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Is Losing $800/Month in Cash Flow Worth $200K+ Equity?


Would you buy a rental property that loses money every month? What if, in a few years, that one property could make you hundreds of thousands of dollars? Would the negative cash flow be worth the massive appreciation upside? Today, we’re answering that exact question from an investor who could be sitting on a wealth-building opportunity but doesn’t know what decision to make. Should he buy the “bleeding” property at a steep discount or give up this needle in the housing market haystack to avoid a cash flow trap? Let’s find out!

We’re back on Seeing Greene as David and Rob, your go-to real estate investing experts, answer questions directly from BiggerPockets Real Estate listeners like you! First, an investor has a rare opportunity to buy “Grandma’s house” with over $200K+ in potential equity upside. The problem? It will LOSE $800/month! Next, a new property manager wants to know how to raise rents on a twenty-year tenant. Do you pay capital gains on the profit of your home sale or the entire amount? We’ll show you how to know how much you owe. Then, an investor debates selling his C-class cash-flowing properties in exchange for appreciating assets, and we explain the “sneaky rental” tactic that’ll take you to ten rental properties in no time!

Want to ask David a question? If so, submit your question here so David can answer it on the next episode of Seeing Greene. Hop on the BiggerPockets forums and ask other investors their take, or follow David on Instagram to see when he’s going live so you can jump on a live Q&A and get your question answered on the spot!

David:
This is the BiggerPockets Podcast show, 9, 4, 9. What’s going on everyone? This is David Greene, your host of the BiggerPockets podcast. Today we have episode 9 49, and if you don’t know what a palindrome is, go check out Google because you’re in one right now. We’ve got a great show for you on Seeing Green episodes. We get into listener questions from you, our base, we’re going to be talking about what you could do to build wealth through real estate with Rob adding his little spice into the seasoning. Rob, how are you today?

Rob:
Oh, sounding like a gremlin because I lose my voice so easily after I go to conferences, but I’m hanging in here, man. I’m excited to answer some questions.

David:
Yeah, well, we got some really good ones. So in today’s show we get into a lot of different things, including how to allocate capital when you’ve got a bunch of properties but they’re not performing super well. What asset classes you can consider moving into if the one that you’re in right now is struggling, how capital gains work and how you can use a cash out refinance to sort of get money out of properties tax free. And we start to show off with a great question about if somebody should buy a property that they know is not going to cashflow when they first buy it. All that and more in today’s seeing green.

Rob:
And most importantly, if you want a chance to ask your question, please head on over to biggerpockets.com/david. The link is in the description down below. Pause this, send us your questions and let’s jump back in.

Tony:
Hi David, I’m Tony. I’m from San Jose, California. My wife and I have an opportunity to buy her grandmother’s house off market for about eight 60 and it’s worth about 1,000,050. It does need about 190 repairs. We’re looking at possibly making it a long-term investment due to the equity and appreciation value that it has gained in the last couple years. Unfortunately, the rents aren’t going for what the mortgage will be. I would be upside down about six to $800 a month, but long-term, would it be a good investment for us to maybe take the hit now without cashflow and potentially have a good investment later? We would have to make it our primary home, so we will offset some rent, but it’s not going to be the full mortgage payment. What do you think, David? Thank you.

David:
Ooh, Tony, man, I love questions like this. We are going to get into some good real estate investing conversation right now. This is the age old question of which has caused me to be labeled a heretic and blasphemer of real estate sound advice. Rob, I just want to thank you for always sticking by me, even as people have criticized me for saying there is more than just cash flow when it comes to investing in real estate. And questions like this, highlight the age old question, STH versus Jedi, orc versus elf and cashflow versus equity. So let’s break this down. Tony’s got an opportunity to buy his grandmother’s property in San Jose, which is a high appreciation market in the Silicon Valley area of California where all the tech companies are. If you have an iPhone, it was probably made down there. He could buy it for significantly under market value, which I call buying equity.

David:
So he’s going to be in for eight 60. It’s worth about 1,000,050 needs $190,000 worth of work, but I am assuming if he spends the money to fix it up, that will also increase the ARV by at least that same amount. Otherwise, when it makes sense to do the work, not really, the problem is it’s not going to cashflow. He’s going to be bleeding 600 to $800 a month when he first buys this property. So I’ve got a way of looking at deals like this and we’re going to get into that in a second here, but we’re going to be talking about if someone should ever do something like this, a few other details to include if he buys it from her. According to California’s prop 19, he won’t have the property taxes readjusted. He’ll be able to take over whatever the property taxes are currently if it’s grandmother or grandfather or father, mother to, did I say that wrong?

