I am looking for a consensus on the best strategy to building a portfolio.
For example: Maybe you did short flips to get capital, then sandwich L/O, then long term rentals, or SF rentals to commercial rentals.
How did you get started, where are you now, and where are you headed? Maybe you didn’t have a plan starting out, but what route did you take to get there, and looking back, would you have changed your strategy?
Interesting thread,
I am also interested in this response, I just started buying my first in 2008, I have rehabbed the house myself and it is now up for rent. My plan is to acquire two to three rentals per year, building capital so that I can purchase cash in the future.
I use the 50% rule to qualify the homes, I have to use some of my own money initially but over time as my portfolio grows, the goal is to use OPM (Other Peoples Money) by using the equity I have in the portfolio as leverage.
All the properties I will buy have to cash-flow at least $100 per unit (Calculated using 100% financing), if I put my own money in initially, it has to cash flow more then that.
I plan to do all the maintenance and management myself to lower the operating costs, at least until I get enough properties where it becomes a problem to do it all.
jlspartz,
I don’t think there IS an one best strategy. Just the same goal of earning good cash flow in a safe, ongoing manner.
You need to try different things to see what floats your boat–what do you enjoy doing best, and what are you good at? That will be your strategy.
I like working with numbers and doing cash analysis of my properties and prospective properties. Often I am surprised at what is making money, and what is losing or breaking even. So I change the plan. I am doing this myself because no one else is renting out furnished homes and writing about it, so I have no other resources like unfurnished landlords. But I read all the unfurnished books as well. I am developing my own formulas.
I also like rehabbing buildings for use as a furnished rental. I do this differently than say, Propertymanager, because I get cheap buildings and make them look attractive to middle and upper-income renters. I look for durability unlike flippers. I try to put in some charm and character because that works for me. I go way out of my way to make the tenant happy. I have even picked up tenants at the airport if they needed that extra TLC. I discovered that I like decorating–who knew?–since my own home was never that great.
My banker (who likes my business) just told me that no one in this town can pull in as high rents as me. So I have found my stategy:
Buy cheap (I like $60,000/unit).
Buy 2 or more units on 1 lot. (Lower expenses per unit).
Fully furnish the units and pay all utilities including wireless high-speed internet and U.S. long distance phone. (The competition is hotels).
Price the units just under hotel suites (and offer more amenities).
Staff an office for customer service, repairs and cleaning.
High rents (2 or 3 X unfurnished rents) equals paying off loans quicker.
Get rid of any properties that don’t cash-flow, or because tenants don’t like them.
Don’t work with difficult people. Life is too short for that.
This strategy has worked for me.
Furnishedowner
Very interesting strategy. I’m surprised to see you rent out 2 to 3 times unfurnished rentals. I was taken back a bit when I sold my condo a couple years ago to a guy that asked if I was selling it furnished because he was cross-country and it would be a second home for him, and didn’t want the hassle of buying new furniture. I see how you can have a good market, but am surprised at your comparison to unfurnished places. What are your target buyers?
So in other words, you hold on to the property as long as possible if it’s making good profit, and treat those that aren’t as your short-terms?
I’m curious the route that everyone took, in order to make a well rounded strategy for myself; balancing short term and long term investments in areas I could see myself liking.
My wife and I got started a couple years ago by taking a leap on a distressed multi-unit property with a specially arranged deal with my credit card company to get our down payment money. After rehabbing a couple units and learning tons in the process, we were able to almost double the money the building was producing from when we bought. We thought originally we’d buy many more properties in the same area, but some changes in life made it better for us to start investing in a second market. We’ve picked up 5 houses in our new market in the past few months. We save and put in our own money (by loaning the business money at arm’s length) as well as money our business makes to acquire more properties. I have a goal of acquiring 25 more units over the next few years. My goal is for our properties to completely take care of themselves financially. I do what I can to improve them as I have time. Our long term goal is to acquire enough properties to hold long term in order to supplement my retirement in another 8 years. I like the route we’ve taken so far. We have a modest portfolio for doing this on our own for the past couple years and have a good track record to show banks for additional financing. So far I don’t mind being a LL. I enjoy fixing things from time to time. Ultimately I would love to own and manage a fairly large and nice apartment complex as well as a storage unit facility. That will be a project for retirement.
