How can you measure if you do not know what you are invested in? For some of us, we tend to fail to look at what we could potentially get with our investments because we do not have any idea where we are investing in the first place. That is why we tackle this head on as we talk about getting on the right path to practical real estate investing. We lay down some scenarios that will have you thinking where to get the right value. Talking retirements, we also cover 401(k)s, IRAs, and more.
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Investing In Real Estate
We’re going to be talking about investing in real estate. Let’s talk about getting on the right path to practical real estate investing. Oftentimes, it’s hard to describe what you do. You’re out at an event, you’re in an elevator, somebody says, “What do you do?” A lot of times people stumble. I’m like, “I’m an investor. I flip houses.” It doesn’t cause people typically to say, “Tell me more about that.” You’re like, “All right, next.” It’s because you only have about ten to fifteen seconds at most. Do you want to share with us our one-liner?
We believe that most people lack control of their financial plan. Once we can show them how to create wealth through real estate, they can become confident in the future. That sums up everything we do.
In our wealth building workshop that we do is twice a week, Tuesdays at 6:30. We had a good crowd. It was interesting to ask people because it’s an interactive thing. It’s not like going to the movies where you’re not getting to interact with the screen. It’s live, interactive, and it’s never exactly the same every single time. I realized that the audience is a little bit different and one of my goals is to add value to the people that are in the audience. When you have people that are coming and are trying to build wealth and income versus people that are just trying to make money, there’s a difference in that. I want to address what they’re asking for, but I also recognize that most people don’t come looking at, “How do I invest in real estate?” Even knowing the right questions to ask. I want to provide them not only what are they asking, but also I want to provide them with what they should be asking if they knew what I know for example. I want to give them both. I don’t just give them what I think they should be asking.
They’d feel that they didn’t get what they came for.
Almost everybody in the room has money in a 401(k) or in an IRA, not a self-directed through Quest Trust. It’s a 401(k) or an IRA through their employer and their job that they’ve set up. I said, “How many of you all that have a 401(k) can tell me every single thing that it’s invested in?” Not one person said yes to that out of six people.
It was six professional people. These weren’t 22-year-olds that just got started.
I don’t think we had a single person under 30.
They were all either working age or retired and had all these retirement accounts. Not a single person in there could tell any of it.
If you’re invested in equities, then what you realize is that you own a portion of a business. I asked the question, “Economics 101 says if you’re going to buy a business or a portion of a business, do you want to buy a business low or you want to buy it high?”
High is not the right way to do it. You can go low.
Most people say, “Buy low and sell high with anything.” If you don’t even know what you’ve bought, how do you know if you bought low? I feel silly even asking the question. I’m not trying to make anybody feel stupid or I’m not trying to make anybody feel uncomfortable, but it is a head snap moment. What I’m trying to ask is, if you’re 401(k) or your IRA is your number one way that you’re working your way towards retirement, how do you ever measure how you’re doing? For a lot of people, it’s nothing more than a statement that says, “It’s red or it’s green.” Almost every statement, they print statements in color now or an email to save trees.
What blows my mind is when people are making a $200 purchase, they’re comparing Amazon or Best Buy. They’re looking to see where they can save the $20. They’re looking to which one is going to be the right purchase, but when it comes to something so important as their family’s future, the end of their life, their golden years.
I read this article and we’re talking about value. Payless shoes put a gimmick. There was an Armani store in LA that had just shut down. What Payless does is they go and they take over that former Armani store and they create a new brand called Palessi. They have a big grand opening. They’re putting Payless shoes out there that you can only pick up from $19.99 to $40.99. They invite some influencers, some people that have hundreds of thousands of followers on social media. It’s a champagne grand opening and all that stuff. Nobody knows that it’s Payless. They think it’s this new designer and they’re noticing the quality. Some people are willing to pay $800 for a pair of shoes. They go to the cash register and pay the money. Payless didn’t accept their money, but they let them go through the transaction and then there was a big reveal. How often can we compare value? That’s worth something like shoes.
That’s something that you could easily go out and buy for $19.99 or $49.99 and somebody is willing to pay $600, but that doesn’t mean that you’re getting value for your dollar. It’s one thing if you made a bad purchase on a pair of shoes. It’s the mindset, it’s the thinking that goes into, “Am I getting value for the dollar?” We know that we can take that to extremes. I had a bookkeeper told me that she was proud of herself. She was not balancing on her books one time and she was off by two pennies. She spent six hours tracking down and finally found where she was off on those two pennies. I said, “If you ever do that with me, you’re fired because that’s one of the dumbest things I’ve heard. You make $20 to $25 an hour. You just spent $150 of my money trying to find two pennies when all you had to do was just do a journal entry that says I lost two cents and move on. You could have done that in five seconds and then you would have balanced.” You can overthink it to the point where you’re not getting good value for the dollar. I’m not trying to teach that, but I am trying to teach, “How can you measure if you don’t even know what you’re invested in? How do you know if you’re buying low?”
