Someone posed this very question to me last week, and since this seems to be the “buzz” topic recently, I thought I’d share my humble thoughts on the subject.
What a Financial Planner Would Tell You
It’s intriguing to me, as if you would have asked me this question back before I was introduced to real estate, in my banking days, I’d have told you what every other financial planner would have told you: save money, pay off debt, build your retirement savings through maximizing your IRA contributions & take full advantage of 401K match incentives, provided by your employer. “Re-adjust your portfolio allocation” (most people would look at me with three heads when I would say this to them), or “put your credit card in a block of ice in the freezer”. (Hah – I forgot about that one..)
These ideas are still excellent ones. The only problem I have with these ideas, is they keep middle class people, well, middle class. They were growing their retirement, so they’d be just OK when they turned 65, but in the meantime they were still slaving away at their JOB and are unable to explode their wealth so that could enjoy everything life had to offer, before their retirement. I mean, let’s face it… retirement is such a wonderful dream. But life is short – why wait to fill your dreams?
Building Wealth Through Real Estate Investing
According to this article, the “Top 7 Ways to Get Rich,” Alen Korber makes the case for why investing is one of the smartest ways to grow your wealth. Being that he is a reseller of a stock market analysis strategy, he discredits real estate, claiming real estate tends to grow only at 10% per year, and requires a large down payment, so it’s “hard to get rich quick that way.” I would argue that anyone who invests in real estate to “get rich quick”, HOPING it goes up in value the average 10% per year, and who puts down a lot of cash to do it, does not quite understand the real methods at all. It is possible to explode your wealth through real estate, but anyone in this business can tell you it certainly is NOT a get rich quick plan you’ll see on those infomercials. I might call it a “get rich sooner” plan. And I still am uncomfortable throwing my money in the stock market, or anywhere else I cannot control what happens to it, or where it can sink to zero.
Want To Know How It’s Done?
There are a few different strategies, but they usually end the same way – invest for CASHFLOW, NOT market appreciation. Don’t even look at this factor, when you begin your investing business. You can choose to be an active or a passive investor (passive allows you to enjoy the gains from real estate, but someone else does all the work). When I begin a coaching session for one of my students, or when I meet with one of my investors, we go over their short term and long term financial goals, just like a financial planner would. Then, it’s worth choosing different real estate investing strategies to help them invest for their immediate needs, and then set up IRAs and this plan around their longer term goals.
One strategy that seems fairly common, is to invest in shorter term investments (flips, high-yielding notes) to build some cash, and then shelter this cash in a longer term investment (either a small rental building, or as part owner of a large residential complex). If you already have some cash resources, I will suggest that as my colleague & fellow apartment owner David Lindahl says, “Go bigger, faster.” The faster you can get involved in a larger complex, you start to take advantage of economies of scale, excellent management, and larger cashflow numbers (“dividend yields,” for those stock people out there).
For those that do not yet qualify or think they’re ready yet for larger complexes, a perfectly good strategy (and exactly what the residential branch of AARE is doing right now in this marketplace) is to invest in homes below replacement cost, for rental income in depressed areas. Will these homes go nuts once the market rebounds? Most likely not… but as a true wealth investor, you are going for cashflow, and never look at appreciation.
Money Magazine recently got wind of what we are doing, and published an article on give-away priced homes in their most recent issue. Set a return you want to get for yourself. My minimum return is 12% in rental income per year (I shoot for 20% in these depressed areas), and this is after ALL expenses.
$6,900 purchase price for a 3-bedroom house
+ $12,000 rehab costs
is $18,900 “cash in” the deal. Usually these homes are not financeable, so you would either have to put in all your own cash, or go in with a couple others. But here’s the return:
Rent goes for around $600 / month in this area. Estimating all expenses (including management, vacancy, maintenance, taxes, insurance, marketing costs) at around 50% of your income, you’ll still be raking in $3600 / year, which comes out to be 19.05% in your annual return.
If you play your cards right, when you purchased the home, you MIGHT take into account FORCED appreciation (sweat equity)… perhaps the house in fixed up condition would actually sell for $30,000. Though we never look at this number when we invest for the long term, it’s nice to know that you may have an extra bonus coming to you when you sell down the line, in 5 or ten years. Or, keep them forever, and continue to collect your 19%… which only takes a little over 5 years to get all your money back. AND… this doesn’t include tax benefits, and a whole slew of other potential income benefits you can reap… GOD I love this business.
You can probably see, it doesn’t take many of these to help your cashflow situation – and perhaps the day you decide to retire, you now can realize your equity in these little ATM machines, by selling or pulling it out in a refinance. Take your dream vacation in 5 years, or when you retire – all tax free, unlike traditional IRA withdrawals.
As I mentioned before, some investors prefer to be hands on, while others don’t want to have anything to do with the real estate side of it. For these individuals, there are plenty of active investors out there – contact me if you’d like to get hooked in with one of them. IRA money CAN invest in real estate, despite what your current advisor tells you. We are happy to help guide you through the process, or answer your questions on this if you prefer…
The moral of the story
It IS possible to invest smart in a down market, an up market, a sideways market, whatever – just make sure you keep the right thing in mind as you invest in whatever you choose:INCOME. Investing for anything else is considered speculation, and just as risky as the Guessing Game–I mean, Stock Market.
Until next time,