Whenever we’re teaching a class on real estate investing or even meeting with friends or colleagues we’re often asked a few basic questions. However, more often than not we are also inundated with commentary on how real estate investing is too hard, too complicated or just too ___________ (fill in the blank).
To be blunt what I most often hear is a stream of negativity fueled by misinformation which has usually been relayed by anyone from the local barber to a close friend or relative. Very rarely is it an expert in the field.
Here are a few of the most common real estate investing FAQ’s. Hopefully the answers will help you navigate the seas of real estate fact and fiction.
Question 1 – Why real estate?
Before we answer the question of why invest in real estate, let’s make sure that we’re on the same page as to what type of real estate were discussing. We are discussing investment real estate or in other words, real estate that has value driven by an income stream generated by some form of tenancy whether commercial or residential. More often than not when I hear concerns about real estate I realize early in the conversation we are discussing a personal residence and not investment real estate.
Statements like “there are a lot of signs in my neighborhood so the market must be slow” or “I read in the paper that we’re in the middle of a bubble” are instant clues that this conversation is centered on user real estate NOT investment real estate. Please be clear that a personal residence or as we call it user real estate is dramatically different, and affected by a totally different set of factors and market conditions than investment real estate. So when you hear from those nay sayers be clear on what they are nay saying about.
Back to the question: Why investment real estate?
Well… here are the reasons we like it:
- There’s lots of it around. All kinds of types. All kinds of opportunity.
- It’s simple to understand. Money in money, money out, money left.
- The ability to leverage.
- Many affordable options.
- Significantly higher returns than we see in other investment vehicles.
- Significantly lower risk to get those returns than we’ve seen elsewhere.
- The returns are relatively insulated from “stuff” happening around the world or from “stuff” controlled by very a few individuals.
- It’s consistent and constant
- It’s easily managed by 3rd parties other than us.
- We can manage the managers from anywhere (like a beach in some tropical local).
- If purchased smartly it can be quite liquid.
There are many more but you get the drift.
Question 2 – Investment real estate seems like a lot of work, is it hard to get started?
No, it is not hard to get started; with a little reading, and/or coaching from a qualified coach you can start the process almost immediately. However, and it’s a big however, real estate investing (at least what we are teaching) is not a get rich quick scheme. It does take time and effort, and a level of commitment.
We can tell you from personal experience, if you can commit to actually taking action, and be disciplined enough to put in the time, the actual real estate side of the business will seem easy.
Question 3 – What kind of investment returns can I get?
This is our favorite question but it rarely comes directly. Usually it arrives in the form of something like this:
“I’m doing pretty well in the equities market and it would be hard to beat that”.
Or we’re asked in a hushed whisper when nobody appears to be looking: “I’ve heard the market is at the top and the returns are risky, it is true?”
I smile when I hear these and other subtly made inquiries.
The best way is to answer this is: “It’s simple, straight forward, and affordable to almost anyone.”
Check out this actual investment example straight from the street. The particular type of investment I’m going to describe is called an RTO. The term RTO stands for Rent To Own and is a popular investment class for beginner as well as seasoned investors alike. There are plenty of classes and books you can read on RTO’s so I don’t want to spend a lot of time on their intricacies or the math. For the purposes of this FAQ I just want to focus on the returns.
We purchased a nice single family home in a great residential area of Barrie On. I we paid approximately $243,000 for the property. This includes all the closing costs such as land transfer tax, legal’s, etc…I want to be clear here, this was not a power of sale or a fixer upper, just a straight forward purchase of a nice home in a nice area.
We put $24,300 of our own money into the down payment and the closing costs. In about 5 weeks we had rented the home to nice young family just getting started with a provision in their rental agreement that they could have the option to purchase the property at the end of a 3 year term. The purchase price would be fixed today for a value 3 years from now. They also paid a fee to have this exclusive option to purchase.
Here is a look at the basic math:
After all the expenses were paid, the property had a positive cash flow after expenses and the mortgage of about $200 per month. Doesn’t seem like much and your certainly not going to get rich in a hurry. However, that’s $2,400 per year which based on your initial investment of $24,300, provides a return of 10%. Not bad, but let’s keep going.
Now every month you make a mortgage payment. The payment is made up of interest and principle. The principle paid is equity in your investment and money in your pocket. In this particular case the principle paid over 1 year was about 3,500.
Now let’s take a look at the return again; we have $2,400 in cash flow plus $3,500 in equity gained for a total of $5,900. The return on the initial $24,300 investment is now 24%.
Tell me, where can you find that kind of return in the equities market particularly with this risk profile?
We are still not done yet! In the first year this property appreciated about 4%, modest, sure, but still significant. Based on are initial purchase price of $243,000 that equals an additional $9,720 to our overall profit.
The return is now $2,400 in cash flow, 3,500 in equity, and $9,720 in appreciation or $15,620 in total value to the investor. You may want to sit down… that’s a return on the initial investment of 64%.
Further, we have not accounted for the option fee or any of the numerous tax advantages you may receive with this type of investment.
I have been in the investment game for nearly 30 years and we know of no other opportunities generating this type of return with the risk profile of real estate.
Sure there are variables, and I can hear the “what if’s” from here, but think about it. You could reduce 64% by 2/3’s and still have a return hard to equal.
Here is another return I like to point out.
We spent about 20 hours over a 2 ½ week period looking for this property and probably another 5 hours of messing with details like financing, lawyers, etc… An additional 5 hours working with a group we hired to do the actual leasing for a total of about 30 hrs. Divide that into the $15,620 value we generated it suggests a value of about $520 per hour of time spent. Not such a bad job!
Question 4 – What about all the property management required?
This is the most common question or comment I hear. “I don’t have the time to manage the properties, I don’t want that infamous toilet clogged call in the middle of the night, and tenants are trouble.”
The answer to this is simple:
Hire a manager. They are absolutely worth the money you pay them, and the impact on your return is noticeable but certainly reasonable when you compare value to return.. And they can be managed from anywhere in the world.
Question 5 – How much is too much leverage (debt)?
First, leverage is a key component in the value of real estate, and there are many schools of thought on leverage and how it should be used. Philosophically speaking, our goal is to use what money we have in the most efficient way we can to generate more money. Leverage allows us to do this. Practically speaking, the right leverage for us is as much leverage as we can get and still sleep at night. In other words, we look for maximum leverage while still maintaining enough positive cash flow, to service the debt even through rough times. Further, we personally like to structure the debt to be interest rate protected or at a fixed rate for a significant term, so we mitigate risk from significant interest rate changes.
Give me enough cash flow with controlled risk and I say “bring on the debt!”
Success? Absolutely yes, but guaranteed and easy? No.
We can tell you without hesitation we have had a lengthy track record of success. However we can also tell you that each and every success had its hurdles, its unforeseen problems, and situations that simply couldn’t be anticipated. It will be difficult to find an investment where this is not the case… especially if you’re honest with yourself from the beginning.
Things will rarely go as planned but account for the hurdles and have a plan. The experiences of overcoming these hurdles are what investing is all about; it’s what life is all about. They will make you a stronger person and looking back, those hurdles will become small pebbles which in the future you will walk right over. Now that is where the fun begins, because the bigger the hurdles the bigger the rewards.
About M Commercial Realty
M Commercial Realty has helped all levels of investors successfully negotiate successful investment transactions. If you are looking for commercial investment coaching, consulting or available product, please contact either of the Steves at M Commercial Realty to set up a no-obligation consultation.