Yo, yo! Good morning, peeps!

I just got my annual profit and loss statement for our rental duplex, and thought I’d share last year‘s results with you.

**Spoiler alert**… After all calculations, we made only $89 in cash flow + loan paydown, but the property appreciated about $46k last year. In total, our ROI was about 42% for 2021.

Every year around tax time I do a full property review, calculate the ROI, and note down all the good and bad stuff that happened through the year at the property. I recommend this annual review practice to anyone who owns a rental (even though it’s boring, keeping good notes is always helpful later in life!).

Anyway, here’s what the P&L Statement shows for 2021…

**There are 2 misleading things about this statement… The first is that it doesn’t include our mortgage, annual taxes, or insurance. So I’ll calculate all that stuff separately. The other thing is the $16,000 “other expense” I circled in blue, which I’ll explain in a bit…**

INCOME: In 2021, we had 100% occupancy and 100% rent collection. Every investor’s dream! This duplex rents for $1,975 per month (for both sides total), so that adds up to $23,700 for the year.

Also, we got an unexpected $1,100 from an outstanding rent settlement back in 2018. So our total income was $24,800.

EXPENSES: We had pretty mammoth expenses this year… Mostly due to the new roof (insurance paid for most of it) and a new A/C unit. Here are the biggest expense categories listed on the P&L statement:

• Management fees: We pay our property management company 7% of all collected rent. Seems like a lot, but it’s actually a really good deal compared with the average property management fee countrywide.
• Commissions: Our property manager collects a renewal fee when our tenants renew their leases. This is one-quarter of 1 month’s rent. (If a tenant leaves and they have to find a new one, they charge a little more, I believe half of 1 month’s rent.)
• General repairs and maintenance: This is mostly toilets, sinks, doors, appliance repairs here and there, etc.
• Capital expenses: There were 2 large capital expenses this year, which were the new roof ($11,000) and new A/C unit ($4,800). 
• Landscaping: Seems like a lot, but it works out to be less than $15 per week. The lawn company comes every 1-2 weeks depending on the season and mows the front and back lawns.
• A/C and plumbing: Before getting the new A/C unit, we had a couple annoying repairs, and the plumbing issue was a bathtub that was draining really slow.

OTHER EXPENSE: There’s a line item for “owner contribution” on the form. This isn’t actually an expense – these are funds that I transferred to my property manager to pay for the A/C unit and roof bills. They shouldn’t be counted as ‘income’ and need to be removed from the statement total.

Another thing that’s not noted here is the insurance refund check that I got paid as reimbursement for my roof claim. It’s missing from the P&L statement because it was sent to me, not my prop manager.

So here is the *actual* profit and loss for the year:

$24,800 – Income

(-$22,145) – Expenses

$8,690 – Insurance reimbursement 

TOTAL:  $11,345

Side note, this is why I encourage investors to thoroughly comb through statements and cross check all their numbers. If I wasn’t paying attention, at first glance it would seem like we made a $18k profit this year… But the real number is actually a lot lower.

OK, moving on… Now let’s look at the other 3 big things that I pay separately for this property. These are taxes, insurance, and mortgage interest.

PITI: Principal, Interest, Taxes, and Insurance

Here are the things my property manager doesn’t pay for, so they’re not included on our annual P&L statement:

Mortgage payments: $7,938.60 in total

• $2,949.99 was principal
• $4,988.61 was interest

Property tax: $5,206.89

Insurance: $1,061

Since the mortgage principal isn’t technically an “expense” (this is how much our loan balance has been reduced by) I’ll need to remove that portion from our overall expense tally.

Total (without principal paydown): -$11,256.50

OK, now let’s add this all up and see what the *real* total profit was for 2021…

Welp, all in all, this duplex made me and my wife about 89 bucks last year – before appreciation. Whomp whooooomp.

As a comparison, here is my full review from 2020… That year we made $7,497 in profit.

When I think about what went wrong in 2021 compared with 2020, I can pretty much sum it up to 2 major events:

1. In April 2021 we had a huge hail storm. This resulted in us needing a new roof. Since our insurance paid for a replacement, we were only responsible for the $2,300 deductible.
2. In September one of the A/C units blew up. This cost $5,000 for a new unit with installation and 10-year warranty.

If those 2 things didn’t happen, I’d almost have a repeat performance of the prior year. Funny how it only takes a couple things to go wrong for all of your cashflow to be wiped out for the entire year.

Our Saving Grace: Appreciation

I wrote about this a couple months ago… We ordered an appraisal of the duplex, which showed a new valuation of $266,225 (as opposed to 12 months earlier at $220,000).

So even though we had a neutral-ish year for income minus expenses, we still gained $46,225 last year from property appreciation.

Total ROI for 2021

To work out the total ROI for 2021, I’ll take the income gains ($89) and add them to the appreciation gain ($46,225), then divide this by the equity I held at the start of 2021 ($110,950).

($46,314 / $110,950) = 0.417.  So, that’s about a 42% ROI.

Pretty ridiculous how leverage works in your favor and can supercharge your ROI. When I bought this place originally in 2015, cash flow was my main goal. But I realize now the power of appreciation if you can choose a good location.

Anyone else out there do nerdy annual reviews for their rentals? Care to share your stuff from the past year?

Cheers,
– Joel

[This post, 2021 Annual Review and ROI of My Rental Property, was first published by 5am Joel on Elite Edge Money]

I met a guy recently who introduced himself like this… “Hi, I’m Justin. I teach renters how landlords think so they can get better deals for their housing dollars”.   I immediately turned starry eyed and was thinking, we NEED this dude on the blog!!!

Here’s some Q&A I had with Justin and a little more about how he helps people. Justin also wrote a book called Rental Secrets, where all his research and tips are revealed. All you renters out there, listen up! (and Landlords, please pay attention too because negotiation goes both ways and renting should be a win/win sitch!]

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Justin! Welcome to the blog and thanks for sharing your secrets! First off, I’m curious why there are so many hidden tips given that renting is such a common thing. Why don’t renters know this stuff already?

Hey Joel!  Happy to be here.  I was baffled by this question early on as well.  Unfortunately, the conversations we have about rent tend to focus more on complaints than solutions.  But on top of that, as we approach adulthood there are typically no classes on financial education in general, let alone specific classes on controlling rent which is almost every young adult’s number one expense.  And to make matters even worse there weren’t any books on the subject until I wrote Rental Secrets.

This leaves young adults learning by trial and error, which is among the worst ways to learn.  It’s almost as if the goal was to set them up to fail.  Clearly, learning from the prior experiences of others would be a much better way to go.

But, there’s another reason as well.  We’ve been conditioned to have a consumer mentality.  We walk into a store and see an item we want on a shelf.  There’s a price on the shelf.  We pick up the item, walk to the cashier, pay the price, and leave.  Never once did it occur to us to negotiate with the cashier or their manager.  And the vast majority of people apply this same mentality to renting.

Correct me if I’m wrong, but you also *own* rental properties… So why would a landlord share rental secrets? It’s your job as a landlord to suck every cent out of your tenants as possible, right?

Yes, I own and operate rental properties and I also wrote Rental Secrets.  This is not as contradictory as it may seem at first.  There’s an unhealthy conflict between renters and landlords.  This conflict results in renters damaging property or allowing it to be damaged.  It leads to landlords not caring about renters.  It also leads to poor government policy decisions that ultimately serve renters or landlords.  I believe renters feel this way because they believe they have no power in the landlord-renter relationship. Rental Secrets is an attempt to correct that misconception and highlight just how valuable the renter is in the landlord-renter relationship.  Renters will never put hammer to nail to build their own homes.  And landlords choose to invest in badly needed quality housing for their retirement, so renters are living in the landlord’s retirement plan. When you look at it from this perspective, the importance of this relationship becomes much more clear.

Your second question goes directly to the heart of the animosity between landlords and renters.  It’s a common misconception that it is a landlord’s job to squeeze every last dime from their renters.  And it doesn’t help that some landlords do attempt to do this despite the fact that it isn’t in their long-term interest.

In reality, the landlord’s job is the proper stewardship and maintenance of the properties they are responsible for.  There are several factors to doing this well, and yes collecting rent is part of that job.  Rent pays for maintenance, upgrades, salaries, mortgages, and other expenses related to keeping the property functioning properly. Those landlords who don’t maintain their properties are asking for trouble down the road as this is a fundamental betrayal of the trust their renters place in them.

Second, Robert Kiyosaki tells this great story about the first investment property his wife bought.  She’d just invested in the property the year prior, felt it was time to increase her rents, and typed up a letter to her tenants.  Her goal was to increase the rent by a whopping $25.  She sent the letters and the renters promptly moved out.  The property stayed vacant for three months and the rent was approximately $400 at the time.  So in an effort to gain $25 more per month she lost $1200 in rent.  In addition to losing that rent, there were cleaning, repair, carpet cleaning, and painting expenses to prepare for new renters.  And let’s not forget the cost of locating those new renters. The point being that getting top dollar might be nice, but continuity of cash flow is what’s most important when it comes to proper real estate stewardship.

Third, there’s a conversation I had with one of my clients last year that relates to your question.  He owns a property management company in the San Francisco Bay Area.  I asked him about how the eviction moratorium had affected his clients.  His response was very interesting.  He said those landlords who had cared for their properties over time and had bothered to maintain great relationships with their renters by and large fared quite well.  Those who cut corners and didn’t bother to maintain renter relationships or their properties bore the brunt of the payment headaches.  Moreover, those landlords would also be left to the tender mercy of whatever payment assistance the government offered because his company would not be helping them go after their renters legally.  