Rob:
You could say no. I was going to say you could say if it’s grandmothered in,

David:
That’s probably exactly where that phrase came from. That’s exactly right. So he’ll get to keep those old property taxes, but he’ll be bleeding 600 to $800 a month. Alright, Rob, let’s start with you. Is this a hard no?

Rob:
Well, I have questions. I have questions about this. So let me ask this clarifying question. He mentioned that he may move into it as a primary residence and so if he moves into it as a primary residence, do we know how much his, I dunno his monthly rent or his monthly situation would change?

David:
He didn’t say anything about that. He just mentioned he’ll be bleeding 600 800 a month. So let’s take this question from the perspective of it would be a pure rental, how most of our listeners are going to be assuming.

Rob:
Okay, so generally I’m very anti cashflow. Sorry, I’m very anti anti cashflow, meaning I don’t really like inheriting properties that are going to lose me money every single month. But I would say considering this isn’t the one most prime market in existence, which is San Jose in terms of appreciation, this is a very rare scenario in which I’m like, okay, I do actually think there’s an appreciation play there because historically San Jose has paid off really, really, really big for anyone that inherited or ever got property at any point in the past. So I think as long as he feels like he can afford it, bleeding gives the impression that maybe he can’t afford it. And so if that six to $800 is going to be detrimental to his financial situation, absolutely not. I would probably just sell it, take the money and go. But if it’s an expense that he is willing to put up with for 2, 3, 4 or five years, then it’s definitely up for consideration. How do you look at it?

David:
I have a framework that I look at these deals through involving 10 ways you make money in real estate. We’ve already talked about buying equity, that’s one of them. He’s buying a buttload of equity here, so that’s a really good deal. I don’t love buying a property that’s going to bleed money if it’s always going to bleed money. So I wouldn’t want to do this in the Midwest $70,000 house rents are not going up. That’s a different story, but I talk about something called market appreciation cashflow, which is buying into a market where rents are likely to continue appreciating every year more than the national average as well as market appreciation equity, which is buying into a market where the value of the property is likely to continue increasing over the years at more than the national average. San Jose is very strong in both of those.

David:
So barring any unforeseen circumstances, those rents are going to be going up a lot and after a couple of years he’s not going to be bleeding money and after a couple more he’s going to be making money and after a lot more he’s going to be making a lot of money and have a lot of equity. So this is really a question of delayed gratification versus immediate gratification. He’s going to feel some pain in the immediateness because he’s going to be not covering the mortgage, but he’s probably going to make an insane amount of money over the long term. So now we move into how do you do this wisely if you’re going to do it well, there’s a couple ways we talk about portfolio architecture. Do you have other properties in your portfolio that are cashflowing solid? Maybe something you bought years ago that also benefited from market appreciation cashflow that provide cashflow that would cover the money that you’re losing on this one.

David:
Now you’re balancing your portfolio. I’m taking some cashflow away from these houses to get a long-term equity play with this one. So I’m getting all the benefits of long-term equity without the risk of losing the property foreclosure, pulling cashflow from somewhere else. Do you have a great job and you live beneath your means? Well, you’ve got cashflow coming in from work, even if it’s not coming in from your portfolio, in which case this becomes less risky to someone who is living beneath their means versus someone who’s living paycheck to paycheck. And it’s these details that stop you from being able to just tell people always buy cashflow or always buy equity. You have to look at your specific scenario and my advice is to construct your life in a way that you can buy amazing deals like this one that he’s being offered without having to turn them down because you’re in a financially strong position.

Rob:
Yeah. Okay, so something else to consider here is that he said that he’s losing six to $800 every single month. I mean I’d imagine that he’s probably not exactly losing that because of debt pay down too. Do we think that he’s buying this with a brand new 30 year mortgage or do we think he’s kind of walking into, I don’t know, a subject two or something like that?

David:
No, I think he’s probably going to be getting a new mortgage from the way you described it.

Rob:
Okay, so he’ll have a little bit of debt pay down, but probably not in the amount of time. It probably won’t be that significant here in the first five years.

David:
I like where you went though. Another one of the 10 is loan pay down. If he could take over a mortgage that’s already 15 years into being paid off, he’s paying off principle every single month, which makes, even though he might be losing six to $800 a month in cashflow, the principle reduction could be two or $3,000 a month, which means he’s actually gaining wealth.

Rob:
And then the other thing to keep in mind is that he does have the equity, so while he’s quote bleeding six to $800, when you think about what you’re actually losing over the course of let’s say three years, so if it’s 600 bucks times 12, what is that, David?

