I’ve been asked many questions by people trying to make it in this business, how it works, how to start and how to make it. I’ve been thinking about it and decided to write it all down and give a guideline how to be successful in this business and how not to fail.
1. Cash Reserve
If you want to know how to never fail, depending on how large your portfolio is, keep 50-100K in cash. At all times.
I can’t stress this enough. I have seen many people fail in this business by being real estate rich and cash poor. Ideally when you’re starting out, you already have this saved from your day job or jobs, and any profit you make will be reinvested or saved. You never know when you need a new fridge, new roof, have a pipe burst, water tank needs to be replaced, etc. There are so many unexpected events and major repairs that can eat away at your profits with long term real estate ownership. Keep a nice amount of cash as a cushion for the bad times. *Like a global pandemic*!
2. Down payment
Never buy with 0 down! If you want to buy a decent property, you’ll never cashflow with nothing down. You need to put down 20-30-100%
So let’s figure out how to get the money. Best care scenario you are young and full of energy, if not, do this anyway.
To build up your cash reserve then your down payment. *These are segregated funds, you don’t use your cash reserve for anything other than emergencies* You must be working 10-12 hour days at your day job or jobs and saving 50%+ of your income. If you do this and don’t waste your money on a nice car, or expensive apartment you should be able to save enough money within a few years. It’s going to be tough especially if you’re older. But this is the sacrifice you will need to make if you want to be successful in this business. Being married could be easier depending how you look at it. Dual income no kids for a few years, saving one of your incomes. But don’t wait until then, start this now!
The reason I say as much down as possible is you’re in this business to have reoccurring income. If you’re not putting enough down, you have to pay PMI, and a repair is needed, your monthly profit is gone. Especially if you have a vacancy that month. Don’t build a house of cards, build a solid business that will be there for the next generation.
3. Small & Manageable – proper growth
Keep it small and manageable in order to pay down debt and pay bills when repairs are needed or tenants move out.
If you have dozens of properties with multiple mortgages its going to be hard to adjust when bad times come. My portfolio could be 2-4x what it is now if I levered up but I decide to use minimal debt. As you read through this article you will see all of these points relate to each other, we want to achieve freedom and reoccurring income. Stay nimble and be able to adjust when necessary.
4. High Quality over Highest Rents
I recently had a long discussion with my property manager about a tenant who was up for renewal soon. She is paying under market rate. We discussed if we should raise it $400 dollars a month to meet the average of the market. I know if she left we could rent it for more. But how long would it take? He explained she’s a great tenant and always pays on time, and has no plans on leaving. I don’t want to ruin a good thing, so we raised $50 and she signed another 2 year lease. She is a high quality tenant. I would rather have less stress, and know for sure this house will be preforming for the next 2 years than to have it sit vacant for a day, or a week or two. The level of worry and stress isn’t worth it to me. The risk with getting a new high paying tenant in is what if they break the lease, or more likely, what if they don’t resign, then in another 12 months I’m stuck putting it up for lease again. I’d rather have the almost guaranteed money, and slowly increase over time.
5. Keep it to Yourself
I’ve often considered a partner in this business, and thought critically about it. Their investing style would have to be exactly like mine, they couldn’t be desperate and think they’re going to make some quick cash. This is a long process. You will be able to retire early if done correctly. But it will take 15-20 years to become an overnight success. I’ve talked to my friends about buying houses together, but nothing ever aligned right. Our financial situations were always different and we wanted different things. One of us was married and the other single. Our financial lives were totally different. Its not worth losing a friend over, just keep it for yourself. When you do make it, probably don’t let friends and family know how many properties you own. This is another way friendships can be ruined, through jealousy.
6. Understand it’s not Passive
This is an important one. People always ask, is real estate passive?