And finally, renters have economic hiccups occur all the time.  Sometimes they lose their jobs.  Sometimes their cars breakdown.  There are always unexpected expenses that pop up.  As a landlord, if your goal is to squeeze every last dime out of your residents, you are setting yourself up for higher vacancy rates and increased interruptions in your rental cash flow because there won’t be any financial cushion for these common economic challenges.  So squeezing every last dime from your renters doesn’t really help the landlord in their true job which is proper stewardship of their property.

Give us your top 3 bits of advice that all renters should know…

The first and most important bit of advice is that rent negotiation is possible.  Landlords are people with problems but, if you know how to speak their language and know what the problems are, you can help solve them.  And people who solve problems get paid.  In this case, paid in the form of lower rent.

Second, summer is the most popular time for people to rent.  Students are graduating from school and parents are getting situated before the next school year starts.  Landlords know this happens every year, so their asking rents are higher in the summer.  But, apartments still become vacant in late fall and winter.  If you rent during that time of year, you could save up to 7% on your monthly rent.

Third, apartment community amenities are only great if you actually use them. Every amenity in an apartment community has a corresponding surcharge added to the rent for each apartment in that community.  The amount of that charge depends on the total cost of the amenity, the proximity of the apartment to the amenity, and the level of convenience that amenity adds. So only choose apartment communities that have amenities you will actually use, because you’ll be paying for those amenities whether you use them or not.

Many landlords ask for a rent increase every single year. It’s ridiculous sometimes! How can a tenant slow down these rent increases?

When you left high school or college and entered the world of renting residential real estate, there were no classes providing any guidance on the language landlords use.  And there’s a key phrase that relates to your question. “Our rents are competitive with the market”.

It sounds really nice, right. They’ve done all the work for you.  You don’t need to lift a finger.  And you can’t get a better deal.  But, unfortunately it’s a lie.  What they do is compare themselves to properties nearby, within a mile or two.  It’s not a lie because they didn’t do the research.  It’s a lie because their research has nothing to do with you or your situation.  They don’t know anything about you or what you need.  They assume the properties close by are their competition.  But, their competition is really any property that fits your needs whether it’s close by or not.

You can slow these rent increases down by showing them who their competition truly is.  You may have chosen their apartment community because it’s 30 minutes east of your job.  But, there may be really great options 30 minutes west of your job.  These other options aren’t considered in their pricing analysis to determine your renewal offer.  So the trick here is to use market data to counter their renewal offer because you have options.

Got any tips for people that aren’t great at negotiation?

When renting an apartment it can feel like the landlord has all the power.  As if they were the “Great and Powerful Oz”.  But, it’s important to remember that landlords are people too, with challenges and problems.  So the first tip is to remember the landlord is a person just like you.

People think they aren’t good at negotiation because they don’t know how.  Negotiation is just a conversation between two parties who each have something the other wants. But the key is knowing what’s important to the other party. That’s where my book, Rental Secrets, comes in.  It gives you a window into the landlord’s head and allows you to negotiate with the landlord in their language.  So, the second tip is knowing what’s important to who you’re negotiating with, in this case the landlord.

Lastly, just remember that if you are working, have a decent credit score, and know how to play well with others then you are exactly the kind of renter that landlords vigorously compete for every day. You are bringing something very valuable to the table and it’s not just about the money.

Your books says something about “FREE RENT”. How is this even possible?

Free rent may sound like a fairy tale, but it happens all the time across the country.  And it might surprise you to learn that Rental Secrets describes not one, but two ways to get it.  The most common way is that free rent is used as a marketing tactic.  Landlords are in serious competition for you, the quality renter.  The person who has a decent job, a good credit score, and knows how to play well with others.  And nothing says “Please tour my apartment community” like an offer of free rent. In this case, the free rent offer will last for a specific number of weeks.  I’ve actually seen some communities offer up to 6 weeks of free rent.

The second way you can get free rent often never occurs to people because they think of the landlord as their enemy. But changing this perspective can reveal an amazingly powerful opportunity to get free rent.  And that strategy is to work for the landlord. Yes, you can obtain free rent by working for your landlord.

And what makes this strategy so powerful is it typically has the same time requirements as a part-time job or side gig.  Some US states require property owners to provide residents with an on-site employee. While specific laws will vary, there’s no reason why you can’t use these laws to your advantage. And even without such laws, the landlord still benefits from having a representative live on site.

In this role, you’d be responsible for keeping the property clean, being the first point of contact for your neighbors, letting vendors in, and showing apartments when necessary.  When you consider that rents are as high as $2600 per month or more, you can see how this can be an amazing side gig.  But, it gets even better.  This free rent is an after-tax benefit because if you were actually paying that rent, you’d be using after tax dollars.  In my book, Rental Secrets, I tell the story of one young man who took advantage of the strategy and he had absolutely no prior experience. 

[**Note from Joel — there’s also the method of house hacking! It’s when you buy a small multi-family house (like a duplex or tri-plex), live in one of the units and rent the others out. In the right scenario, the other renters could potentially cover all your property expenses so you are living for free.**]

The market in my area is just SO HOT right now. How can I find more affordable options?

Every apartment is different. Even those in the same apartment community have differences.  Some of these apartments are less desirable than others just because of where they are on the property.  The apartment might face a busy street.  It might have a poor view.  It might be on the third floor with no elevator.  It might not come with enough parking.  But whatever the reason apartments can and do sit vacant even in hot markets.   

This actually happened to me.   It took two months to rent an apartment in one of the hottest rental markets in the country – Mountain View, CA.  We had lots of people tour the apartment but no one ever rented.  I asked my leasing agent what was going on.  He said they’d get to the master bedroom door, turn around and leave.  

The problem was the view from the master bedroom’s window which you could see from the bedroom door.  Because of where the apartment was on the property, the view was obstructed by wire mesh in the window that was required by the local fire code.  But, that obstruction was only part of the reason the apartment didn’t rent.  Since people stopped their tour at master bedroom door, they never saw the double closets or the fully remodeled master bathroom.  And if they don’t see it, as far as they’re concerned, it doesn’t exist.  They likely completed the full  tour at the other properties they visited.  Since they’d only completed a partial tour of my apartment it’s at a distinct disadvantage.  So yes even in “hot” markets it is not unheard of for apartments to experience significant vacancy.  And in those two month’s that apartment community lost $6000 in rental revenue. And that vacancy pushed property managers to make deals. 

Dude! Thank you SO MUCH for coming on the blog and sharing your tips! Any last words?

Joel, this was really fun and I hope we chat more in the near future.  Here are a couple of thoughts I’d like to leave you with.

The landlord isn’t the enemy.  In fact, thinking about them that way prevents people from identifying money saving opportunities.  Landlords are people too and they absolutely have problems.  By teaching renters how to save money on rent, I’m teaching them how to make being a landlord easier and making it easier for more people to choose to become landlords.  We need all the quality housing we can get and housing only comes from people choosing to invest in it. 

And I have a free gift for you!  Moving to a new place is seriously stressful but if your looking to make your next move easier, check out my FREE e-book Apartment Search Secrets!

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Justin Pogue is an award-winning author and real estate consultant based in San Jose, CA. His book, Rental Secrets, is very VALUABLE for renters, it is a MUST READ for landlords! Check out more of his stuff at RentalSecrets.net

Have a great day!
Joel

P.S. I have one last secret to share… I downloaded Justin’s book for FREE at the LA Public Library as an audiobook. Shhh…  

[This post, Rental Secrets – Getting More Value from Your Housing Dollars, was first published by 5am Joel on Elite Edge Money]

Happy Friday, happy people!

About 6 months ago, I wrote a blog post about plans to downsize my real estate assets. Specifically, the plan was to sell some physical rental properties and move that cash into more passive investments.

Well, the mission is now half complete! We’ve sold 2 rental properties so far and have 2 left to go. Woohoo!

Sale #1 proceeds –> about $35k

Sale #2 proceeds –> about $50k

These properties were joint partnerships with other investors, so the $$ proceeds represent me and my wife’s cut of the deal.

I’ve been getting a bunch of questions about the sales and learning stuff along the way, so figured I’d share some of these in an update post. Here you go!

Recap: Why we’re selling rentals…

First, here’s why we want to sell (or you can check out the original post here for full info: Why we’re transitioning away from rental properties). Main reasons are:

1. I don’t find it fun anymore. I know, I sound like a complain-y spoilt brat. But my new goal in life is to slowly shed the activities I don’t enjoy → to make more room for the stuff I DO enjoy.
2. My asset allocation is out of whack. We’re trying to downsize the real estate portion of our portfolio and increase our exposure to stocks. 
3. It’s not “passive” enough. In hindsight, this is probably my fault… I bought run-down shit box rentals that need constant maintenance. Some real estate is passive, but the physical properties I’m selling are not.
4. Some of my properties are sub-performers. I think we can make a better return on our money elsewhere in the long run.
5. Owning 20+ doors is emotionally draining. You’d think that the more properties you own, the thicker your skin grows… I’m somehow doing the opposite. My skin is getting thinner, probably because I am a wimp.
6. I don’t like holding so much cash reserves. My thoughts on holding cash are changing.
7. We can always buy more (or other types of) real estate later. We are not anti real estate! We just want to downsize our *physical* RE assets. We can still invest in other types of RE later, for example, syndication deals.