David:
600 times 12? Yeah, that would be 3,600 times two. There you go. Okay,

Rob:
So he’s going to lose $7,200 a year and that’s 7,200 times. Let’s say three, he’s going to lose about $22,000 in the next three years. That’s what he’s going to bleed. However, he is walking into multiple six figures of equity. So if he does kind of like that overarching math, he’s actually not losing any money at all,

David:
Not at all.

Rob:
It feels that way every month and maybe technically from his bank account standpoint he is, but from the net worth side of his entire life, he’s not actually losing any money. He’s walking into a pretty good situation. So if that’s something he feels like he can weather for a few years, then that’s definitely a deal I’d take because it seems like if he can hold onto it until he’s maybe even in a stronger financial situation, eventually maybe he can do a value add and he can put $180,000 into this property, how much he says it needs and repairs. And if he does that, then can he increase the equity from 300 k to four or five or $600,000 and that’s where the wealth really starts compounding.

David:
Well said, Rob. You’re actually speaking right out of the framework of my last book, pillars of Wealth. People can pick that up at biggerpockets.com/pillars where I talk about how we typically only look at energy in our bank account or in our wallet, but there’s actually energy in your stock portfolio and there’s energy in your real estate. We just call it equity. And like you said, when you look at it from the big picture, you’re like, all right, I’m going to be losing $21,000 over three years to gain $250,000 or so. That’s an incredibly good return, and that’s not even considering the fact that rents are going to be going up over time and real estate investing is this is what it’s really like to do it. It is more complicated than purely a cash on cash analysis, although that’s very important. It’s a fundamental, it’s understanding it. It’s not the only thing you have to be good at. Maybe like playing basketball, you got to build a dribble the ball, but it’s not all about dribbling. There’s other things you have to take into account to be good at basketball. Same thing for real estate investing. So well handled. Rob, I really like your perspective there.

Rob:
Yeah, well good for you Tony. Sounds like a great house. Keep us updated, come back with another question when you have it update.

David:
Yeah, Tony, and if you’re looking for some good Mexican, I recommend La Victoria in San Jose. Make sure you get that orange sauce. Alright, everybody coming up after this quick break. We’re going to be talking about portfolio architecture as I put on my asset manager hat as well as how to handle a rent increase from a tenant that has been in place for 20 years. Stick around. All right, welcome back everyone. We’re going to be talking about how to handle my portfolio and a capital gains question after that. All right, our first question comes from Lauren who writes in the real estate rookie Facebook group. I am a first time property manager for a long-term duplex. The first floor tenant has been living in the house for 20 years without any lease as the former owner of the house was her sister and her rent is only $600, which is basically free. The new owner, my boss has already told the tenant that there would be a lease incoming and the rent increase once I arrived. The market price for the apartment in its current state is about 950. I’m looking for advice as to how to best handle the rent increase. It seems unfair to me to ask someone to pay $3 more without a lot of notice, but it’s also unfair to expect to pay so little and I know she’s expecting to pay more. How would you go about a timeline in rent increases and creating the lease?

Rob:
Interesting. Yeah, so this one seems right up your alley. You’ve probably come across this a few times in your career, I’d imagine, huh?

David:
Oh god, all the time. One of the biggest mistake investors make is thinking that they’re helping somebody by keeping the rent low and then later on they need to increase it or that person, maybe the property falls into disrepair and they realize I need to spend all this money to fix the place up, but I’m not getting rent. I have to charge more rent to make up for this, and the tenant is upset about it. So Rob, I know that you love conflict and you love hurting people’s feelings. How would you go about handling this

Rob:
With the baseball bat in my hand? No, I’m just kidding.

David:
It’s a tricky scenario, right?

Rob:
Yeah, I’m a softie man. I’m not good for this. This is why I go into short-term rentals. I don’t have to deal with this ever, but typically it kind of lands as a one-two punch. So I would have the conversation over the phone, I would let them know that there’s going to be an increase, which sounds like Lauren did, and I’d say, Hey, just so you know, the new property manager, the new boss, new management, whoever you want to call it, they’re in place. We will be increasing rent. I’m not sure what that is right now. I’m going to get you an answer. At the end of the day, I’m going to send you an email and then we can check in afterwards. That way they understand and you can have time for them to process it, you can process it, then send it in writing formally that same day so that you can kind of get all the numbers out there, let them digest it. You can digest it. I think what you don’t want, in my opinion, you tell me if I’m wrong here, but you don’t want to be like, Hey, I know you rent 600, we’re going to actually increase it to 900, and then it becomes an instant tense negotiation where someone’s going to back down or it’s going to end very poorly. Whereas I think if you send it in an email, it’s in writing, at least people can both process it on both ends and then you can discuss it. What do you think?

