRRR stands for Buy, Rehab, Rent, Refinance and Repeat. You can use hard money to do this. You buy the property with hard money.
Then you rehab it also using the hard money. Rent the property out. Refinance the property to pay back all the hard money you borrowed. Finally, you repeat with another property.
- Investment Partners:
Don’t be afraid to partner with others on a deal to make it happen. You put in the work, and they put in the money. Getting it done and owning 50% is better than not getting it done.
- Retirement Accounts:
You can use your IRA and 401k to invest in real estate. However, you’ll want to work with a professional to ensure you follow the proper steps to avoid penalties.
I Don't Know Enough About Investing In Real Estate
Stop! Please stop with this excuse.
You might not know enough about real estate right now. However, there are endless amounts of podcasts and books out there where you can gain the knowledge to feel comfortable about investing in real estate.
Take the time, do the work, and you will feel knowledgeable enough to invest in rental properties at some point. Don’t give up because you don’t have the know-how right now.
There Aren't Enough Deals in my Market
There are deals in every market.
But if you don’t like the type of deals in your market, look in others. I’m a realtor and don’t own a single rental property in my area. All of the rentals my wife and I own are in other markets.
It's Not the Right Time
The time is always right. “Don’t wait to buy land, buy land and wait.” If the numbers work, buy them. If they don’t work, then don’t buy them. It’s that simple.
Remember 2008?
Yes, I do. Do you remember 2021?
Real estate is a long-term game. If you bought in 2007 and needed to sell in 2008, you would have been screwed. However, if you purchased in 2007 and held until 2021, you would have been in a good position.
If you decided to keep it longer, you would have been even better off because you would have most likely refinanced at an incredible rate. We can’t time the market. We can only give the market time to do its work.
Example of a Real Estate Deal
- Duplex / 3 Bedroom, 1 Bathroom with Garage Each Side
- Purchased December 2019
- Purchase Price: $180,000
- Down Payment: $45,000
- Closing Costs: $10,000
- Interest Rate: 3.4% / 30 Year Loan
- Repair Costs: $39,000
- All In: $94,000
- Monthly Income: $2,400
- Monthly Mortgage: $1,220
- Includes Property Taxes: $514 month
- Includes Property Insurance: $80 month
- Management Fee: 10% or $240 month
- Fixed Monthly Expense: $1,460
- Repairs & Maintenance: 7% or $168 month
- Vacancy: 7% or $168 month
- Capital Expenditures: 7% or $168 month
- Assumed Monthly Expense: $504 (held in reserves)
- Cashflow: $436 month / $9,156 since purchase
- Estimated Value: $280,000 / $100,000 over purchase price
- Yearly Mortgage Paydown: $3,480 / this goes up over time
- Total Return Since Purchase:
- Cashflow + Mortgage Paydown: $14,376
- Equity Gain: $61,000 (paid $39,000 in repairs)
The funny thing with this breakdown is that these aren’t crazy numbers. It’s a straight cash-on-cash return of about 6%, which isn’t wowing most investors.
However, when you tie in the mortgage pay-down, equity gain, continued appreciation, and the continued rental appreciation, and it’s a decent investment. Even better, it was and still is an incredible learning experience.
We ended up spending more than we originally planned on the renovation, but for the most part, those were capital improvements that also increased the rent and rentability (AC). They add to the value of the home.
We’ve removed most of the risk:
- I don’t manage the property. I pay a property manager 10% of the monthly rent to handle everything. Yes, I have to give them approval for some things, but I don’t control the day-to-day and never communicate with the tenants.
- I purchased it in a decent location. Not an “A” location but a “B” location. If I can’t rent the units quickly, I have room to reduce rent.
- I don’t plan on ever selling this property. If I do, it will be through a tax-free 1031 exchange, where I use the proceeds to buy a larger property.
- I plan for vacancies and have that baked into my “Assumed Monthly Expenses.” I also have room to reduce rent if needed.
- I’m sure that there will be problem tenants. No matter what line of work you’re in, problems arise. However, the property manager has to deal with that issue for the most part.
- The ongoing repairs and maintenance are accounted for with the money that I hold back from rent every month.
This deal wasn’t a home run. It didn’t even work out as we initially planned. However, it still worked out. We still consider it an excellent investment that will benefit us now and even more so in the future.
“Don’t wait to buy land, buy land and wait.” Will Rogers