OK, now let’s get to some questions I’m receiving, and some of the stuff I’ve learnt through the sale process…

Where I’m investing the sale proceeds —> VTI

So far, we’ve just been dumping all the money into stock market index funds. In March we bought $35k of VTI, then again in June we bought another $50k of VTI after the second property sale. Our plan is to continue this with the next 2 properties.

I must admit it’s kind of scary putting money in the stock market while it’s at an “all time high” and so volatile! But, I’m practicing what I preach: You can’t time the market! And investing at all time highs usually has a better outcome than waiting for a big dip to buy.

Investing in the stock market solves a few problems for us… First, it helps shift our asset allocation out of real estate and into more equities. Next, it fits in with our long term goal to have more passive investments. The money that we invest we never have to touch or really even think about, ever again!

Selling during a “hot real estate market”…

I’ve been hearing this a lot lately… “Now is a great time to sell real estate! People are making ridiculous offers to buy property, way over asking price!”.

While yes this is probably true — it’s a sellers market right now — it’s important to understand the difference between residential home sales (the buyer wants to live in the place, driven by needs and emotion) vs. income rental properties (the buyer is an investor, motivated by ROI calculations).

Since the properties I’m selling are fourplexes (4 units all under 1 roof), the buyers interested in my props are mostly other real estate investors. They value the property based on the rental income it can generate from the 4 units (or 3 units if they want to move into 1 of them). While inexperienced or impatient investors might be willing to overpay a little for rental properties, most well-studied real estate investors won’t pay ridiculous prices.

So the best way I can boost my property sale values is to raise the rents for all the tenants within the units. This is much easier said than done! My property manager was able to do a little bit of this over the years, but not as much as what we hoped or initially projected.

Anyway, I just wanted to explain why we’re not making as much profit as people think we’re making. Not all real estate is equal! This current “hot market” gave us more interested potential buyers and a slightly shorter sales cycle, but not necessarily a huge increase in sale prices.

Selling the properties as a “bundle”…

A couple of people asked why we didn’t just package all 4 properties into a bundle and sell them as a group. This would’ve been the quickest way to get rid of them all.

But there were a couple challenges with bundle selling…

First, we didn’t know how many properties (or which ones) we even wanted to sell first. When there are multiple investors involved, making decisions takes a long time because every person has a different opinion. So at the beginning of the year, we really only agreed on selling 1 property to start with. Then the plan evolved from there.

Also, we realized that bundling our properties for sale isn’t really in our best interest financially. The type of people who buy packages of investment properties are more experienced investors (we prefer beginners that don’t negotiate as hard) and also they are looking for a bundle discount.

Since we’re not in a rush to sell, there’s no reason to give buyers a bundle price discount when we can sell the properties one by one for the best price we can get individually.

Boring Tax Stuff…

Here are some questions I got about taxes and how that might look this year for me.

“Have you thought about doing a 1031 Tax Exchange to defer capital gains?” —–>  No, not really. Our goal is to get away from physical properties, not get into new ones. I have heard of some groups that allow 1031 exchanges into syndications, but since I’m transferring from joint ownership, I’m not sure how this would work.

Also, given our probable tax bracket this year, my wife and I might be able to avoid some capital gains altogether. (My partners might be in a different situation, but my wife and I will have pretty low income this year, so locking in small cap gains is OK with us).

“Don’t forget to set some money aside for depreciation recapture” —–> Absolutely! My partners and I have a reserve account with money set aside for estimated taxes. Since our gains weren’t too big and we only owned the places for 3-4 years, we don’t have a too hefty bill.

(For those of you who don’t know what depreciation recapture is… When you sell a property that has provided you depreciation benefits or tax offsets in the past, the IRS will recapture that benefit by charging you for gains made when you sell. The only way to avoid/defer depreciation recapture tax is to a) do a 1031 exchange or b) sell the property at a lower value than you bought it minus depreciation – neither of which make sense to us.)

“Who pays the taxes for joint partnerships?” —–> For the properties that are in LLC’s, the LLC entity itself files it’s own tax return and “passes through” the tax liability to the members of the LLC through a K1 statement. All the LLC members file this K1 statement with their personal return. This splits the tax responsibilities fairly between the LLC members in proportion to their ownership percentage.

For properties that are in joint personal names, each person just claims their split percentage of the property on their personal return. 

For example (in either scenario) If you own 50% of a property, you report 50% of the income, claim 50% of the deductions, get 50% of the tax benefits, etc.

Setbacks, mistakes, and dirty dealings…

One setback we had on the first sale was a small water heater leak we noticed 1 week before closing. A repair man was at our property fixing an unrelated issue when he noticed a little bit of water in the drip-pan of a water heater. Being a good repair man, he reported this issue to my property manager and said we might want to get it checked out.

Since there was no real problem (yet), we could have just proceeded with the sale and turned the keys over to the new owner and made him fix the issue when he took ownership. But, that would be unethical (and probably illegal) because as a seller we are bound to disclose any known issue with the property to the buyer prior to taking ownership.

So we fully diagnosed and fixed the issue, which cost us ~$1000 out of pocket for a new water heater. It sucks to buy brand new appliances for another investor, but I couldn’t in good conscience hand over known potential faults. I never want to compromise my values for money – it’s not worth it!

Speaking of unethical dealings, we had a strange transaction with a realtor that I didn’t feel was 100% above board. Long story short, we were in negotiations with a potential buyer that fell through… and somewhere within our negotiations we exposed our “rock bottom” price that we would sell for. After the deal fell apart, we immediately received a different offer from that buyer’s own broker! (not their specific agent, another realtor in their office). It was for the exact same ending negotiation price we were settled on with their client just days earlier.

The reason I felt this was unethical is because I don’t think agents are allowed to share confidential negotiation details with other agents and use it for personal offers. It really put a bad taste in my mouth. After I raised a red flag, the broker denied doing anything unethical, and that offer fell apart shortly afterwards.

Anyway, this event (and a few other small things in the selling process) reminded me that real estate has many grey areas, and there’s a lot of room for greedy individuals to take advantage during the buying/selling process. It’s sad that this happens, but all I can do at the end of the day is to continue doing business the most ethical and responsible way I know how. 

Oh, one last shitty thing that happened (and this was my mistake) was that I promised one of the buyers some repairs as part of our contract negotiations… And I grossly underestimated the repairs costs. This ended up costing my partnership about $2700 extra, which I feel horrible about. Thankfully, we still made some great profits on the deal and all was forgiven in the end. My main lesson here is to never promise paying for repairs based on someone’s word – always get written quotes and second opinions for everything before agreeing to pay.

Windfalls and bullets dodged…

One cool thing that happened during the first sale process was an unexpected insurance claim. The buyer asked us to get a new roof as part of the sale contract, and we agreed, building that into part of our planned costs (It was about $6000).

But just before we got the roof replaced, someone suggested I file an insurance claim because there was a hail storm recently that might have done some damage to the roof. If there was evidence of any hail damage, we might be able to get insurance to pay some of the replacement cost.

We didn’t know if the claim would get approved, but there was no harm filing one anyway since the property was being sold. It took less than 1 week to file the claim and get an adjuster out there, and lo and behold they found some damage that was covered under our policy. So all in all we only paid about $3k for the roof replacement instead of $6k. A nice unexpected profit!

One other dodged bullet was some tenant issues that happened *after* the sale of a property… 

My property manager caught wind of some tenant problems (missing rent, bad behavior, etc) a few weeks after the sale of a property. Since the new owner inherited our existing tenants (willingly!), this was now their problem to deal with. If we had never sold the place we’d be dealing with that mess now, which sounds like a real headache.

All in all, our long term plan is working out…

So far, we’ve gotten rid of 2 properties, and I can’t tell you the weight that’s been lifted off of my shoulders. My partners and property manager feel the same!

Since moving the sale proceeds to index funds, we’ve had zero headaches, and even some great gains so far!

Next step is to sell 2 more buildings we’ve mostly agreed to list. I’ll keep y’all updated as we go along!

Got any questions I didn’t address? (sorry, can’t disclose specific sale/profit numbers due to partner reasons – but happy to tackle all other questions!)

Have a great day!

– Joel

[This post, Selling our rental properties… 2 down, 2 to go!, was first published by 5am Joel on Elite Edge Money]

Good morning, wealth builders! How y’all doing today? Ready for a kickass long weekend?

I got the following question from a reader and thought it would be good to share with the group…

“Is buying raw land a good investment? I heard that Bill Gates is buying up a bunch of rural land and is the biggest farmland owner in the world. Maybe we should be investing in raw land too for long term. It’s pretty cheap like 5-10k for a parcel and prices will keep increasing over time. I’m extremely nervous about the stock market as we’re in a bubble so looking for other places to invest and real estate sounds nice. Thanks.”

My answer: No. Raw land is not a good investment. End of post.

Just kidding, there’s a few things to unpack in this question, and not all of them are about raw land investing: 

1. Raw land as an investment
2. Copying what Bill Gates does
3. Stock market “scariness”

Here’s my 2 cents on it all… (And I’d love to hear how you other readers would respond to this!)

Investing in Raw Land (and Real Estate 101)

There are a thousand ways to lose money in real estate but only 4 ways real property can make you money: appreciation, rental income/positive cashflow, loan paydown, and tax benefits.