Doing REI has completely altered my mindset on personal spending. A few years ago I would’ve just spent my money on whatever I wanted. Now I think about things I’d like to have, but then figure how many houses I could buy instead.
jlspartz,
I don’t sell furnished houses, so I don’t have a strategy for buyers. I am a landlord who RENTS out fully-furnished houses. The ones I have sold I pulled out all the furniture and put it in storage. I have 6 garages for storage.
I stumbled on this strategy because I didn’t like the low rents in this area. It turns out there was a shortage of hotel rooms here and so my niche became housing workers, professionals, and vacationers who would otherwise be in hotels, if they could get a room.
Now my town has 5 Suite Hotels in the building/planning stages so I will have to adjust my strategy.
I am doing more pet yards. DOGS = MONEY. Many people travel with dogs, they are their children. If I can beat hotel prices AND provide a fenced yard for Fido then that becomes my expanding niche.
Last year we trapped a lot of feral cats and kittens under vacant houses near our rental property. We had them all spayed/neutered under a free program. Then we put them in our office and tamed them enough to be adopted.
Everyone who checked in was asked if they wanted a cat. Tenants fostered those cats and several left with them. Probably you can’t read about that strategy in any rental book, but it was a way to keep our lonesome renters happy. And we couldn’t have starving, crying cats overrunning our properties.
Furnishedowner
I don’t think there is a single best strategy. There is a strategy that works best for you. A lot depends upon your timeline and your ultimate goal.
You say you want to build a portfolio, which suggests that you want to hold property long term. OK, what will this portfolio do for you? Are you looking for rental income to eventually replace your day job? If so, how much income you need will determine the size of the portfolio you need. For example, if you need a rental portolio to generate $25K per year in tax free income, there is a way it can be done with just 12 properties, even if you are in the highest tax bracket.
I think the best starting point is defining your long range goals.
Dave T,
I wish you would start a thread telling us how to generate 25K/year in tax-free income, even if in the highest tax bracket, with just 12 houses.
We can learn a lot from others’ strategies. Reading these threads has expanded my real estate knowledge enormously, and made me aware of the whole US market, not just my little corner.
Furnishedowner
No need to start a new thread. The working foundation for this strategy is that borrowed money that has to be repaid is tax free.
If you have enough time to build the rental portfolio, you can sequentially refinance one property every 12 years to take $25K out of equity. With a 12 property portfolio, you can refinance one property each year, and take out $25K in tax free cash every year as long as you want.
To build the portfolio, buy a $50K rental property each year for the next 12 years. In todays, market you will have to put at least 20% down.
If we assume 6% average annual appreciation, the first property you purchased should have doubled in value to $100K after 12 years. A 65% LTV cash out refinance in the 13th year, will put $25K tax free cash in your pocket.
In the 14th year, refinance the 2nd property you purchased to put another $25K tax free cash in your pocket. Repeat the process each year for the next property in the sequence.
After all twelve properties have been refinanced, start over with the first property to take $25K tax free cash out. Repeat as long as you need to.
Of course, if the appreciation is less than 6%, then you may have to extend the timeline and acquire additional properties. If the annual appreciation only averages 4% over the next few years, then it will take about 15 properties to make this concept work. Buying your properties at a significant discount will overcome a slower appreciation. The $100K property you can purchase for $65K has enough equity from the beginning that you can easily refinance in 12 years even with 3% annual appreciation.
Yes, the ultimate goal is to replace my day job, which is going to be a pretty big task. I am still young, 27, but I would need 100K/year cash flow. Please let me know if this sounds like a good strategy. My thoughts are to do short term investments, maybe 10-15 lease options on SFs with a good spread (at least 30K each) to build capital, investing that money into long term commercial apartments and self storage units, and then probably develop something of my own. I don’t mind fixing things before tenants, but once tenants are involved I’d want a property manager if it’s not a lease-to-own, but I might do it to start for experience and knowing if I have a good property manager later. Of course it all may change depending on what I like, and I can only loosely speculate on numbers until I’m doing it. But this is the direction I can see myself going.
If your day job is paying you $100K per year, I am guessing that your annual take home is really about $65K. Your investment strategy only needs to replace $65K for you to maintain the same lifestyle you enjoy with your $100K salary.