I’ve given this example before, but it was worth repeating. I’ve talked about a flower shop. Let’s say that there’s a flower shop that’s making $1 million a year. If the owner was completely passive. He brings in $1 million a year of net profit and he never goes to the flower shop. It is self-managed. There’s a general manager, there’s a CEO, a CFO. They do $10 million a year in the sale and 10% gross margin. They’re making $1 million a year and they’ve been doing that for years and years. Finally, the guy that’s making million dollars a year wants to retire. He just wants to cash out and he wants to get as much for it as he can. Would you bid $1 million for that? That’s a 100% rate of return. Buffett would do that in a heartbeat. Would you pay $2 million? If I got a million, would you give me $2 million? That’s a 50% rate of return. That’s $4 million and that’s a 25% rate of return. Would you invest $4 million? We lost everybody at the $8 million mark.
For me, the $8 million mark, I’m still in. It’s 12.5% and it’s safe and guaranteed. I’m still in at 12.5%. When you get down to 10%, there are so many other options because we know enough about real estate, but not the average person who’s getting the 7% in the stock market or less.There is a difference between people who are trying to build wealth and income versus people who are just trying to make money. Click To Tweet
You can make 7% or you could lose 30%.
Depending on the day. We talked to a guy that had the exact same thing.
His portfolio has got to raise $70,000 to get back to even. He went to negative $70,000. That’s not winning. At $10 million, that’s a 10% rate of return. What we’re talking about is a P/E ratio. I’m talking about at what price would you pay for earnings? That’s what investors are evaluating. At a $5 million for $1 million of earnings, that’s a five P/E and then at $10 million and $1 million, that’s a 10 P/E. Most people don’t look at a P/E. If you don’t even know what stock you own, you certainly don’t know the P/E.
Let’s assume most people are invested in the Fortune 500s. The Big Boy stocks, the safe ones are Apple, Amazon, Exxon and that stuff. What does the average P/E for Fortune 500 companies?
Apple is 17.5. In other words, you’re paying $17.5 million for every million dollars in net profit that they bring in.
Most people would be way out of the flower shop.
They wouldn’t buy on a 10 P/E. The average P/E of the Fortune 500 is over twenty. That means you’re paying $20 million for a flower shop that makes a million, which doesn’t make sense from an evaluation standpoint. If you know that the goal is to buy low, sell high and you’re not doing that in your investments, how do you ever get to a successful retirement?
It’s been a couple of weeks since we had a call. I can’t believe everybody out there have no question. Houston must be on top of things.
I’m surprised that there’s not somebody asking a marketing question or a funding question. I got in a conversation at the Redneck Country Club event. If you hang around with me for very long, you’re going to know where I stand on everything. I’m transparent like that. I’m good friends with Mitch Stephen. My Life & 1,000 Houses is a book that he’s written. I’d call him the Seller Finance King. He buys properties in all different ways. He buys some subject to, he buys some for cash. He’s been doing it a long time. He’s got this system. He’s got a couple of hundred credit cards with big dollar amounts on them. He buys a lot of houses on credit cards, but I don’t recommend all of that. I’ve done the math comparing, if I have 100 houses and I sell them all seller financing, what do I have at the end of 30 years? If I buy 100 houses as buy and hold, let’s say an average house of $150,000, what do I have 30 years from now? 30 years from now I have a big asset number if I do a buy and hold. Thirty years from now, I’ve got nothing. I like that when I look at one strategy versus the other. Do we ever do a property seller finance? Absolutely. Do I like that as a strategy for doing every single property? The answer is no.
A guy came up to me and he does a lot of seller financing, but he tries to find everything subject to because he’s part of another real estate group and that’s what they teach. They attract a lot of people that come into real estate with no money. Part of their stick is if you could buy all the houses with no money, no job, no credit, how many could you buy? The answer is all of them. There are exceptions to this. We bought a property subject to and we haven’t closed on it yet, but we contract it and the people are not behind in their mortgage, which is highly unusual. We’ve been doing this for five years and it’s the first one that I know that we’re buying where they’re not behind in the mortgage. They only want about $5,000 to move out. They just wouldn’t just want to walk away and they want $5,000 and it doesn’t need a lot of repairs. That is such a white elephant type of scenario that happens.