A raw land investment only ticks 1 of these money-making boxes…

Appreciation: This is the difference between the price you pay for the raw land and the price you sell it for later. Land naturally appreciates. So buying raw land will probably make you money if you hold it long enough…

But, how fast does land appreciate? If you buy a piece of raw land today, how much can you sell it for in 10, 20 or 30 years? Beats me! Natural appreciation on land value is hard to forecast, especially in rural areas.

Rental income/positive cashflow: I’m assuming “raw land” means there are no structures or utilities. So unless you plan on somehow turning it into developed land or can find a farming/agriculture use to rent it out, you will generate zero income each year from your real estate investment. That’s why I prefer to think about this category as “positive cashflow” instead of rental income … because even if you are able to generate some rent, it needs to exceed your ongoing expenses if you want to turn any sort of profit.

Loan paydown: Small land purchases typically have no mortgages attached — many are bought in cash. (It can be difficult to get a loan for vacant land.) Even if you did take a loan out to buy a block of undeveloped land, without a renter for it, you’re responsible for making the loan payments yourself, so no money is made.

Tax benefits/depreciation: There are various tax advantages to owning an investment property, but most of them are tied directly to maintaining, improving, or depreciating “structures.” Land can’t be depreciated.  (I guess you could pay someone to go out and do some landscaping and claim it as a maintenance deduction. But why would you pay for landscaping on raw land?)

Is Raw Land Investing a Good Idea?

All in all, in my opinion, raw land is not a very productive investment for all the reasons I listed above. While being a land investor sounds cool and probably feels “safe,” I’d prefer to own a rental property that is firing on all 4 cylinders!

Why Is Bill Gates Buying So Much Farmland?

Gates did an AMA on Reddit recently, and someone asked him this exact question. Here’s the response (basically that agriculture is important):

Bill Gates investing in *farmland* is quite different than you and I buying *raw land* in $5,000 or $10,000 parcels. Needless to say, Bill Gates has very different investment motives than you and I. He’s not trying to buy land so he can reach financial independence — he’s trying to solve long-term world problems.

(Related fun time-waster: Can you spend Bill Gates’ money?)

I read a great post recently from Morgan Housel over at Collaborative Fund called Playing Your Own Game. It explains why we shouldn’t just take financial advice from other successful investors out there. Bill Gates (and his investment group) are probably playing a completely different game than you and I.

Stick to your own investment game!

Regarding the Stock Market “Scariness”

I agree that the stock market is kind of scary right now. But when is it *not* scary? Since we can’t predict the inevitable ups and downs, we’ll always have some unsettled feelings when we invest new money.

My advice is, rather than changing your investment strategy based on feelings, why not change your feelings based on your investment strategy? It will hurt less in the long run.

Tips to Tune Out the Stock Market

Stop checking market prices and news so frequently. (Easier said than done, I know!) The price of index funds on any particular day matters far less than how many consecutive days you remain invested for. Think long-term, not day to day.

Read and re-read some great personal finance books. They’ll help remind you to keep investing for the long haul, no matter what.

Play this stock market timing game. It’s an awesome reminder that you can’t time the market as well as you think you can! The longer you sit out, the more you lose generally.

Read this article about investing at all time highs vs. storing cash and buying during dips. Research shows that investing on all-time high days actually produced better returns!

Chat with a financial advisor. Get an expert’s perspective.

If you really, really, really, want to diversify your portfolio by buying land, set a goal to study the ins and outs of real estate investing before just buying something that sounds nice.

What say you, readers? Am I off base about purchasing raw land? Anything to add?

*****

It’s gonna be a great long weekend! Be sure to get outside and soak in some vitamin D!

See you next week,

– Joel

[This post, Raw Land Investing, Bill Gates, and the Stock Market Scaries, was first published by 5am Joel on Elite Edge Money]

Hey you. Do you want to invest in a real estate project with me?

Let’s say I find a massive apartment complex for sale for $50 million. If we get a bank loan with 80% financing (borrowing $40 million), this makes our down payment only $10 million.

To get the $10 million cash down payment, we just need to find 200 people to put in $50,000 each. To keep things fair, everybody will own an equal share in the investment and receive an equal share of the profit.

I estimate that the rental profit from the building (all revenue minus all expenses) will be $60,000 per month. If we divide this between our 200 investors, this means $300 positive cash flow per person, per month. That’s about a 7.2% return per year — not bad!

Better yet, I also project that when we go to sell the building in 5-7 years, we could sell it for $60 million. That’d be a $10 million profit we can also share. So instead of giving all 200 investors their initial $50k investments back, they’d all get $100k returned after 5-7 years. Double their money!

Well, what do you think? Am I completely nuts?

If you regularly read this blog then you know that I’m definitely nuts … but deals like this are actually quite common. They are happening all around us, all the time. They are referred to as real estate syndications or private placements.

What Is a Real Estate Syndication?

A syndication is just a fancy name for a partnership. It’s when a group of investors bundle their money and resources together to invest in a real estate project — typically something larger than any one investor could tackle on her own.

In the past, these investments generally were not available to the public, and sometimes they were/are by invitation only, as with private placements. But, thanks to crowdfunding and online social networking, it’s becoming easier to find and invest in syndications.

In this post I’m going to explain the basics of how a typical syndication deal is structured. I’ll be referring back to my oversimplified and hypothetical $50 million apartment building scenario for some examples, but please keep in mind that every syndication deal is different. They come in custom shapes and sizes, like any real estate investment.

Can Anyone Invest in a Real Estate Syndication?

Let’s think about this for a second…

If you and I were seriously looking for 200 people to each invest $50,000 with us, what type of investors would we prefer to have? Would we accept money from just anyone? Or would we prefer that they meet certain investor qualifications?

If we took money from 200 novice investors, we’d probably be signing ourselves up for headaches. Not only would we be flooded with questions, but if any of them were financially unstable, they might also want to withdraw from the partnership early. They would be a time-suck and possibly a legal pain in the ass.

Instead, we would want experienced, wealthy investors who could just transfer us money –> and then leave us alone. Less time managing investors means more time working on projects and profits! To make it easier for us, we might want to find only 100 investors with $100k each. Or just 10 investors with $1 million each.

There are also strict legal guidelines we would need to adhere to. Because we are using other people’s money to buy real estate (or selling “shares” of our investment company), this is technically selling securities. We’d need either a license from the SEC or somehow be able to be exempt from SEC filings.

Most real estate syndication groups require their partners to be “accredited investors,” or at minimum “sophisticated investors.” They use syndication attorneys to structure deals to follow SEC guidelines, like these 506b and 506c rules.

Most syndication money is raised behind closed doors rather than being advertised to the general public. Real estate groups target high net worth individuals and prefer investors they have an existing relationship with.

(At the end I’ll share how you might be able to build relationships and find some syndication or crowdfunded real estate opportunities yourself.)

Syndication Objectives and Real Estate Niches

When you’re evaluating an investment, it’s important to understand the goals of the project (other than just looking at numbers). Large real estate companies usually have a specialty or niche that they work inside.

Some examples of syndication niches include:

• Commercial or office buildings
• Self-storage facilities
• Mobile home parks
• Raw land development (buying land and building something from scratch)
• Single family homes (buy packages of 50-100 homes within a certain target area)
• Residential apartment complexes

Personally, I like it when the project goals align with my personal investment goals.

That’s why I invest in “buy and hold” syndication deals with a small value-add component. I want to buy cash flow positive properties that have rent increase opportunities as well as appreciation potential. The deals I invest in must be conservatively leveraged, have a strong rental track record, and be located in a growing area.

It’s important to invest with a like-minded group of people. Common goals = better partnerships.

Syndication Team and Corporate Structure:

The group that finds the deal and manages the overall investment is called the “sponsor.” They are in charge of overseeing the entire business plan, and making all major decisions on behalf of the company. 

This could be just one person or a small group of highly skilled individuals that specialize in different things (like a finance guru, an investor relations person, and an operations rockstar).

The individual investors are usually called “limited partners.” These are the people putting up the money. Technically they own shares in the corporation, however they don’t really have any voting rights on what the partnership can and can’t do. 

Syndication investments are not publicly traded or transferable to anyone else. So once a limited partner invests his or her funds, they are fully committed until the project is over or the company is dismantled.

TRUST plays a massive role when investing your money in a real estate syndication. It’s very important to vet out an experienced sponsor and fully research who you’re going into business with.

For our fake $50 million scenario, I might demonstrate my legitimacy as a sponsor by showing potential investors a successful track record of similar deals I’ve managed in the past, with references. Also, I could show my faith by investing $500k of my personal money in the project (buying 10 of the 200 shares myself). Good sponsors eat their own dog food.

Here’s a post I read many years ago that helped me big time… Vetting an apartment deal sponsor. Check out this post for beginners, too… Syndication: 25 FAQ’s by investors.

Projected Returns for Syndications

When you’re looking at an investment proposal, the sponsor will highlight how much profit they think you can achieve for your invested capital. It’s important to note, these are projected returns, not actual returns. Nothing is guaranteed when you invest.

It does a sponsor no good to lie about these numbers or trick you into investing. I’m not saying that investment proposals are always accurate, but usually very experienced people have put the numbers together.

In my experience, most syndication sponsors will underestimate vs. overestimate. If they blow investor expectations out of the water, people are likely to invest with them again. If they overestimate and shit the bed, then people won’t trust them again.

Each real estate project has different timelines, objectives, and profit schedules. Some provide a great ongoing cash flow and passive income throughout the life of the project. Others provide a huge profit split only at the end of the investment term. Some deals pay a small amount of both.