If you are looking for rental property cash flow to do the job, then at $125 cash flow per month, you would need a 44 property portfolio assuming each property stays financed as long as you own it.
If your property is free and clear, then the $125 monthly cash flow improves to $375 per month. If your goal is to have the income from free and clear rental properties replace your take home pay, then you get there with 15 properties.
For this illustration let’s use $50K properties that you purchase with 80% financing at 6% fixed for 30 years. Purchase one property each year until you have 15 properties. For the property you purchase in the first year, paying an additional $400 toward the principal each month makes this property free and clear after 76 months.
Starting with the 77th month, apply the $400 in extra principal payments to the second prperty you purchased and also add in the $240 per month youj were paying for the mortgage on the first property. Adding an extra $640 to your monthly mortgage payment each month will have the second property free and clear near the ten year mark (124 months into your plan).
With two free and clear properties, you now have $880 extra to apply to the third property starting in month 125, which will pay off the third property just 167 months into your plan.
Now you have three free and clear properties and $1120 extra cash each month to apply to debt reduction. Adding an additional $1120 to the monthly payment for the property you puchased at the beginning of year four, will have this property free and clear just about 13 years into your plan.
Each time you pay off a property, you have more cash to apply to cascading debt reduction for the remaining properties. One month after you purchase your 13th property, four of your properties are already owned free and clear.
Following this startegy, you should have all your properties free around your 48th birthday. Assuming that all of your financed properties maintain $125 monthly cash flow, you will be able to completely replace your current take home pay and retire from your W-2 job before your 50th birthday.
If you have the time, patience, and discipline over the next 20 years, you can realize your goal of having enough passive income to replace your job.
This is the completely passive way to achieve your goal. As you get salary increases, I am sure that you can speed up the timeline by applying more discretionary income to debt reduction.
Many years ago, one of my co-workers allocated half of his salary increase every year to investments. Annual cost of living raises plus salary increases from promotions quickly gave him a significant amount of discretionary monthly income for his investments.
jlspartz,
If you haven’t purchased a home yet, now is the time to use that stimulus first-time buyer money and get a home, duplex or triplex. That money is free!
Furnishedowner
I wish I was a first time buyer right now! We’re actually going on property #3. The first was a condo that I rented to a roommate and then I got married and we bought a house. I got a different job that pays more now, and we are looking to move to a prime area while prices and rates are low, to a place that is the same if not lower in cost, so that I can use the extra cash to invest.
Dave, you are right about the take home amount. If you had a choice between 5 places financed at 80%, or 1 place free and clear with the same NOI, which is the better route? With the free and clear property you have no finance charges, but with the 5 financed places, you have appreciation and diversity. So is the usual route to acquire as much as you can first, then reduce the debt?
Of course we are talking traditional investing as an example, but I would need to do creative financing to begin with in my market. I could get 10K for a 50K property, but 40K for a 200K property would take me too long.
jlspartz,
If your goal is to get out of the rat race as quickly as possible, then here’s what I would do (and what I did). I would buy as many rentals as you can that will generate $100 per unit per month using the 50% Rule. You’ll have to buy them with as close to 100% financing (but a very low LTV) if you are to succeed. If you are willing to do the management and maintenance, you will double that income to $200 per unit per month. To do this in a short period of time, you’ll have to work your butt off. My goal was to buy 10 of these rentals per year for 5 years, which I significantly exceeded. I was a LOT OF HARD WORK, especially in the first two years. If you follow this plan, you’ll be earning more than $120K per year and have a net worth greater than 7 figures in 5 years.
Just do the math backwards and set your goal. Then, do WHATEVER IT TAKES to accomplish that.
Good Luck,
Mike
Given the two choices, I would rather have 5 properties. With one property, you have no income if you have a vaacancy. With five properties, you still have income if one unit is vacant. It’s all about mitigating risk.
Of course we are talking traditional investing as an example, but I would need to do creative financing to begin with in my market. I could get 10K for a 50K property, but 40K for a 200K property would take me too long.
I suggest the less expensive properties, because these properties will usually generate a positive cash flow. The $200K property is a negative income proposition. You won’t be able to get enough rent to cover your expenses.