This is where I see an issue with a lot of the people that are in this space and doing what we do. We know that those white elephants exist so what happens is, somebody takes that white elephant and they build a case study out of it and then they start marketing it. They’re taking that white elephant and they’re trying to trick people into coming to see what they’re doing and to do it with them knowing that you can’t do that very often.
To me, it’s so rare. You remember being a kid. A seven, eight, nine or ten years old kid playing some baseball and everybody is like, “Tom Perry, the bottom of the ninth. The base’s loaded. World series, game seven. Grand slam, home run. Stomp on the home play.” You can’t build a business model out. Could you do that year after year? No, you can’t. That’s a once in a lifetime thing. What we oftentimes talk about is, it’s great that you did that one time and you’ve got to have the skill set to be able to do that. Is it duplicatable and repeatable? Can you do that 100 times a year? Imagine you’re in the flower business and you cultivate a rare flower. Could you imagine a scenario where you could create this perfect flower, could it sell for $1 million? Potentially, I guess. What I really count on that is my business model going forward selling $1 million flower?
You hear a lot of this statement in the car industry. They say, “We’ve got this new Toyota Tundra for $18,888.” You show up and you’re like, “I want that.” They’re like, “We only had one of those. You’re late. Somebody got here before you, but we’ve got all these other things.” If you’ve got to do that to get people in the door, if you’ve got to trick people into this business, that’s not what this business is about. This business is about creating wealth and you can do that with a simple repeatable process over a long period of time, even a short period of time.
We have a question, “What markets are you in and out?” My short answer is the real estate market. That’s an ambiguous question. I assume you don’t mean real estate versus the flower business. We’re not in the flower shop business, but we tell stories about it. We’re in the Houston market. It’s where we broadcast from. We’ve done properties in Houston, Dallas. I’d never done one in San Antonio. I’ve got a property in Comfort right now. We’ve done it in Beaumont and we have students in Seattle, San Francisco, Kansas City, Tennessee, Nashville and Memphis. We’re tied in through our students. We know what we’re doing works across the country. Some markets are better than others. One of our students in San Francisco buys three properties a month here in Houston because rental properties are his strategies. There are four ways to make money in real estate. There’s single-family buy and hold. There’s buy fix and flip. There’s wholesaling and that’s where you get a property under contract and you sell the contract.
The fourth one is being a lender. We teach all four of those ways. He lives in San Francisco and it’s impossible to get a single-family house to cashflow as a rental in San Francisco. It is not only possible, but it’s not uncommon. It is common if it’s done correctly. Here’s what I recognize. The lady stayed late and she was talking about like, “What about condos or townhouses versus single-family houses?” We got into a conversation about that and we also got into the conversation, “What about a paid off house versus a leveraged house?” Let’s say that I have $150,000 as a nest egg and buy a house for cash for $150,000. I can certainly do that. I pay taxes and insurance. Let’s say I rent it for $1,500 a month, which $18,000 a year. I’ve got $3,000 a year that goes out in taxes and insurance. I’m making $15,000 a year in cashflow about $1,250 a month. We get $1,250 a month at cashflow coming in and that property is going to appreciate about 7%.
You’ll get appreciation on that one property.If you don't even know what stock you own, you certainly don't know the P/E. Click To Tweet
You’ll get about $10,500. I said, “What if I divided that $150,000 up into five $30,000 chunks?”
20% are down on five similar assets.
What happens is when I’m leveraged five to one, I’m leveraging the appreciation. Instead of getting 7% on one property, I can get 7% on five properties. The question is, would you rather earn 7% on $150,000 or 7% on $750,000?
The cashflow between the one and the five is about the same, but you’re giving up over $40,000 a year in appreciation by not leveraging. For me, that’s a no brainer if it’s a self-collateralizing asset.
If you have 7% of appreciation on that $150,000, it’s $10,500. Five times $10,500 is $52,500. I’d rather have my portfolio grow $52,500. People that are coming up are smart, but we oftentimes make choices that aren’t smart. I don’t know why anybody would say, “I’d rather make $10,500 on $150,000 versus $52,500.” People don’t connect the dots on that map.
You can take it even farther. A lot of times when we make decisions, especially financial decisions, we’re thinking about, “What’s that happened in a year?” You’ve got to put that out five years to ten years. It’s not a $40,000 difference you’re looking at. In five years, that’s a $200,000 difference. In ten years, that’s a $400,000 difference or more than that because you’re going to be getting appreciation on time. Now, you’re looking at half a million in ten years.