For the residential value-add deals I am interested in, I hope to achieve a 7-8% cash on cash return every year, as well as 1.5x to 2x return on my investment when the project closes.

Going back to aligned goals, it’s a good idea to make sure the projected returns of the company suit your individual investment strategy and risk tolerance.

Syndication Sponsor Fees

In my hypothetical scenario, I said all 200 investors would split the profit “equally.” But in real world syndications, profit sharing happens *after* the sponsor collects 2 types of fees…

The first is an upfront acquisition fee. This compensates the sponsor for the enormous amount of effort it takes to find a deal, analyze it, hire lawyers, pay the deposit (personally), raise capital and create an entire business plan that everyone will be happy with. It’s not uncommon for a sponsor to evaluate 200+ properties before finding one that meets their criteria. It could be a 6 month to 1 year process, too.

The acquisition fee is usually ~2% of the total deal size. In my fake scenario, 2% of $50 million is $1 million! (Seems like a lot, but split between the team of people putting the deal together — it’s reasonable.)

The second fee is an ongoing management fee. The sponsor needs to ensure the business plan is executed properly, the investors are attended to, everyone gets their profits, the monthly reporting gets done, contractors are managed, taxes get filed, etc. If the project is large enough, they might even hire a dedicated manager for all this stuff.

The ongoing management fee is usually ~2% of incoming monthly revenue. In our scenario, let’s say the incoming total rent is around $500k per month. The sponsor would collect a $10k per month (2%) fee to cover all the management work involved for the full life of the contract.

There can be other fees (or incentives) for the sponsor included within deals. A common one I see is an acceleration bonus tied to overperformance. For example, if I end up selling our hypothetical building for $70 million instead of $60m, I might write in a clause that everyone buys me free beer for life because I just tripled their money!

Taxes and Cost Segregation

Here’s a question I hear a lot: “What about all the tax benefits of real estate investing… Can I claim things like mortgage interest and expenses in my tax filing?” 

The answer is Yes, and it’s really easy! 

Each year, the company files a tax return for the entire project. All deductions like depreciation, loan interest, and expenses are accounted for. Then, the total amount of income/expenses are divided exactly between the shareholders according to the proportion of their ownership. Each owner is issued an individual K1 statement, which is just a form you file in your personal tax return.

For our hypothetical scenario, an individual investor would own 1/200th (0.5%) of the overall project. Their K1 statement each year would represent 0.5% of all income, 0.5% of all deductions, etc.

Real estate syndications are very tax-efficient.

Real Estate Syndication Pros and Cons

Here are some of the goods and bads that come with investing in syndication deals:

Syndication Pros:

• Passive income! Once you commit to a project as a limited partner, you don’t need to do any ongoing work. 
• Expertise and experience: Many syndication sponsors have decades of real estate experience and work in elite teams.
• Private equity investment: Shares in the investment are not publicly traded or transferrable, so your share in ownership won’t fluctuate or be diluted based on market volatility.
• Diversification (within asset class): Some syndications bundle a handful of properties (like a fund), so your risk is spread across multiple properties and rental income streams.
• Very tax-efficient: The people doing the syndication taxes are experts in maximizing every real estate tax benefit available for the project.
• Limited liability: As an individual investor, you are protected from any horrible things that happen. The worst case scenario is you lose all your invested money — nobody can come after you for the rest of your assets.

Downsides to syndications:

• No control as a limited partner: You have no say in how the company operates. (This isn’t a big deal if you align well with the sponsor and trust their decisions.)
• No liquidity: Your capital is invested for the entire project and you can’t sell or “cash out” midway through.
• Hard to find and qualify: Some syndications are invite-only. It’s hard to participate when you don’t even know a deal is happening in the first place! Some syndications have a minimum $100k buy-in, and many require you to be an accredited investor.
• Risk of losing capital: There is no guarantee that the project will be a success. (This is true for any investment.) All the risks for each syndication are clearly detailed in the contract.

How to Find Real Estate Syndication Deals

Good investment opportunities don’t just fall in your lap. Well, sometimes they do, but for the most part you gotta go out and hunt for them! Here are a few ways you can find syndication deals…

First, there’s the old school networking way (this is how I learned about this stuff). I went on BiggerPockets.com and typed “syndication” into the search bar. One hundred names popped up and profiles of people who work in that arena. I clicked on all these people’s profiles and read their blog posts, comments, website links, and anything they had to offer. Then I narrowed that list down to about 20 of interest, and asked each person for a 15-minute phone call to introduce myself. 

Networking is all about asking good questions (and being genuine). People in real estate love to help beginners learn. If you respect their time, they can help you learn about partnerships and deals, or at least point you in a good direction.

Next, listen to podcasts: Start with this one –  The Best Ever Real Estate Podcast. This is the longest-running real estate podcast started by a syndication legend named Joe Fairless. There are more than 2,000 episodes, many of them about syndications, raising capital, and interviews with real sponsors. Not only will you learn more about the syndication ecosystem, but you’ll also hear names of people and companies to research. BiggerPockets also has a great real estate podcast yet a much wider scope on real estate investing, not just syndications.

A golden rule of investing is: “Don’t invest in things you don’t fully understand.”  So take this education stuff seriously and learn about syndications at your own pace. There’s no rush to invest in deals.

Real Estate Crowdfunding

A relatively new way to find group real estate projects is via crowdfunding websites. I want to be clear before recommending these that I personally have not invested with any of these platforms (yet ), so please do your own research!

That being said, here are 3 platforms I know have an excellent reputation.

1. Crowdsteet is one of the largest and most experienced portals, offering accredited investors direct access to individual commercial real estate deals. There’s a huge amount of deal flow, so it’s great for investors who want to use one platform to invest in many syndication deals.
2. Fundrise primarily offers diversified funds in the form of eREITs, which are designed for passive income, or eFunds, which are designed for growth investing. Their unique structure makes them one of the most accessible options for non-accredited investors.
3. RealtyMogul is one of the oldest investment platforms and has a pretty diverse mix of investments for both accredited and non-accredited investors.

This is one of the longest blog posts I’ve written, so bless you if you made it all the way here.

Hit me with any questions in the comments and I’ll do my best to help answer!
– Joel

[This post, What’s a Real Estate Syndication? A Hypothetical Example…, was first published by 5am Joel on Elite Edge Money]

Hey there, money nerds! 

How’s your 2020 tax return going? Who else out there besides me gets turned on by a long 1040 Form, multiple 1099-MISC’s, sexy AGI, and itemizing deductions for their MFJ status? (and who has no clue what the heck I’m even talking about? → don’t worry, that’s what H&R Block is for!)

Anyway, I just received my annual Profit and Loss Statement for my rental duplex for 2020, and I thought some of y’all might be interested in checking it out.

It’s basically a summary of all income and expenses that my property management company reported in 2020. They send me one of these for every property, every year, which I use for tax filing.

Also, it’s really handy for calculating the annual ROI for this investment, which I’ll do within this post.

Example of a Profit and Loss Statement for a Rental Property

Here’s what my P&L for 2020 looked like:

INCOME: In 2020, we had 100% Occupancy and 100% rent collection. Woohoo! Every investor’s dream! Especially given the pandemic challenges last year.

There are two units in this duplex. One pays $1,000 per month and the other pays $975 per month, so $23,700 total for the year.

EXPENSES: These expenses listed are just the items that my property manager handles. So insurance, property taxes, and mortgage payments we’ll look at separately in the overall ROI in a bit.

• Property management: I pay my property management company 7% of all collected rent.
• Commissions are paid for renewing tenant leases. Last year there was only 1 renewal, and it’s calculated as ¼ of 1 month’s rent (Unit #2 renewed at $975/m. The other unit was on a 2-year lease.)
• General repairs: From my monthly detail reports, I can see this is mostly toilets, sinks, dishwashers and stove repairs here and there, etc.
• A/C & Plumbing: I’m not sure why plumbing is broken out separately, but I like how the HVAC has its own line item. From memory, this was preventative maintenance and cleaning. New A/C units cost about $5-6k when they blow up, so keeping them clean and up to date is important!
• Landscaping seems big, but it works out to about $15 per week. The lawn peeps come every 1-2 weeks depending on the season and do the front and back lawns.

All in all, total income minus expenses was $18,832 last year.

Now let’s add in the other 3 big things that I pay separately for this property. This helps calculate my actual profit in 2020…

PITI: Mortgage Payments, Insurance, and Property Taxes for a Rental Property

Investors sometimes call this “PITI,” which stands for principal, interest, tax and insurance. Here’s the PITI expenses we paid in 2020:

Mortgage Payments: $7,938.60 in total

• $2,830.97 was principal
• $5,107.63 was interest

Property Tax: $5,185.42

Insurance: $1,042

It’s important to note that mortgage principal isn’t technically an “expense” because this money is actually applied to paying down the loan balance. So the $2,830.97 in principal payments was paid to myself, and therefore we can remove it from our overall expense tally.

Total PITI (without principal paydown): $11,335.05

OK, now let’s add this all up and see what the real profit was for 2020…

This duplex made me and my wife $7,497.05 last year.

This was made up of $4,666.08 in positive cashflow and $2,830.97 in loan balance paydown. Not bad!

What About Property Value Appreciation?

Another thing we could calculate into our annual profit is appreciation. The value of the house could have risen in 2020, making us even more money.