It will be rare for a month to go by without a call or text from a tenant or property manager. Once you have more than a few properties 10+ there will always be something going on. Like I explained before, a repair, new tenant, your insurance renewing and needing review. Manager calling and telling you a tenant has an issue with xyz, or will only renew if abc happens, just always something. There will be projects or leases for you to approve at the minimum. Not always bad but there will always be something going on. I like to refer to real estate as reoccurring income, not passive. Passive is completely hands off. Like royalties from a book or movie, licensing out a product, or quarterly stock dividends. As one of my realtors said, Real Estate is a full contact sport.
7. Understand the Inter-workings of a House
When you’re starting out you’re going to have to do your own repairs. You have to know the basics. How to unclog a sink or toilet. Paint the walls, rip up carpet, install new switches, or ceiling lights, fans. Or even tiling a floor or backsplash. You just have to know the basics of how the house works and the general repairs that would be needed.
Do you know why your floor squeaks when your walk over a certain part? It’s probably because a joist, or cross beam is loose in the basement.
This is also going to help when you do start hiring out work or your property manager calls you with a repair order, you’ll know what they’re talking about and know if they’re over charging you.
You also need to know how to get rid of unnecessary things and how to add value. An example is when you buy the house walk through it and get rid of anything that could be a hazard or anything that a tenant could break or hurt themself on. When you first purchase the property just rip out anything that is a hazard or not needed, or will need replacing in the near future. This will increase efficiency in the over all building. Another example of making it easier on yourself and adding value is the example below.
I bought a quad that had 5 electrical panels the 5th one was the landlords panel for the common areas and the porch light. Knowing these were low cost to use being just a few lights, I had the panels upgraded from the old knob and tube to a modern switch. When I did that I had the electrician remove mine and run the wires through the other boxes. It’s just an extra light or two on the tenants bill and they will never see the difference. Its one less small bill for me but more importantly one less item to deal with.
8. Buy what you know
I’ve been approached to buy real estate in different states and even overseas. I knew some of these markets were going to be profitable and some wouldn’t, but I didn’t know them, haven’t even been to half of them.
I have always stuck with what I know. The neighborhoods I invest in I lived in, for long periods of time, have spent time there with a friend or girlfriend, and have got to know the streets inside and out. I knew when prices were cheap and when it was a good time to buy. I would constantly check what I knew and see what was selling and how the prices were moving. This is why I could somewhat time the market to buy and knew I was getting a good deal. This is also why most of my real estate has doubled or even tripled in value over the years. I knew the houses, streets, and neighborhoods well. I’ve been inside a lot of the houses in the area, and drove the streets for years.
A few of the speculative deals I passed on have been property out west with raw land flips. I have a friend that did this and made a lot of money, but I’ve never been to this area and wasn’t familiar with it so I decided to stick with what I know to be on the safe side. Another great example is Georgia, the country bordering Europe and Asia. Many people are talking about how cheap real estate is there and it’s true. I looked into it a bit. Turns out everybody owns their house there. Yes, everybody, 92% of people in the country Georgia are home owners. So who would I rent to? Then I check the airBNB listings, theres a ton of them! And most only rent for $30 a night. Not that great of a market to be in. There are many other examples of this too throughout Asia and the Mid East. Don’t speculate, stick with what you know.
9. Buy for Cashflow and Appreciation
Don’t just buy for the purpose of buying and then try to figure it out. The deal must make sense. You must either be buying it for it to appreciate or for cashflow. Better yet both.
Appreciation – (Increasing in value) Theres basically two ways to do this. Buying in an up and coming neighborhood if you see the signs of an area becoming gentrified. This includes new bars, restaurants, businesses, barbershops, framing galleries, breweries, or if you hear that a global business in going to be putting a location there. ex. Google, Twitter, Linkedin, new Ford plant, etc. If you buy at the right time when you see these signs of improvement the value should pop!
Another way is just buying at depressed prices. I bought the majority of my real estate from 2006-2015. The prices were devastated for most of those years. Then the recovery years happened and prices ramped up and tripled in value. I stuck to the principals, buying in in demand areas that are walkable to bars, restaurants, entertainment. At a price point where I knew it would be increasing. I saw these prices in nice areas so cheap and I thought this is ridiculous they can’t stay this low forever. It turns out I was right, my values all skyrocketed.