If it’s $200,000 in five and $400,000 in ten, it’s $800,000 or almost $1 million in twenty years. You’re not working harder and you’re not having to save more. That’s just with $150,000.
That’s not $1 million total, that’s $1 million difference.
We’ve been doing this show to be three years in February 2019. A lot of times people say, “Is it a podcast?” We have a podcast component to it. It’s on iHeart and iTunes and TuneIn Radio. We had somebody said, “I listened to you on the radio, but I didn’t know that you also broadcast on Facebook.” We mentioned it a couple of times. If you go to FB.com or Facebook.com/RightPathRealEstate, we go live on the air and we’re broadcasting. If you had $150,000, you can leverage that if you had more. With $150,000, you could buy one house or you could leverage that and buy five houses. The real big difference on that is that right now in that price range, in that space, we’re averaging about 7% appreciation. This lady goes, “My friend has got a condo that’s worth $170,000 and it’s not appreciating like that.” I said, “That’s right because condos are different than single-family houses.” We got into that discussion. I said, “Look in HOA. Oftentimes, condos have HOA fees that are not $300 or $400 a year, but $300 a month.”
In the car business, people talk about that for every $5,000 of a car purchase price, it’s about $100 a month in terms of payments. A $25,000 car is about $500 a month with no money down. A $30,000 car is about $600 a month. When in houses, it’s about 1% of the value of the house. For every $100 a month, that’s $10,000 because you’re financing it over 30 years as opposed to over 60 months. If you’ve got a $300,000 house, it’s lower than this now because we have lower interest rates than normal. If you look over the last 50, 60 or 70 years, the median interest rate is about 6.5% to 7%. At 7%, it’s about 1% for the house. When you’re looking at what effect does a $300 a month HOA has, if it didn’t have the HOA fee, then that would be on purchasing power. You’d have $300 a month.
You’re decreasing the value of the property about $30,000. If you’ve got the payment on $170,000 condo or townhouse, plus you add another $300 a month, that’s the equivalent of a $200,000 single-family house. I don’t like $200,000 houses because they don’t normally rent for 1% of the value. You don’t get a $200,000 house that rents for $2,000 a month. Typically, they rent for $1,500 to $1,600 a month. What they were saying is in this townhouse area, it’s $170,000 townhouse and it rents for about $1,425 to $1,450 a month so it’s a negative cashflow. If you’re not getting positive cashflow and you’re not getting the same appreciation of the single-family houses, then you never will. Condos and townhouses don’t appreciate as much as single-family houses do.
They appreciate but nowhere near the same rate.
Given the choice for the average family, this is like supply and demand. Is there more demand for people that want to live in a townhouse as a family? Is there more demand for someone who wants to live in a condo? Is there a demand for townhouses and condos? Yes, but is there as much demand for townhouses and condos as there is for single-family houses? We can also say there’s not as many townhouses and condos as there are single-family houses. What I’d say is there’s always a greater demand for the single-family house. We’re talking about retail demand.
Would you consider the value of that townhouse or condo to be below replacement costs?
Yes, I would. If you look at new townhouses and condos, most of them are still $200,000 plus when they’re built brand new.
I would say that’s the only reason they’re getting the little bit of appreciation they have.Sometimes people will go in in order to close quickly. Click To Tweet
What we look at are duplexes, for example. We had this conversation with this lady. She wanted to ask about duplexes. I said, “With a single-family house, if I bought it as an investor, if I ever go to sell it, then I have two different potential buyers. I can sell it to another investor or I can sell it to an end user owner-occupant.” That end user owner-occupant could buy it retail. I’ve got two strategies. If I’ve got a duplex, you don’t typically sell duplexes retail because no one is going to buy both sides. Duplex exceeds single-family houses on a cashflow basis, but they fall behind single-family houses on an appreciation basis. Is there a reason to do that? Yeah, but you have to know that you’re choosing that. People aren’t oftentimes investing by design.
When you’re picking a place to go for a vacation, you’re picking it by design and then you work backward with how do I want to get there?” Oftentimes, people haven’t decided where they trying to get to a year from now, three years from now, five years from now and what’s the fastest vehicle to get me from here to there. I know people that have chosen vehicles and they’ve decided, “I want to take ten years to get from here to there.” Some people choose ten years because they’re giving themselves enough leeway to not have to do it aggressively or not knowing that that same thing can be done in five years. There’s a difference between not knowing it can be doing and be done in five years versus, “I know it can be done in five years and I still choose ten years now.” That doesn’t bother me. What bothers me is when people make decisions not knowing the cost of doing it differently.