But I have no idea if it’s really increased in value. There hasn’t been much buying/selling in my area this past year, particularly for duplexes and fourplexes, so we can only make a rough guess about changes in value.

I could pay for an appraisal or competitive market analysis, but unless I’m looking at selling, I don’t really need to know how much the place is worth currently.

So at this point, I’m gonna just use our actual *realized* profits of $7,497.05 to calculate the ROI for the past year.

Total Return on Investment for 2020

To work out the ROI, I’ll take the total 2020 year gains ($7,497) and divide it by the value of the investment at the start of 2020 ($102,973).**

($7,497 / $102,973) = 0.0728.  So basically, that’s about a 7.3% ROI.

Not great, but definitely not bad. We didn’t include any appreciation or tax advantages, which would boost this number.

**For those of you wondering how I arrived at the investment value at the beginning of 2020… I used a $220k valuation, minus the outstanding mortgage on Jan 1 of last year, plus the balance of my emergency reserve account at the time. Happy to debate with you over a better way to do this – or if you have other ways you work out ROI within a single year, hit me up in the comments!

Other Good and Bad Notes for This Rental Property in 2020

Just for annual review purposes, I like to jot down a few goods and bads for the year. It’s mostly for my own records so I can remember back later in life. For other co-owned properties that I manage, these notes I usually send to my partner investors to keep them in the loop.

Good stuff from 2020:

• 100% occupancy
• 100% rent collected, no late payments
• No major repairs or emergencies
• Tenants happy and likely to renew

Bad stuff from 2020:

• property taxes took a ~9% price hike
• We didn’t increase rents at all

Is 7.3% a Good Return?

Well, in 2020, the total stock market index increased by 21%!!   My piddly little 7.3% doesn’t look so great standing next to a kickass stock market year.

That being said, this rental property serves a specific purpose within our long-term retirement plans. It’s a really flexible asset that will give my wife and I various income options later in life. It’s not always about chasing the highest return in a single year.

For a stable property that doesn’t take much of my mental energy to manage, I’m fairly happy with a ~7% return year over year. (Appreciation may add another 2-3% or so on average per year, which is great too). This isn’t a slam dunk investment, but it’s definitely not a loser.

How are your rentals doing? I know a lot of landlords are hurting right now – especially those who own vacation rentals. Do you other investors do annual reviews like this?

Cheers, and have a great week!
– Joel

PS: Seriously if you haven’t figured out your tax stuff yet and are looking for help filing online, HR Block has a FREE basic filing service, as well as they’re offering 20% off these packages for easy self filing!

[This post, 2020 Review and ROI of My Rental Duplex, was first published by 5am Joel on Elite Edge Money]

I got the following note from a reader the other day…

“Joel, I noticed you keep a big emergency fund for your rental property. 2 questions for you…

1) It seems like you have too much cash because shouldn’t you only need 3-6 months of mortgage payments as a cash reserve?

2) Also why do you keep this emergency fund separate from your personal emergency fund?”

Great questions! It’s been a while since I calculated how much to keep in rental reserves, and admittedly I do probably have too much right now! So in this post I’m gonna run some math and figure out just how much I should really be stockpiling for emergencies.

Right now I’m sitting on $14,360 in my duplex emergency savings account. If it turns out I’m holding too much cash, then we have the fun problem of figuring out where to put the excess!

How Much Emergency Fund Do I need for a Rental Property?

A general rule of thumb is about 3-6 months of expenses. While some investors only account for “PITI,” which stands for Principal + Interest, Tax and Insurance, I like to add a few other expenses in there to be on the conservative side.

Here are the PITI expenses for my rental property in Texas:

• Mortgage payment: $662 per month. This covers principal and interest only.
• Property tax: $432 per month. This is based on my 2020 tax year bill of $5,185. It increases slightly each year.
• Property insurance: $87 per month, based on my 2021 policy of $1,042 for the year.

Total “PITI” expenses = $1,181 per month.

There are 2 other expenses I like to add, and I’ll explain why:

• Utilities when vacant: ~$100 per month. When a rental property is vacant, the utility companies charge the property owner instead of a tenant. Even though there’s nobody living in the unit, workers need power for tools to fix stuff, and in Texas we need to keep the air conditioner on to make sure no moisture builds up in the house during hot and muggy days.
• Lawn maintenance & pest control: ~$75 per month. These expenses are necessary for all housing, whether I’m receiving rental income or not.

Total monthly expenses: $1,356!

All in all, based on the 3-6 months of expenses rule, I should keep somewhere between $4,000 and $8,000 in emergency savings.

Will this be enough to get me through an emergency? Let’s go through some potential disasters and look at the potential costs in an emergency scenario.

Disasters That an Emergency Fund Should Cover

The point of having an emergency fund is to cover unexpected expenses when shizzle hits the fan. Here’s what my emergency fund is mostly protecting me against…

Once-off disasters with large, upfront costs:

• Wind, Hail & Fire Disasters are covered under my insurance policy. My deductible is $2,310.
• Large appliance disasters like an A/C blow-up ($5k), water heater replacement ($1-2k), fridge/stove/kitchen appliance breaking ($1k).
• A new roof would cost me about $6k.
• Trashed units happen sometimes when a tenant moves out. If there’s property damage, it could be covered by my insurance policy, or if I need a small renovation I wouldn’t expect more than $5k of fixes needed.

This tree came down during a big storm a few years ago. Luckily, it fell the way it did. If it fell the opposite way, it would have hit my building, caused major damage, and displaced 2 tenants!

Longer term disasters are scarier, because they bleed you dry over months/years:

• Vacancies: With no rental income, I’d be missing out on $1,950 per month (my hard expenses are less — $1,356 per month like we calculated above). The beauty of having a duplex, though, is that it’s kinda rare to have both units vacant simultaneously. With only one renter in place, my loss is only half.
• Squatters or rent not being paid: Again, this would cost me loss of rent ($1,950 for both units per month). Thankfully, Texas has pretty decent laws that side mostly with landlords when it comes to eviction. The most I’ve ever had a squatter stay for without rent payment was ~90 days (under the first eviction moratorium in 2020).

So it looks like a 3 month cash reserve of $4,000 isn’t quite enough to cover some of the larger potential disasters. Personally, the minimum emergency fund I would like to keep is 6 months of expenses, so $8,136.

How to Build Up an Emergency Fund for a Rental Property

Before we go back to my personal scenario, you might be wondering if you have enough cash reserves for your rental property (or a new rental you’re planning to buy soon).

It never hurts to run through the exercises I just did above to evaluate your rental risks and potential disaster costs. Even if your bank tells you that “a few months of mortgage payments is enough to keep in reserves,”  you should save more if you think you’ll need it.

I always recommend people build and store a separate emergency fund for rental property in addition to their personal emergency fund. This way, your family and your assets can both survive separate disasters simultaneously. One is not dependent on the other for survival.

2020 was a great example of multiple disasters happening at the same time. As a landlord, I had a separate emergency fund for each rental property I own, as well as a personal emergency fund for me and my wife. It’s certainly a lot of cash to be holding, but boy were we resting well at night knowing we had plenty of runway should we be unemployed *while* have failing real estate at the same time.

Looks Like My Rental Savings Account Is Too Big :)

Well, we’ve determined that a safe 6-month emergency fund for my rental property would be around $8,136. I currently have $14,360 in cash reserves, so definitely more than necessary!

I like round numbers, so maybe I should drop this cash reserve account to an even $10k, and invest the excess $4,360 elsewhere. I could drop it into the stock market, pay down the mortgage a little, or see if there are any strategic upgrades to make to the property that could attract higher rental income?

I’d love to hear how other real estate investors store their emergency fund for rental property and any good practices we can all share!

Make it a great day,

– Joel

[This post, How Big Should an Emergency Fund for a Rental Property Be?, was first published by 5am Joel on Elite Edge Money]

Back in 2013, I bought 25 shares of Tesla stock. I remember seeing electric cars starting to pop up around my neighborhood at the time and thought they were so cool!

Like most beginning investors, I checked the stock price every 15 minutes after making the trade. (Actually that’s a lie — I probably checked the prices every 5 minutes! ). My $1,350 investment in Tesla started to rise and rise over the following weeks, and I was excited that I had picked a winner!

Just 18 days later, I was so incredibly pleased with an amazing ~70% return that I sold the 25 shares. Making $900 profit in just a few short weeks felt amazing! Woohoo!

Looking back now, however, I realize how much of a fool I was. (Still am in a lot of ways!). Tesla’s stock price has since increased more than 5,000%. If I had just held onto my original 25 shares, my $1,350 investment would now be worth about $106,000.

I bet we all have stories like this. Shoulda woulda coulda.

Advice for My Younger Self About Stocks

I shared this same story with a friend the other day. They laughed and said, “I bet you wish you could go back in time and tell your younger self not to sell those shares!”

While, yes, that’s a fun thought, truthfully if I could go back in time and give my younger self advice, I wouldn’t talk about Tesla at all. I would encourage myself not to buy any individual stocks whatsoever.

A lot has happened since 2013. A lot of changes and growth — and I’m not talking about in the stock market — I’m talking about changes and growth within myself. My personal financial education has grown by leaps and bounds. Over the last 7 years:

• I’ve read 100+ books on investing.
• I no longer try to time the market.
• I don’t pick individual stocks anymore. 
• I don’t get emotional about investing anymore.
• I don’t invest in things I don’t understand.
• I think long term. Quick profits don’t interest me anymore.
• My mindset is slowly shifting to capital preservation.
• I no longer want to be a mega bajillionaire. Just making $2-3M is plenty enough for my lifestyle.
• I’m not in a hurry to make money anymore. Time + compounding is my advantage.
• I don’t look at stock prices every 15 minutes. I try not to check the markets at all.