David:
I love it. And it has nothing to do with the fact that an email allows you to avoid the discomfort of this conversation at all, right?

Rob:
No, no. I think you can still have it. I think you can still have it, but it at least gives them their opportunity to come up with maybe more non-emotional rebuttals that you’re probably already going to be prepared

David:
For. So it’s like drop the bomb and let everything kind of settle before you actually have the conversation. Yeah,

Rob:
Say, Hey, just checking in. I wanted to talk. I know it’s a lot, but let’s get into it and then you can kind of explain it a bunch.

David:
Alright, Lauren, here’s what I’m going to break it down. First off, Lauren and anyone listening who finds themselves in similar situations, even if you’re not a real estate agent, check out my [email protected] slash skill. There’s something that I call baseline adjustments and it has everything to do with what we consider fair. So if you think about what makes you happy in life, it’s when you got something better than what you expected or what you thought was fair. You go to La Victoria, a Mexican restaurant and you order a burrito and they put in a little street taco cost ’em 45 cents, but you’re like, that is so cool. I was not expecting that. But if you happen to go and buy a burrito that you thought came with two tacos and they only gave you one free taco, you feel like you just got ripped off even though objectively that’s not the case.

David:
Expectations determine how happy we’re, if you can exceed expectations, you’ll be happy and if you fall short of them, the person won’t be, rather than fighting with someone over a free taco, it’s so much easier to just adjust expectations. Here’s what that would look like. I would go to the tenant and I would say, Hey, here is a list of other units in similar condition in your area and what they’re renting for, and I would use the best cases with the highest rent. So I’d probably be showing, she said it’s around nine 50 ish, I’d find the ones around 9 75 and I’d say this is what current market rent is. However, you’ve been a great tenant, so we are willing to rent to you for only $900. You’ve set a baseline at 9 75 and then you said, I will give it to you at 900, which looks like a win for them, but the person who’s receiving this is thinking 600 is fair market rent.

David:
Maybe they were expecting to go to six 50, so the 900 looks like a big jump. If the baseline is 600, you start by moving the baseline up to 9 75. Then you give them your number, which is significantly less than the baseline making it look like it’s a better deal for them and it is still $50 less than the nine 50 she thought she was going to get. Now if the tenant says I cannot afford it, it’s not a matter of them thinking that they were ripped off because they see what fair market rent is. It’s them of their own volition choosing, I don’t want to pay that higher rent and I’m going to move out on my own. Much better than just saying, Hey, here’s what the rent is. Now the tenant has to figure out is 900 fair is nine 50 fair? Am I being ripped off? Can they even increase rent by 50% at one time? All of that makes them think they’re the victim and they’re being ripped off versus if you start with setting the baseline where you want it and adjust from there.

Rob:
So I got a question. So do you think it is better to show properties that are more expensive, like you said, like a thousand bucks, 9 75, or do you think it would be better to show what they could actually get for $600 and say, Hey, by the way, $600 apartments in this area, this is what they look like?

David:
I think you do both. That’s a great point. That’s a great point. I mean you’ve sort of set the ceiling and the floor by bringing in what you did. I like that Rob dropping a little bit of that orange sauce salsa on my taco.

Rob:
I’d imagine that the benefit of doing something like that would be that you’re showing them not necessarily like, Hey, you’ve got nowhere to go, but hey, if you decide to not move forward with us, if you want to stay in the same budget, you’re going to be taking a pretty drastic dip in quality. And so it’s best to kind of work with us through this.

David:
That’s exactly right. You’re showing them, Hey, this is market rent and so I’m giving you a discount. And then you’re also saying, but if you don’t want that discount, here’s what you can expect to be walking into. You’ve now set two very good baselines for that person to see. The obvious right choice is to pay that $900 and be grateful that it’s still 50 to $75 under fair market rent. Alright Lauren, so cutting to the chase. I say, you go right for fair market rent right away. I don’t like the idea of building up to what fair market rent is and if she can’t afford to pay it, then like Rob said, she just looks at what apartments she can get for $600 and I don’t think you need to feel bad about that because she was getting a discount the entire time. Theoretically she’s been saving $300 a month for God knows how long off this rent and so that’s a win for her. There’s some gratitude that should be there if the person understands what fair market rent actually is. I

Rob:
Think there’s a little tricky kind of thing that we sort of glazed over. Maybe it’s not as big of a deal as I’m thinking, but I feel like it is. She said that this tenant doesn’t have a lease and has been in this property for 20 years, so they’re a tenant. I’m sure if they were like, Hey, I’m going to stop paying, it wouldn’t be that easy to just get them out of there. So there is something to be said about how can you diplomatically approach this in a way that’s going to basically not make them squat, right?