When you’re talking about a duplex play, if you have somebody that is trying to build as much cashflow as fast as possible, that makes sense. If somebody’s goal is to build wealth over ten to fifteen-year period and they’re getting the duplex, which is creating cashflow, they aren’t necessarily making the right choice based on where they’re trying to get to. They’re doing that because they don’t understand.
We have a question, “If I had equity in my primary and I wanted to pull it out to buy investments, would there be a timeframe I needed to stay in the refinanced home and turn it into a rental?” Are you talking about turning your primary residence into a rental? Are you talking about doing a home equity line of credit or something like that?
She’s talking about doing cash-out refinancing. She’s also wanting to move out of the house she’s in and turn that into a rental as well. When you finance a new home that you’re living in, the mortgage company requires that you live there for a certain number of years. What she’s asking is, “Does that same requirement come along with cash-out refinancing?” I thought the answer to that is no.
Sometimes people will go in in order to close quickly and all that. Let’s say it’s a $150,000 house and they want to go in and use their own cash. They are not realizing that a lot of times, there’s a six-month seasoning requirement on that property in order for you to pull money out of it. That’s why a lot of people go ahead, especially when it needs rehab. They’ll buy it with hard money. They’ll get the purchase price and the rehab money because you might be all in let’s say 75% of what the after-repair value would be. Hard money lenders will lend based on the after-repair value, but traditional mortgages will only lend based off of purchase price. They don’t take into consideration what it’s worth when it’s finished.
Let’s say I’m going to buy a $150,000 house and let’s say it needs $30,000 in repairs. 70% of $150,000 is $105,000 and minus $30,000. Let’s say I’m able to buy it for $75,000 okay. Hard money lender would lend me $75,000 and then as I do the repairs, they’d reimburse me for that. Once I’ve spent the $30,000, I will have gotten all my $30,000 from the hard money lenders. They will lend me the full $105,000 of the $150,000. Then after the rehab is done, they’ll give me $105,000 mortgage. I can take that mortgage to a mortgage company and show them, “This is what I owe and they’ll run an appraisal.” They go, “It appraises at $150,000 and you’re only trying to refinance.” They’ll lend up to 80% of the appraised value on a refinancing. I’m not trying to pull money out at that point. If I were trying to pull money out, I’d have to wait six months. If I’m just trying to replace the hard money mortgage with a traditional Fannie May or Freddie Mac mortgage, they’ll do that three weeks to 30 days.
How do you feel about Livingston, Texas for rental? There’s Lake Livingston. We’ve looked at some properties for flips around Livingston. There are certain parts of Livingston that are in the flood area. Just like I was talking about HOAs for eating up equity, the same could be said about extremely high flood insurance. Flood insurance goes from $500 to $700 a year. I know a lady I talked to personally and she said, “My flood insurance five years ago was $500 a year and then it went to $1,000 a year and on the following year, it went to $2,000 a year. The next year it went to $4,000 a year and then it went to $10,000 a year.”
She’s talking about $800 a month for flood insurance. She says, “I can’t afford my mortgage anymore.” What you realize is that that’s eating up $80,000 of equity because an $800 a month payment to insurance is an $800 payment that’s not going to a mortgage. As long as it’s not in an area that is going to affected by floods because it’s in Lake Livingston. Are people living near Livingston? Yes. I like rentals anywhere that there are jobs and people wanting to be there. I don’t like small towns where there’s not an influx of people moving in or moving out. There’s got to be some jobs. There’s got to be people wanting to move there.
What I’d look at is I’d study, I’d get on MLS and I’d look at the ZIP codes and I’m like, “Where are the rentals and what are the average days on market for renting?” If I started seeing something, 120 days, what I want to see is 30 days or less. If you’ve got a good rental, I’d want to see at what price are they renting 30 days or less? Check your insurance numbers, check your taxes and then principal and interest and if the cashflow makes sense. I’d also look at is if it’s in an area that’s appreciating. What I like about Houston is the closer you get into Houston, this is where the jobs are. They’re out by the ship channel. They’re in the medical center. There’s never going to be a shortage of hiring near the medical center. There are $150,000 houses within a five-mile radius to the medical center. I’d rather have that. If I’m close to a hospital in Livingston, game on. This is the Right Path Real Estate. Do whatever makes you happy.