Going back in time and telling myself that Tesla will grow 5,000% sounds really cool. But it would be WAY cooler if I could go back and teach myself the 10 things I just outlined above. It would probably result in way more than an extra $106,000.

Here’s another big mistake I made. This time in real estate …

Advice for My Younger Self About Real Estate

In 2008, I bought an apartment in Hawaii. This was at the start of the housing collapse, so I thought it was a killer deal.

It started as a house-hack, but I transitioned it to a full rental property as soon as I moved out. From all the numbers I ran, the property should have broken even on cash flow each month.

But, after 2 years of ownership, I realized I was slowly losing money. Not a huge amount — but enough to get me scratching my head at the end of each year. Although I slowly increased the rent over time, it was not enough to cover the constant increase in expenses. HOA fees, leasehold fees, taxes, vacancies, etc… Death by a thousand papercuts.

I should have sold and cut my losses, but I couldn’t. I became emotionally attached. I fell in love with that apartment. I thought that if I held on longer, it would eventually increase in price and make up for all my losses. Houses always increase in price if you hold them long enough, right?

5 years later, still losing money, didn’t sell. 7 years later, still losing money, didn’t sell. 9 years later, still losing money, didn’t sell.

I really am a stubborn investor. This was a classic sunk cost fallacy.

Finally, after 10 years, I listed and sold the apartment. My rough estimate is that I lost about $50k over that 10 year period. It averages out to losing about $5k each year. It adds up quickly over time!

What I’ve Learned About Real Estate Investing

Same story with my stock trading mistakes… Changing 1 decision from 10 years ago would be freaking awesome. Oh how I wish I could go back in time and slap myself in the face.

But, the real estate knowledge I’ve accumulated since then (much of it learned from this failing property) is worth way more to me than saving $50k on 1 investment. Given the chance to go back in time, I would mostly preach to myself about basic real estate investing principles. Over the last 10 years…

• I’ve listened to 100+ episodes of the BiggerPockets real estate podcast, read tons of books/blogs about property investing, how cashflow works and managing properties.
• I went to real estate meet-ups in multiple cities and made friendships with other investors. I have mentors and investing partners now.
• I don’t get emotional about real estate anymore.
• I have very specific deal criteria when evaluating new opportunities.
• I hire other people for tasks I’m not good at (like property management).
• I scour my monthly management reports and look for errors and things to improve.
• I evaluate my Return on Equity constantly.
• I stay away from leasehold properties, HOAs, any anything that is not income producing from day #1.
• I learned that leverage only works in your favor if you borrow money at a lower rate than the rate your investment is increasing at!
• I consider my ongoing TIME investment before buying → passiveness is my priority now.

Going back in time and advising myself to not buy this property (or to sell it sooner!) would be nice. But I think having better principles as a young investor would have been way more valuable to me in the long run.

Should Have, Would Have, Could Have

There is nothing we can do to change the decisions we made in the past. And even if we could reverse a few big investment decisions, it would only change our bank balance — not the *more valuable* knowledge that comes from failing so hard.

OK, your turn… tell me some of the missed opportunities and screw ups you’ve had. Better yet, tell me what you’ve learned since then. Going back, would you give yourself individual stock tips, or broader investment principles?

[This post, 2 Big Investing Mistakes That Actually Made Me Smarter, was first published by 5am Joel on Elite Edge Money]

First, I must preface: this is not an anti-real estate post. I think real estate is an excellent wealth building tool, and don’t want to discourage anyone out there from buying rental properties.

That being said, I’m thinking about downsizing my rental portfolio this year, and don’t have any plans to buy more properties in the near term. A few people reached out and asked why I was selling, so here are my thoughts and feelings on the matter.

I’ll begin with some background info on which hopefully provides a more complete picture of how I got to where I am today.

A Real Estate Focused Upbringing:

My grandpa was a successful realtor. My favorite uncle was a successful mortgage broker. They both owned a handful of rental properties, and I grew up wanting to be like them. I heard from school friends that “most rich people are rich because of real estate”. Whether that’s a right or wrong statement, I didn’t care. I was always focused on owning real estate.

When I was 18, my parents had an opportunity to buy their first investment property. I jumped at the chance to invest with them, and put all my hard earned savings from McDonald’s to work. I was finally the proud owner of ¼ of a little 2 bedroom townhouse. Mum made me manage the books, and I quickly learned how cashflow worked. I loved it.

I remember my uncle sat me down one day when I was 19. He said, “Joel, you should save up enough money to buy out your parents’ share of the rental. Then, save up and buy a full place on your own. Then buy 2 more properties, then another 4 properties after that. Real estate multiplies.”  This didn’t really make sense to me at the time, but now I understand. I pretty much followed his exact advice, and 15 years later I owned over 20 doors (some myself, some with investing partners).

Anyway, the reason I am so real estate heavy today is because I had tunnel vision growing up. I never learned another way.

There Are Other Ways To Build Wealth?

I owned 3 properties before I really learned how a 401k worked. I had zero knowledge about mutual funds, index funds, or how to evaluate publicly traded companies (still don’t know how to do that actually). I was almost 30 before I began educating myself on other types of investments. 

I started hanging out with a new crowd at work. These people were maxing out their 401ks, always talking about the stock market, and they seemed to be making money hand over fist. (This was in the mid-2010’s). This was the moment I realized I should probably have a broader view about how to build my fortune.

Specifically, I recall 2 moments that humbled me:

1. I ran some numbers on the very first investment property I bought when I was 18… I compared its performance over 15 years of ownership to how the stock market performed over that same 15 years. Guess what I found? If I invested my cash in the SP500 back then instead of buying that rental, I would have earned almost the exact same ~9.5% YoY return (Comparison figures posted here if you’re interested).
2. I realized saving up cash for many years to build up a down payment had great opportunity cost. It took me about 7 years to save up 60k for my duplex. If I had been trickling that money into an index fund instead (better yet, inside a tax advantaged account like a 401k), I would be in a much better position today.

While investing in real estate matched my experience, personality and skills earlier in life, I’m not sure it matches my future.

So, here are the list of reasons — some technical, some emotional — why I’m slowly transitioning away from rental properties.

1) I don’t really find it fun anymore

This is listed as reason #1 intentionally. When my heart’s not 100% in on something, it’s very difficult for me to wake up every day and try to be a master at it.

I used to dream about buying large apartment complexes. In my sleep I would create imaginary rent rolls, vacancy rates, maintenance costs, and try to calculate the ROI in my head. (I know, this is really nerdy! But I couldn’t help it. That’s just where my mind drifted.)

Today, I don’t fantasize about real estate any more. I dream about other weird problems. Like, Why are so many people out there in consumer debt? How can I help this situation? Why isn’t personal finance taught as a mandatory subject in middle/high schools? How can I help change this?

2) Trying to better adjust my asset allocation

You probably gathered this from my backstory… I am heavy in real estate holdings and need to play catch up on the stock side of my portfolio. Some experts recommend having a 20% steak in real estate investments (not including your primary home). I’m like over 50% currently.

Since my wife and I don’t have great incomes right now, we can’t contribute huge amounts of new money into the stock market to correct our asset allocation. Selling a few rental properties and reinvesting that money into stocks is a quicker way to lower our overall real estate percentage.

Stephen Covey says, “begin with the end in mind”. If you asked me 10 years ago what my end goal was, I would have told you I wanted to own 100 x rental properties. These days, my perfect retirement portfolio is more like ~$1M in a pre tax IRA, ~$1M in a after-tax brokerage account, and 2 small rental props.

Since my end goal is changing, my strategy is accordingly.

3) It’s more work than I thought it would be

Owning a rental property is not “passive income”. It requires ongoing work. Owning 2 properties requires double that work. Owning 3 starts to bog you down more, and the problem only gets worse from there.

There are certainly systems and automated processes to help you manage scaling, but those systems also require more money and maintenance. All businesses reach a point of diminishing returns, and I’ve hit mine.

Don’t get me wrong – I’m not scared of hard work. I actually love working hard. But I’m chewing so much right now I don’t have room to bite into other projects I want to pursue. So I need to spit a little bit out.

Part of this realization — and this is completely my fault — is messing up on property classification. A few properties I bought thinking that they were “B class” and wouldn’t be much effort or hassle. Turns out they are more like “C class” properties, and have more maintenance and issues than I accounted for. Another time I’ll go into the massive differences between A, B, C, and D class properties, and why it matters greatly!

4) I own a couple of sub-par performers

My plan is to keep the best performing properties with the most prosperous outlook, and sell some of the lower ones that give me the most headaches.

They aren’t terrible investments, but they certainly aren’t winners either. My feeling is that I can make the same amount of returns with that money invested elsewhere, for less ongoing efforts.

I’ve asked other investors and mentors about holding onto low-performing investments, and I get split responses… Some people say, “Just wait. If you hold property long enough it’ll eventually make money”. Other investors say, “Get out ASAP. Sitting, waiting, and hoping for appreciation isn’t a good investment strategy”.

I kind of agree with both sides. So I’m going to do both. I’m going to keep a few rentals and sell a few rentals. Only time will tell if I’ve made the right decision. I’m not worried because my wife and I will survive either way.