David:
Well, I think you have to treat ’em like a new tenant. Can this person afford the rent? Do they make enough money to be able to pay that rent? Right? You still have to screen them if you want to take them on as the tenant moving forward the same way you would if it was any other tenant, you’re not going to treat ’em any differently than your next tenant. If their debt to income ratio can’t afford that rent. You’re going to have to come up with a plan for how they can move out and get somewhere else before you put a lease together. But Lauren also did ask about how could I put a lease together because this person hasn’t paid one at all. Start with an estoppel certificate where the tenant’s basically going to say, Hey, here’s what I’ve been paying for rent and here’s what is in the apartment is mine and here’s what belongs to the owner as far as appliances or other things like that. Once you’ve got that in place, you can construct a new lease, but again, screen this tenant the same way you would a new tenant that you’d be putting in there. Use the same standards for everyone. Make sure you’re abiding by fair housing laws. You don’t want to get yourself into a situation where you’re expecting more from this person than you would from a different tenant.

Rob:
But I mean are they buying this house and they get to keep the tenant or not keep the tenant?

David:
Yeah, they don’t have a lease then they don’t have a right be there.

Rob:
Yes. I guess I feel like that depends on the state.

David:
There could be some laws that don’t apply to contract law. There could be some specific protections which Lauren didn’t mention which state there is in or how that would go. So I usually talk to property managers to get a background on that. We’re having to assume that there’s not additional protections outside of what would fall under standard contract law.

Rob:
Fair, fair, fair,

David:
Fair. And if you want to know more about ways to use what we call the binder strategy, we talked to Old Dion McNeely, great head of hair on that guy. Head over to BiggerPockets, episode 4 48 or the BiggerPockets Rookie Podcast episode 360 9 to learn how Dion handle situations just like this. Alright, thanks for sticking with us. We’re going to get into some capital gains questions in just a moment, but first let’s get into some of your comments and remember, as always, make sure to comment and subscribe to our channel. Let us know in the comments what you think about today’s show if you’ve ever been to live Victoria in San Jose and like their food. And if you want to be featured on an episode of Seeing Green, head to bigger p.com/david. Alright, our first comment comes from episode 9 41 where Hardy KH said, I love your shows. It’s hard to know what to do in the current real estate environment and I always appreciate your wisdom and guidance. Clearly Hardy was referring to Rob on this one. Thank

Rob:
You Hardy, I appreciate that. Next we’ve got Shibby 1, 8, 9. I feel like I sound like a DJ at 97.9 because I’ve got my conference voice. Great content. I really enjoyed the comedic portions of the show. Good balance of education and light comedy. I about died when David quoted eight mile laughy cry emoji.

David:
I’ve never heard a person say out loud laughing cry emoji. Is that like when Siri reads your text back to you? Yes.

Rob:
Laughing cry emoji.

David:
I wonder who at Apple names the emojis. We’re going to call this one the gas queen. We’re going to call this one dancing ballerina who has that job?

Rob:
Someone has it, which is interesting like emoji

David:
Namer. If anyone works at Apple and knows how this happens, we want to know. All right, up next we have Mitchell Blot 2, 3, 9. Quick question, do you pay capital gains on your net profit or the sales price of an investment property? And second, if the answer is net, why don’t you cash out refinance prior to sale? Thanks. Oh, this is a great question. Our producer Eric crushed it here. What do you think, Rob?

Rob:
Okay, so you are going to pay capital gains on your net profit, not on the sales price. And the reason that you don’t want to do a cash out refi prior to the sale because it’s not about being in debt, it’s about the cost basis of the property. Meaning what is your actual cost to get into that property and what is the profit on it regardless of if you took out cash out and you took out debt. Because I know a lot of people say, well if you have debt, you don’t pay taxes on debt. I know that’s what kiyosaki’s main thing. He always kind of emphasizes that point. But cost basis

David:
Is the thing to keep in mind whenever you’re selling a property. Very great. I actually had a client who ran into the same exact problem. We were trying to sell her property in Oakland and she had done a cash out refinance first. Mitchell, you’re mixing up the net profit with the equity in the property. They are often the same thing. So that’s a normal thing to get wrong, but they’re not the same. So let’s say someone buys a property for $500,000, sells it for a million, okay, that’s a $500,000 profit. Assuming there weren’t realtor expenses and closing costs, you could write those off as well as improvements that you made. Okay? But if you paid the property down to 400,000 before you did it, you’d actually have $600,000 in equity, but you’d only have a $500,000 game. They just look at what you bought the asset for and what you sold the asset for.