Cash flow – This is straight forward, this is what everyone thinks of when they hear about landlords. It’s being able to consistently rent out the unit month after month receiving a stream of income. On most of my units I was able to gross 1% of the purchase price a month in rent. So if I bought a duplex for 200k I would rent each side out for 1k a month. When walking the house look for ways to add value. If you renovated the kitchen, painted, sand the hardwood floors could you get a few hundred bucks more a month? Your realtor should be able to help you with this.
10. How to ReFi
When you have a mortgage you can always refinance your debt and try to get a lower rate or a quicker pay off. In order to refi the best way to do it is to have a solid 2 years of work history. Don’t quit your job too soon. You won’t be able to get a mortgage or any kind of loan; you have to be able to show a steady income stream to the bank for them to loan you money.
When your house increases in value, you pay down a large amount of debt, or interest rates lower, this is a great time to refi. But, many people do it the wrong way.
They pull money out and buy another home with another mortgage. They keep doing that until they have 20+ units and they think they’ll be set for life and ready to retire. If it were only that simple.
When you do this, it’s called being over levered. Or building a house of cards. Your business can easily fail if you are over levered. Refi smart don’t pull everything out that you’ve built up over the years.
11. Rate of Return
When the property is paid for depending on the taxes, repair, management, and vacancies expect to receive 50-60% of the gross rent to your pocket every month. My portfolio, for example in 2020 I netted almost exactly half my gross rents. Thats consisting of single family houses, duplexes, a quad, and condos. Majority paid off and one mortgage outstanding, thats also with major improvements and repairs factored in. So keep in mind if you need 50k a year in your pocket to live, you need to be grossing 100k a year in rents to be on the safe side. Don’t let anyone fool you, plan on 50-60% net a month on average.
12. House Hack
You need to House-Hack (Not my phrase) You can buy a multi-family live in one unit and rent out the other. If you buy a quad you can rent out 3 units and live in the other with a roommate. If you do this, you will almost definitely be living for free. Every multi-family you buy, live in it for a couple years with a roommate, and while you are there fix it up, make necessary improvements or upgrades and learn how the house works. Where the pipes come in, which areas are prone to a leak, draft, or any problem. That way if something does happen in the future you will know the issue and how to fix it right away. Keep moving to the new buildings you buy. Do this until you have grown this business enough to where you can buy a house for yourself for the long term. You might just want to buy a nice duplex to live in and just always have a rent paying neighbor. Remember we are building this slowly and doing it the right way.
13. LLC/Insurance/Management Co.
Limiting your liability. Once you get a few properties you are going to have different concerns than somebody with just a couple. *Mo’ money mo’ problems*. You have to make sure you are protected in the event of a lawsuit, slip and fall, fatal injury, things like that. Ask your insurance agent for a PUP/umbrella – personal umbrella policy. Think of this as just a million dollar + insurance wrapper around everything you own. So if you get sued over your landlord policy limits, this will kick in.
You can also take you name off of the ownership and put the house in an LLC. Limited Liability Corporation. This removes you personally from any liability and only exposes the property.
When getting your properties insured, the name of the owner whether its you or your LLC must be listed. If you have it in an LLC and don’t tell your insurance agency they may try to deny the claim. Make sure they know exactly how it’s titled. Remember insurance companies hire people called actuaries to mathematically figure ways not to pay out on claims.
Another thing people don’t know is that insurance price is based on your credit score. If you know your score has improved, ask them to re-run your policy and see if the price lowers. Talk to your agent in detail before you do this, there is a chance price could increase if your credit hasn’t improved.
I wrote a detailed post on hiring a management company. They must be reputable and work for you to make your business as passive as possible. Able to rent it out quickly, make repairs immediately, and offer advice on how to add value or grow your business.
If you’ve made it this far you must be serious about real estate and ready to take action, just stick to the principals listed above and let me know your progress.
*Please consult an attorney or accountant or insurance agent before acting on any advise from this blog. I am not giving any kind of financial, legal, or tax advise.