We’ve had a rocky relationship. Sort of love/hate. But over time, its grown on me, and I have grown into it. Its taken a long time, but I finally have appreciation for an asset class that is often dismissed as more trouble than it’s worth.
My first venture into rental properties was accidental. It was a last resort option to the fact that I couldn’t sell my condo when I wanted to move. I needed be closer to my job. The demanding hours made a long commute difficult. Time was scarce in my world. Getting back some of my commuting time would give me a little more margin. Every bit mattered. I lived on the razor’s edge of time and money. But I quickly realized that as a broke single mom, the leap into being a landlord could quickly erode the money/time gains I hoped for.
There was no room in my life for dealing with tenant turnover, late rent, broken appliances, and all the usual little stuff that comes with the territory. It was annoying and added complexity to my life. Neither of which I needed. Then one day another investor cold called me offering to buy me out, I practically jumped through the phone line to get the deal closed that minute. I was that “motivated seller” investors look for and was desperate for my stint as a landlord to end! Peace out!
Accidental landlord – Part 2
Real estate came creeping back into my life through the back door. Like a bad penny coming back to me. This time it was my Mom’s properties. She was sick and in no condition to deal with tenant issues. Back into the swamp I waded.
It was the same story…….but with a twist.
The tenant issues were annoying. Late rent was the norm. There was always some “good” excuse but somehow they had plenty of money for the hundreds of channels cable package and cell phones. Collecting required me to channel all my sadness and frustration of my Mom’s illness to dog the tenants until they paid. I hated it but I didn’t want her to worry about it.
The twist to the story came when I was handling her taxes. As annoying and obvious as all the problems were, she was making a good return on the money she had invested in these properties.
Maybe I needed to rethink my position. What I have learned since is that I was suffering from absence blindness – the cognitive bias that causes us to ignore what we cannot see happening and over emphasize what we have observed. For example, we can easily observe all the tenant issues. The benefits are harder to observe on a day to day basis because the most significant ones compound over time.
So here I am today, an active real estate investor. I’ve made peace with the difficult pieces because of the trade offs and learned how to minimize tenant problems. It isn’t the perfect investment…..nothing is. Which is my first point.
There isn’t a perfect investment. Every choice has a tradeoff.
We all want the risk free, hassle free, high return, buy and hold and make bank forever investments. Our heads know that doesn’t exists……but we still want to believe that unicorn is out there. It isn’t a matter of finding that one perfect thing. It’s finding the best things for you, given your situation and the tradeoffs that you can live with. Real estate fits the bill for me. It might be totally wrong for you, as it was for me in the past. It may be totally wrong for me at some point in the future, but I’ll tell you why it works for me now.
Cash flow is king
Once your paycheck stops, your assets need to provide cash flow for your living expenses. You can either draw down the assets you accumulated, or you can live off the cash flow they generate. Retiring at 48 makes the later the less risky option. I hope to live to 100. Too much can happen in that length of time to draw down assets now.
Inflation is the silent killer of retirement dreams
Even small increases in the rate of inflation, taken over long time periods, can destroy your wealth if you aren’t keeping up. Real estate, historically rises along with inflation. Rents typically lag inflation but catch up over time. Inflation can help destroy your debt. As inflation rises, it destroys the real value of money……including your debt. Inflation is one of the biggest and most probable threats to my assets. Property is my hedge.Inflation is the silent killer of retirement dreams. Click To Tweet
Real estate is historically the most tax favored asset class in our system
It’s no secret that real estate gets preferential treatment under our tax code. It’s also no secret that taxes are one of your largest expenses that grows as your income grows. Most retirement savings vehicles provide tax deferral which is great but avoiding tax is better. (Evading tax is illegal, there is a difference) Through the use of a 1031 exchange and step up in basis to your heirs, it’s possible to eliminate gains in real estate. The gains that are recognized are taxed at a lower rate than ordinary income. Depreciation, interest deductions and operating expenses provide ongoing deductions.
A word of caution – tax laws can change with the stroke of a pen. I don’t make investment decisions that only work with the current tax structure. Tax benefits are the gravy. Take a lesson from Dave Ramsey. Most people know his debt story. Not everyone knows how the unraveling started. Major tax law changes set off a downward spiral ending in his bankruptcy.
Historically real estate appreciates
Appreciation is something I hope for but don’t count on. The deal has to cash flow from day one for me to consider it.If a real estate deal doesn't cash flow from day one, I don't invest. Click To Tweet
It’s easy to leverage to increase return on investment (ROI)
Leverage is a tool. It’s like fire. You can use it to keep you warm and cook your food…… or it can burn your house down. Leverage amplifies returns……..both ways. If you have a good deal, leverage can make it better. If you have a bad deal, it will make it worse.
An investment decision is always based on your alternative choices
What could I do instead of real estate? Paper assets would be one choice. I wouldn’t have to deal with tenants if I invested in stocks. While that seems much easier, the risk of a bear market is part of the game. It isn’t a question of if the market will go down. It’s is a question of when, buy how much and for how long. A 40 – 50% loss in my asset value at this stage of the game could be enough to chase me back into the job market…….no thank you! I’m not completely out. I’ve just reduced my exposure.
Bonds are the traditional option for reducing your risk in paper assets. With interest rates at historic lows, bonds have little upside with too much downside potential. The best article I have read explaining this situation is from my financial mentor, Todd Tresidder. Read his analysis here to go more in-depth on this issue.
Owning my own properties gives me more control
The market dictates rents, but I have flexibility to improve my properties or find creative ways to add value to tenants. If tough times hit, I can always reduce my rents to keep my properties rented. Reducing or increasing leverage is always on the table. Maintaining cash reserves can give me the ability to ride out tough times. I have more control.
Land lording is hard. The risks are real. Tenants can destroy your property.
Risk can and should be mitigated.
Just because there are risks, doesn’t mean you have to blindly accept them. That’s why insurance was invented. Seriously. Beyond insurance, there is more you can do. Here I my 4 S’s to mitigating risk.
Support – right behind insurance is your team. Property managers (with their own team), accountants, real estate attorneys, and estate planning advisors can all help you identify and reduce risks. Finding quality tenants, having strong lease agreements, tax planning strategies, and asset protection strategies are part of the process.
Strategy – Real estate can take many forms. Identifying your niche, and criteria for buying gives you a framework to build on. We invest in two kinds of real estate – farmland and single family homes. While they are both real estate, they can’t be measured and compared the same way.
Systems – once you have more than a couple of properties, systems are a must. Systems help you delegate work, track critical elements, and keep things from slipping through the cracks. Haphazard systems lead to haphazard results.
Schooling – the best way to reduce risk is to increase knowledge. Books, seminars, podcasts, forums and blogs are some of the best ways I know to learn. Here are a few of my favorite blogs and podcasts on real estate investing:
But don’t worry. You will get an education one way or another…….your tenants will gladly school you……just kidding….sort of.
Is real estate investing right for you? I can’t say. It’s right for me, right now. It wasn’t right for me when I was broke, time starved and ignorant about the process. A lot has changed since then. I haven’t pledged my undying love for it……….but I do appreciate it more every day.Real estate wasn't the right investment for me when I was broke, time starved and ignorant. Click To Tweet
What about you? Have you considered real estate investing? Has something held you back? I’d love to hear your comment.
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