David:
The cash flows that it made have already been taxed. The loan paid down is not included in the game here they’re just looking at the sale price and the price that you paid for it. The cash out refinance confuses things because if you took out a loan and now you owe $800,000 on the property and you sell it for a million, what Mitchell’s thinking is, is you’re only going to get taxed on 200,000, but you won’t. You’ll get taxed on the full 500,000 and the government will say, well you already got that money out of the property, right? You don’t get to avoid paying taxes on it. Okay, let me just clarify that. You’re right, I was wrong. I said it’s net, but I did eventually correct myself and say it’s more on cost basis. So we got there in the end. We know what you meant.

David:
Net after all of the expenses, those are included in your net. Yeah. Good job Rob. Thank you. Thank you. Alright, up next we’re going to be talking about how to get up to 10 conventionally financed homes and what to do with a situation involving portfolio architecture and asset management. My favorite thing to talk about right after this quick break. All right, well good back everyone, and thanks for taking the time to support our sponsors that help bring this content to you for free. All right, let’s talk about what to do with a portfolio and another question from seeing green repeat guest to about steps to take to get 10 finance properties.

Brad:
Hey David, my name is Brad Hunton from Granbury, Texas, and my question is what do I do with my current portfolio? I currently own 16 long-term rentals across Texas and Louisiana with 11 of them being class C properties in west Texas. While on paper the cashflow looks amazing, I rarely hit the projected numbers. I have an opportunity to sell the sea properties for a substantial profit and I’m seeking advice on what to do. I have private money loans totaling around a hundred thousand dollars at 10% interest for the next four years. So my two-part question is do I keep these properties now that most have been renovated and use the cashflow to pay back the private money loans or do I sell and pay these loans back with the profits and use the remainder to buy into class A or B properties in the Dallas Fort Worth area? A third option is do I keep the loans and roll them into a higher class property with little to no cashflow but substantial appreciation with a plan to cash out refi in four years to settle the debts. Thank you.

David:
Well, thank you Brad. You got yourself in a pretty good scenario here. You’ve got a lot of equity, you’ve got a lot of cashflow, and you’ve got plans to grow your portfolio in the future. So Rob, what was jumping out at you when you were listening? Okay,

Rob:
So I guess here’s my thought. He answered it pretty beautifully himself when he was giving us his options, but he said that he’s buying in C class properties. He’s rarely hitting the projections, but it does sound like maybe he’s cash flowing. Maybe there’s a lot of expenses that come along with these houses that are unexpected and that’s why he’s not hitting his cash flows. And then he said, well, I could sell them at a substantial profit and then get into more A or B class properties. I think that’s probably what he should do because he may get into less properties, but given that he is kind of interested in the whole high appreciation thing, I think he’s going to see more appreciation in the A to B class properties and neighborhoods. And lastly, he also mentioned that he has a lot of private money debt at 10% and it seems like he’s maybe in the mid middle slash backside of his investing career. I don’t want to be too presumptuous here, but I feel like at this point the faster he can get out of some of his high interest debt, the better. And he can start, I dunno, rounding third base on his investment structure.

David:
Did you play baseball?

Rob:
I quote played football in the ninth grade.

David:
Well, apparently you watched SportsCenter before we recorded today, so well done.

Rob:
That was me, man. I used to work for Gatorade and when they interviewed me they were like, so how much do you love sports? I was like, love ’em. And then when they hired me they’re like, this guy lied.

David:
Didn’t you come up with names for professional athletes like Peyton Manning, like nicknames,

Rob:
I mean occasionally

David:
That was part of your job. What was his name? The sheriff or the Marshall or something like that?

Rob:
Yeah, the sheriff. I didn’t come up with that. Someone else did, but I came up with the cartographer.

David:
For who?

Rob:
For Peyton Manning. He makes maps, he’s a map maker. Routes, I don’t know. It didn’t really work. It didn’t get picked.