5) Emotional Simplification :)

This might not make sense to some of you, but it’s weighing on me more and more. 

When you own rental properties, you take on a certain amount of responsibility for other people’s livelihood. I have 20+ families living under roofs that I own…  And even though I’m not responsible for them living their life, I can’t help but wonder if there’s something more I could be doing to help them.

Sometimes running a business means turning off your emotional side. It’s about numbers, profit, and what makes sense for the business. But, I am finding it harder and harder to do this. I’ve tried to play the role of ruthless asshole unemotional landlord – and it’s just not me. I don’t like doing business that way.

Maybe it’s the pandemic. Maybe it’s all the late rent, job loss stories, squatters, and evictions that are getting to me. Offloading some of my properties to another young enthusiastic entrepreneurial investor would be a win/win.

6) My relationship with “cash” is changing

As I’m learning more about investing, earning less income, and slowing down our route to FIRE, my feelings about cash are changing.

I used to LOVE storing up huge amounts of money in my checking account (it gave me freedom and flexibility to jump on new opportunities). But now, I feel the opposite. Any cash I hold is money that isn’t working for me. It’s a burden.

There are 2 problems I have with real estate investing and cash needed:

First, any new real estate purchases require a good sized cash deposit to begin. (yes, I know all about the $0 down options and OPM strategies – they are not for me). Since my wife and I have lowered our income, it’s difficult for us to save up a large deposit. Saving up money in cash over many years means it’s not earning good compound interest in the meantime. I don’t want to do this anymore.

Second, owning rental properties means you gotta have large amounts of cash reserves for each property you own. It feels good when you only own a few places, but as you scale you realize that you’re holding onto multiple emergency funds. I’m uncomfortable with how much cash reserves I’m sitting on.

7) I can always buy more real estate later, and in other ways.

Buy and hold rental properties isn’t the only way to invest in real estate. There are a ton of strategies out there, each with different pros and cons. Private partnerships, money lending, REITS, crowdsourced investing, etc.

I’ve got decades to study, learn, and experiment with different methods of buying more real estate. While none of these excite me right now, that doesn’t mean I can’t change my mind and invest more later.

My reasons don’t need to be your reasons!

Sorry if some of my dot points above sounded complain-y. They are all good problems to have! Hopefully you have insight now into why I’m transitioning away from owning individual rental properties.

But just cause I’m selling stuff, that doesn’t mean you shouldn’t be buying stuff! Real estate has been a wicked (and fun!) vehicle for me so far in life, and I LOVE helping beginners roll up their sleeves and get involved in new rental projects.

Would love to hear from you guys with similar experiences, or opposing views. Shoot me a note or post in the comments below. :)

[This post, Why I’m Transitioning Away from Rental Properties, was first published by 5am Joel on Elite Edge Money]

I got a question recently from a reader about my net worth tracking…

“I was curious why you’re not including your primary residence in your net worth equation? I know many people say it’s not an asset. It’s your home, you have to have a roof over your head, etc. 

Just wondered the reason. I include ours in the equation but didn’t know if that’s the typical way. :)”

This question pops up a lot, and it sparks a pretty interesting debate. So I thought I’d share my reply and thoughts with y’all. I’ll also talk about why including your home equity in your net worth calculation could either help or harm your retirement expectations, along with some hypothetical examples!

Oh, and to answer that first question about my personal situation… The reason that I don’t include my residence is because my wife and I don’t own the house we live in. We are renters… and happy ones at the moment!

Is Your Primary Residence an “Asset”?

In general, yes. When you’re taking a snapshot of your net worth, your house can be included in the asset column (and corresponding mortgage in the liability column). 

So why do so many people leave their residence out of their net worth calculation? All assets should be included, right?

Well, that’s where we reach a fun grey area…

Remember, Income Production Is a Big Part of Net Worth 

A net worth report is just a wealth snapshot from a single point in time. It doesn’t actually explain someone’s true financial trajectory or readiness for financial independence.

Specifically for retirement planning, we need to try and look past an individual net worth snapshot, and try to envision a long-term stream of income. After all, that’s what we’re really saving up for … recurring cash flow we can live off of, not just a big pile of “assets.”

Most primary residences don’t provide income (unless they are sold, refinanced, or rented out). So this is why some people leave out home equity in their net worth reports, because they are more concerned with tracking and growing income-producing assets only.

Here are some examples to illustrate the impact of including (or not including) home equity as a part of your net worth calculation…

Net Worth Examples: *Including* Home Equity

Cameron, Alex, and Jamie all have a personal net worth of $1 million dollars. They have been diligently saving, paying down debt, and investing for the past few decades.

They are all in their late 40’s, have paid off their mortgages, and own their primary residences free and clear. They have zero credit card debt. Woohoo!

Here are their current net worth reports side by side:

On the surface, it would appear that all three of these people are just as wealthy as one another, because their total assets and overall net worth values are all equal. All $1 million.

But, if we drill down into what type of assets they each own and start retirement planning, we uncover a totally different story. Each asset serves a different purpose, which affects how these people meet their financial goals.

Let’s drill down into each individual situation and discuss retirement savings…

Cameron Wants to Retire Early

Cameron’s FIRE buddy recently said, “With a $1M net worth, you can withdraw $40,000 each year (based on the 4% rule), and never run out of money again!” 

Cameron loves this idea, because their expenses are about $40k per year. Retiring early would be awesome!

But, Cameron quickly finds 2 problems with their net worth…

1. They can’t withdraw any money out of the primary residence. Even if they did a refinance or got a home equity loan, they couldn’t withdraw enough money to provide $40k consistently year over year. Cameron doesn’t want to sell the house or move out, so this $700k “asset” isn’t really useful for retirement.
2. Cameron can’t pull any money out of their 401(k) retirement account either – until age 55. (Technically it’s possible to withdraw funds early and pay penalty fees/taxes). So this $300k “asset” isn’t very useful right now either, and wouldn’t last very long if they started withdrawing money from it anyway.

So, even though Cameron has a net worth of $1M, those underlying assets can’t help them retire. 

Cameron needs more income-producing assets to make up their retirement savings.

BTW – this is why people sometimes call their primary residence a ‘liability’ instead of an ‘asset’. Cameron’s $700k in equity seems more like a burden than a help at this stage (based on the goal of retiring early). Cameron has a lot more saving/investing to do before they can use the 4% rule to retire.

Alex and Jamie are in a slightly different financial situation, which we’ll get into in a sec…

Net Worth Examples: *NOT Including* Home Equity

Now let’s look what happens if all three of these hypothetical people *didn’t* include their primary home in their net worth statement. It paints a different picture…

By removing the primary home equity, we now see a pretty huge difference in personal net worth. This gives us a bit of a better view into each of their individual paths to financial independence.

Let’s talk about Alex’s and Jamie’s financial goals…

Alex and Jamie Want to Retire Early, Too

Alex and Jamie also learn about the 4% rule, and both anticipate needing $40k per year in income for retirement.

They each take different routes to reach FI…

Alex realizes they have a $500k net worth and are exactly halfway to their FI number of $1M. Alex plans to knuckle down for another 5 years, putting all excess savings into their after-tax brokerage account. With compound interest on their existing retirement savings, it’s a quick journey to the $1M. Yeehaw! 

Jamie has the highest net worth out of them all, at $800k (excluding primary residence). Being fairly close to achieving true financial independence, and still relatively young, Jamie decides to do something a little unconventional…

Jamie decides to rent out their primary residence, and travel abroad for 4-5 years. Jamie has always wanted to live in South America, volunteer, and already researched 5-6 cities there that offer a comfortable lifestyle for around $35,000 per year. 

Jamie quits their 9-5 day job and buys a 1-way ticket to Panama.

Now that Jamie’s home is no longer a primary residence (it generates rental income and monthly cash flow), the house can be added back to their net worth statement as a “rental property” asset…

Since Jamie now has $1M in net worth made up of income-producing assets, and only needs ~$35k in retirement income the next 4-5 years, they have achieved temporary financial independence living within the 4% rule.

Sometimes Including Home Equity in Net Worth Is a Good Thing

From the scenarios above you might be thinking that adding your primary residence as an asset in your net worth is a bad thing. But, there are definitely benefits to tracking your home equity:

First, it helps track your mortgage paydown and progress, and overall debt to equity ratio. Over time, your house increases in value, and the mortgage slowly decreases in value. It’s fun to watch your equity grow organically, and it’s motivating to track constant progress!

Banks, lenders, and potential business partners like to see ALL your assets included in your financial statement. The more assets you include, the better financial health you appear to be in, and the more favorable you look to do business with. Tracking everything is a good thing in the banking world.

Lastly, even though your primary residence might not be income-producing right now, it might become part of your investable net worth later. Recall Jamie’s scenario above… assets can change in purpose over time, so it’s good to track everything and always consider your options.

Should You Include Your Primary Home in Your Net Worth?

All in all, this is something everyone can really decide for themselves. I think the answer strongly hinges on what you are using your net worth report for.

If you’re tracking your progress to financial independence, and retirement is your sole goal, be careful about including assets that you can’t rely on for retirement income. If you include too much dead equity, you could be artificially inflating your progress to FIRE.

I’m curious to hear what you readers do. Or maybe you keep multiple net worth tracking sheets? It really only takes a few minutes to update – why not do both!?

[This post, Should you include your primary home in your net worth?, was first published by 5am Joel on Elite Edge Money]