Mike, that is what I am looking to do. I don’t mind hard work. I get bored with something if I don’t constantly learn and am not presented with challenges. I know a lot of people speak highly of your book, which is where your comment about the 50% rule comes from, right? I will be reading it, after I finish 6 others. I am gaining a base knowledge on all different aspects of REI right now, and then I’ll be focusing on the specific way I’m going.
Dave, thanks for pointing out property values effect on cash flow. That was my observation looking at the market, but haven’t gotten deep into formulas yet, so didn’t know if I was calculating that the same as others. In order to go down to 50K/property, that means high traffic high crime areas averaging around 4 times the national average (which means I can probably get bad tenants really quick) or rural areas (which probably means I could get stable tenants but would take long). At 80-100K, which are good deals on the market not great deals off the market, there are some properties that are in-between (in cities that are average crime - going for low end 1000, average 1200, and high 1500 per month, with affordable rent averages between 1100-1400). I’m talking SF, deals are better for multi-units. And vacancies are 2-4% per city with average crime, and 7-10% for high crime areas. Any nice area, which is half of the local market, homes start at 200K. So, which route is more commonly preferred? Stay in an average area?
You have to adapt your investment strategy to your local market. As a general rule, I don’t buy any property for my rental portfolio that I would not live in myself and not be afraid to park my Town Car outside. The stragegy I outlined works for any portfolio of properties priced from $50K and up. $50K is just the minimum entry price for the sequential refinance strategy to generate $25K in tax free annual income.
In my market, the opportunities are in foreclosures or at least they were plentiful before the government mucked things up with the bailout. Six months ago, $160K properties could be bought for $65K (all cash, no contingencies, 15 day closing). Comparable properties (as REOs) are still for sale in the same market, but now the prices are $95K and up.
A foreclosed townhouse is currently available for $92500 and is just a couple doors down from the identical unit I sold for $210K back in 2005. In a couple of months, if it has not sold by then, the lender will probably accept $65K.
Rent for this property will be in $1050-$1200 range – plenty of cash flow with the financing available today.
My strategy has been to focus on properties that will need a minimal rehab. For me that has been $15,000 or less. And the properties I purchase are generally $75,000 or less.
I purchase the property with cash, you could use several different sources for this I use the equity in my home and my savings, but you could use whatever works best for you. Of course before I actually sign a contract I do a rehab estimate beforehand. I then figure this into the offer.
For example…
If I look at a house listed for $55,000 and the rehab is $10,000 and the ARV is $85,000 then the most I’ll offer is $50,000. However, I’ll actually start my offer lower, of course the interest on a property will dictate the “rules” here. So for the sake of the conversation here I get the house @ $45,000.
After the rehab work is done I have roughly $55,000+ into the house. Then I go to the bank and refinance my purchase. The bank does an appraisal and comes back @ $85,000 and loans me 80% LTV on ARV. I finance $68,000 and cash out $13,000 or just lower the LTV for a better cash flowing property. So, I have a new rental property that the tenants pay off for me, I’m only 80% into the house and then I get ALL my money back after the refinance to do it all over again.
Keep in mind, this is a rough sketch of things, but it gives you the basic idea of how I do things.
Dave T,
I think it will be even better: buying 50k properties / 20% down means a 40k /30 year mortgage.
In 12 years about 40% (12/30) of this mortgage is paid down by your tenants giving you the opportunity to get that 16k (40%*40K)out of the property without any needed price increases :-).
Greetz, Raymond
Raymond,
Loan amortization is not as linear as you suggest.
In the first years of a typical 30 year mortgage, most of your monthly payment is interest, not principal. After ten years, you will have reduced your loan balance by only 19%, and just 24% after twelve years. It will take you twenty years and two months to cut your loan balance in half.
The first two thirds of your loan term only pays off half of your original mortgage balance. The last ten years of your 30 year mortgage pays off the last half of your loan. If you have extra money to pay down your mortgage balance, extra principal payments will pay off your mortgage faster if paid in the first years of your mortgage term than at the end of your mortgage term.
For example, let’s say you have a $100K mortgage loan at 6% fixed for 30 years. You have an extra $5000 and nothing better to do with it, so you want to use that money to pay down your mortgage. Adding that $5000 to your first mortgage payment as additional principal will take pay off your mortgage 44 months early. If you have been paying on your mortgage for 20 years, then adding $5000 additional principal to your next monthly payment only pays off your loan 14 months early.