David:
You found your place hosting the BiggerPockets podcast. Let’s

Rob:
Just, I guess so

David:
Say that our win Gatorades lost. Alright, getting to Brad here. First off, Brad highlights a very important point. The properties that look great on a spreadsheet often don’t work out that way in real life, and this happens more often than not in the bad areas. Brad referred to these as C areas. It sounds like they might be more C minus type properties. And this is especially true when your properties are lower priced and you have to think about the fact that things break in real estate, whether they’re cheap or expensive, but a new roof, a new air conditioner, a new water heater are a small portion of the overall value of the property and rent when it’s an expensive property, they’re a big portion of it when it’s a cheap property, and this is one of the reasons that people think that they’re going to go get cashflow and then they find out that it’s more like cash.

David:
No, it doesn’t actually come in. So I’m inclined to think that Brad should sell those properties and 10 31 them into some of the areas where he’s going to experience higher growth. That’s not only in equity, this is also cash flow growth. So I’m working on a book right now that talks about how you identify those areas. And if I’m going to sum it up, it’s basically a function of tenants that are willing and able to pay higher prices. So if you buy in markets where jobs with higher wages are being introduced and there is constricted rental supply, rents have nowhere to go but up and your tenants can still afford to pay them. So identifying those markets and moving your portfolio there basically guarantees that you’re going to see increased rents every single year. And with that increased cash flows, if he leaves a portfolio where it’s at and there’s no reason for rents to go up, he’s going to have the same problems in 10 years that he’s got right now. What do you think, Rob? Yeah,

Rob:
Yeah, that’s exactly right. What are your thoughts on the high interest debt? Do you feel like he should get out of that or are you cool with him cruising on that for now?

David:
I was wondering why he’s got 10% debt if he could just catch out, refinance some of the houses at like 7% or 8% and pay it off that way. Maybe he’s not showing income so he’s not able to do that. And if the properties aren’t cash flowing, I was wondering why he had debt at 10% when he could get a mortgage that would be less than that. My thoughts would probably be move the properties into an area not cash flowing anyway, meaning his expenses, sorry, his maintenance and his CapEx and his vacancy are probably too high. You move it into an area where you have less of that and even though your mortgage could be higher, I’d rather be paying money towards a mortgage than I would be just throwing it away to maintenance and vacancy. And then you start taking the cashflow and paying off the debt. Maybe you take some of the properties that you moved over or you do a cash out refinance then and you pay off half of that a hundred grand and then you tackle the other half with the cash flows from the properties that you bought.

Rob:
Yeah, I like that. I think I’m a little bit more in favor here of just consolidation. If he’s got a lot of long-term properties that aren’t really killing it for him, I mean it sounds like he’s got some cash cashflow, but yeah, I’d say triage and get into something that’s going to treat you better over the course of the next few years. From an appreciation standpoint,

David:
I mean it’d be wonderful if he could sell 16 properties and buy two fourplexes in a really good area or two short-term rentals in a good area and then he could just manage those short-term rentals and get a lot more cashflow with a lot less time and then use the money from that to pay off the a hundred thousand dollars and find himself into new asset class. So Brad, let us know, are you open to the idea of a new asset class like short-term rentals, medium-term rentals, small multifamily, or even an apartment complex, right? What if you sold 16 single family homes, bought 1 24 unit apartment complex or something with the money and managed that? I bet you that would be less of a headache than having 16 individual homes. Man, I remember my single family portfolio got to like 60 properties and you would think that it was passive income, it was anything, but it was very frustrating pretty much every two to three days. It was another maintenance request coming in, another problem happening with the property. Another thing that I had to try to figure out and I realized it was very inefficient to scale with that asset class.

Rob:
Well, as we often say on the pod, the cheapest houses are the most expensive.

David:
That’s really good. Thank you. Our next video question comes from our old pal, Tony.

Tomi :
Hey David. This is Tony from San Antonio again, following the steps as you laid them out. Love house hacking. We closed on the duplex, so now I have two properties on my VA loan going forward trying to stack up to 10. I was wondering, can you give me three actionable steps to make sure that I can fill up using conventional loans multiple times over and over, ideally moving out every year. Is it just bringing in the most income that I can in each year or what particular guidelines? Any suggestions you have would be appreciated. Keep rocking it.

Rob:
Okay, so I think I know what he’s saying here. Basically we always talk about on the show how house hacking is the ultimate catalyst for wealth. And you often talk about how, hey, you can buy a property for three and 5% down and then you can live in it for a year and then after that year you can put three and a half percent down again on another property and move into that one. So I think he’s looking for more of a bulleted action plan on how someone would actually achieve that.

David:
And I’m going to recommend the sneaky rental tactic to our old buddy told me from San Antonio, the sneaky rental tactic. I mean a lot of these strategies are really simple, but we give them cool names like Brrrr and House hack. It basically just means you buy a house with a primary residence loan, which is incredibly powerful, you get a slightly better interest rate, but you get way lower of a down payment. I mean, if you just think about the difference between putting 3% down and 20% down, you can buy almost seven houses with 3% down than you could buy one with 20% down. It’s crazy. You don’t even have to save that much money. And often if you’re house hacking and saving on your mortgage, that is going to provide the 3% in savings that you would need to buy the next house. So you house hack one time, keep your mortgage lower, that provides your down payment for the next one, and you just move every single year.

David:
That’s why people don’t do it. They just don’t want the discomfort of having to move. Instead, they’d rather have the discomfort of working a job that they hate for 40 or 50 years and going into retirement broke. But if you can live like no one else, now you can live like no one else later. Dakota, our old buddy, Davey Ramsay. So that’s what I say is you buy the house with the primary residence loan, you live in it for a year, then you move out and buy another one and make the one that you bought into a rental just like to did with this duplex. And we just call it the sneaky rental strategy because you bought a rental property, but you did it completely legally with a primary residence loan being sneaky.

Rob:
Yeah, I think, I wonder if there’s anything to say about obviously three and a half percent. The reason that this is such a good strategy is because it really, on most houses, let’s say they’re between two to 400,000 bucks. I mean on the high end of that, lemme do that math really fast. On the high end of that, it’s like 12,000 bucks, right? So that means you have to figure out how to save an extra thousand dollars every single month for the next year to save up enough money to put down on the next property. So figure out what kind of side hustle can you take extra shifts? Can you work an extra job? Is there something you can do? Can you sell your time? Obviously that’s not the best approach when you’re trying to scale, but considering you’re closer to the beginning of this, maybe your only option. But what can you do on an hourly basis? What can you build? What can you sell? Can you consult to make an extra thousand dollars every single month so that you actually have enough runway to buy a new house every single year?

David:
A lot of people know they should budget money, but they don’t. Well, you know what makes it easier to budget money when you have a goal? And for those of us that love real estate investing, that next house is a powerful motivator. So if you couldn’t get yourself to budget your money before, now that you know want to get into real estate investing, it can make it easier. You’ll build better financial habits and ultimately I think you’ll live a better life when you’re not using retail therapy to solve your problems. Now, that’s one of the reasons that I don’t share the whole, use other people’s money, do something creative for every single time. There’s nothing wrong with doing those things, but don’t make ’em your bread and butter. Don’t build your entire foundation on, I just want to go around the obstacle. Go through the obstacle. And then once you’ve got a good amount of equity and you’re someone like Rob Abba Solo who knows how to manage real estate, you can use some of these creative strategies to accelerate your gains, but not to get yourself started. So Tony, you’re on the right path, my man. Just buy a house every single year and ask yourself, what do you have to do to buy it? And what type of property do you need to buy so that we’ll cashflow when you move out in a year. Hey,

Rob:
One final question as we wrap this up, Dave. So obviously he’s trying to acquire 10 properties here and if he’s buying a property every single year, is that debt stacking up against his DTI? Is he going to actually be able to qualify for 10 houses in 10 years if he’s got a lot of debt from all these houses that he’s accruing?

David:
It is a good question. He’ll be able to use the income that he’s getting from his renters and also the debt that he’s taking on. The problem is that first year, so when he’s living in the house, he’s not going to be able to use any income that he’s receiving to help qualify for the next one. But once he moves out of it, if the mortgage is $2,000 and he’s collecting $2,000 from the tenants, they basically offset themselves. And so your debt to income stays relatively the same. Got it. And as Eminem said in the sequel to Eight Mile, I believe it was called Nine Mile House Hack to House Stack and avoid anything that’s house whack. Alright, everyone that wraps up our show for today, thank you so much for joining us and let us know in the comments what you thought about today’s show and if there’s anything you think that we didn’t cover as well as what you think we should cover in future episodes.

David:
And remember, you can head over to biggerpockets.com/david and submit your question there. If you like seeing Green, make sure you subscribe wherever you listen to podcasts. You need Apple or Spotify or Stitcher to tell you when new episodes come so that you don’t miss anything because you never know what type of education, wisdom and lighthearted comedy you’re going to get, especially now that we got Rob Abso joining me and we really appreciate all of your patronage. And if you’d like to know more about Rob or I, we sure hope you do. Head over to the show notes where you can find our information and follow us on the socials. This is David Green for Rob Taco Sauce. Abso signing up.

 

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