Author Topic: Get Rich With: Owning Rental Houses  (Read 3447 times)

casanova

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Get Rich With: Owning Rental Houses
« on: August 17, 2016, 10:47:29 AM »
Hi, I posted this on the comments for MMM's article "Get Rich With: Owning Rental Houses". But since the article is a bit old I thought I might not get a response. What are your thoughts about this:

Hi MMM,

How do you account for the selling fees in your analysis? It makes a big difference in whether you can actually recover your principal and whether your investment is profitable.

For example, with your case of having an additional $230 * 12 = $2760 in principal after the first year + appreciation 2% * $200000 = $4000. If you were to sell after year 1 in order to recover your principal you’d be hit with ~7% selling fees, correct? That’s 7% * $204000 = $14280. Not only does that wipe out the capital gains $2760 + $4000 – $14280 = – $7520, it also wipes out the cash flow $250 * 12 – $7520 = – $4520. After some amount of time the appreciation will hopefully overcome the various fees but your net return will never be as high as predicted in your analysis…

I’d like to believe I am missing something. Please correct me if I’m wrong, I was excited about this idea!

Best,
Casanova

sammybiker

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Re: Get Rich With: Owning Rental Houses
« Reply #1 on: August 17, 2016, 01:36:25 PM »
I don't see anything wrong with your example.  If you're buying homes at market value, not adding any value/sweat equity and selling after one year and sell using an agent, you'll probably see a net loss.

That said, you make money when you buy.  Most investors (myself included) make money by purchasing below market value (foreclosure/short sale/cash at the right time/etc) with room to force equity (renovation/reconfiguration/adding rooms/converting basements to livable spaces....).

In addition, most of these investors are buy-and-hold focused and don't operate on timeframes as short as 1 year.  I'm looking at a minimum of 5-10yrs.

Hope this helps give you some perspective. 
« Last Edit: August 17, 2016, 02:34:50 PM by sammybiker »

Mini_Mustache

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Re: Get Rich With: Owning Rental Houses
« Reply #2 on: August 17, 2016, 03:32:38 PM »
I agree with Sammy on this one. When selling in such short timeframes, unless your local market has increased significantly, you should expect a loss. The goal should be buy and hold, which is what I believe MMM is a fan of as well, in terms of investments. A great book on this subject is The Automatic Millionaire Homeowner by David Bach. Your math is sound Casanova but Sammy is right, were needing to look at the long investment game here.

marty998

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Re: Get Rich With: Owning Rental Houses
« Reply #3 on: August 17, 2016, 04:00:04 PM »
If you hold for 15 years then your selling costs get spread over 15 years.

7% selling fees is murder. You wouldn't put up with a a mutual fund or vanguard charging 7% as an exit fee, so why do you guys put up with it for realestate?

At the end of the day they are both investment assets, once just has an inordinate amount of costs attached to it.

Sammiecakes

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Re: Get Rich With: Owning Rental Houses
« Reply #4 on: August 18, 2016, 01:39:07 AM »
If you hold for 15 years then your selling costs get spread over 15 years.

7% selling fees is murder. You wouldn't put up with a a mutual fund or vanguard charging 7% as an exit fee, so why do you guys put up with it for realestate?

At the end of the day they are both investment assets, once just has an inordinate amount of costs attached to it.

I mean if you are going to buy and sell property often then it is certainly worth it to put in the effort to minimize those exit fees. However for buy and hold investors the one time selling fee is less dangerous than typical brokerage fees because it doesn't necessarily reduce the rate of compounding if you are holding. 

Enigma

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Re: Get Rich With: Owning Rental Houses
« Reply #5 on: August 18, 2016, 06:51:31 AM »
Owning rental properties is a different move than flipping houses.  When you own a rental property you are not worried about the cost to sell the property 1 year later.  However, when you are flipping a house you really want to minimize all your costs and make additions that will bring up the value quickly.  For one holding onto a place long enough to get around the short term capital gains taxes, remodeling, and other additions make it profitable.  An example would be a property my father bought for 40k because it needed a lot of work.  He threw 20k into upgrades and additions into the house and then flipping it for 90k about 6 months later.  My father is a general contractor and has lots of experience at flipping houses.

casanova

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Re: Get Rich With: Owning Rental Houses
« Reply #6 on: August 18, 2016, 09:11:12 AM »
Great points, Thanks for putting my #s into better perspective. As mentioned I am new to real estate and when I crunch my #s I am often unsure about what's reasonable. For example I saw that 7% somewhere and have used it since, but it does seem like robbery. These are all of my assumptions:

- Mortgage rate = 3.5%
- Term = 30 y
- Down payment = 25%
- Closing fees = 3%
- Appreciation = 2% / y
- Municipal taxes and fees = 2% / y
- Maintenance = 2% / y
- Insurance = 2% / y
- Closing fees = 7%

What should be the high and low ends on all of these?

totoro

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Re: Get Rich With: Owning Rental Houses
« Reply #7 on: August 18, 2016, 09:40:58 AM »
I have no idea why people are paying 7% fees to sell a home.  I've purchased two homes privately for no fees.  When we sell something we will not be paying 7% (this is way higher than Canada's commissions through realtors in any event).  We'll list it through a flat fee service that costs about $800 to get it on the MLS and show it ourselves.  We'll pay a flat fee commission to the purchaser or reduce this amount from the purchase price if the purchaser is unrepresented.  And we'll sell in a sellers market. 

MaikoTsumi

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Re: Get Rich With: Owning Rental Houses
« Reply #8 on: August 18, 2016, 01:01:54 PM »

- Mortgage rate = 3.5%
- Term = 30 y
- Down payment = 25%
- Closing fees = 3%
- Appreciation = 2% / y
- Municipal taxes and fees = 2% / y
- Maintenance = 2% / y
- Insurance = 2% / y
- Closing fees = 7%
    Mortgage rate is going to average 1% percent higher for investment property loans.  Toss out appreciation in your analysis.  Appreciation is icing on the cake and deal analysis should work without calculating appreciation.  You can also find portfolio lenders who will lend 85%-89.9% LTV. You may need to have 2-3 properties already, or sizable assets, before you get the best terms with these lenders.
   I started and continue to buy my rentals at 70% of ARV or better.  I didn't even know there was a 70% "rule" when I bought my first property, but I knew that was the number I wanted for myself.  All my rental properties, I have made rental ready. Rental ready costs for me have averaged $3000 - $5500.  Some of my properties would be ready to sell at full market price in the rental ready state, and others would need $15000 to $20000 more to the get maximum ARV.  All of them I could sell today and recuperate all costs and commissions plus pocket extra.  Since I'm not selling, the real number that has meaning to me is cash flow.  Cash flow is running at 15% for the lowest and 21% for the highest. 
    What that means for me is, on average, I cash flow between $4,000 to $6,000 per property.  I've been buying a property every 6 to 12 months on average with the cash flow.  Next year, I'm hoping to add 2-3 properties and scale up from there as my portfolio allows.
   TL;DR You make your money when you purchase, not when you sell.  If you are trying figure out how to make money on a deal down the road, you need to move on to another deal.
« Last Edit: August 18, 2016, 01:03:27 PM by MaikoTsumi »

totoro

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Re: Get Rich With: Owning Rental Houses
« Reply #9 on: August 18, 2016, 03:39:19 PM »
This does not work in all markets.  It works in lower cost areas where buy-in is low and rents meet the 1% rule.  Other areas of the US and most of Canada and Australia operate differently and yet people still do well albeit with higher risk in a market downturn. 

Places like San Francisco and Hawaii are appreciation markets, not cash flow markets.  In Canada Vancouver and Toronto have made many a lot of money based on appreciation but are terrible cash flow markets.  In such markets there is often talk of a bubble but when the bubble burst in 2008 those US markets weren't as impacted and they recovered quickly as they are highly desirable places to live for many reasons.

If you want low risk go for cash flow - available almost nowhere in Canada btw. 

If you are an appreciation investor you look at the long-term and you'd better be able to hold through a downturn.  In my area, 4% is the historic average appreciation rate and a median house is $600,000 and it will rent for $2300/month.  As you can see, appreciation is the way to make money and the 1% rule doesn't work - nor does the "rule" for other costs as the purchase price is so high.  Many would say look elsewhere to invest.  I'd say that many have made far more in appreciation markets because of leverage followed by a sale at the right time. 

Finally, in Canada you can get residential mortgage rates when buying an investment property through a number of banks.  You do have to put 25% down.

MaikoTsumi

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Re: Get Rich With: Owning Rental Houses
« Reply #10 on: August 19, 2016, 07:37:12 AM »
This does not work in all markets.
 
 
    I'm lucky enough to live in a low cost of living area and housing is cheaper compared to other areas.  That's the good news.  The bad news, potentially, is some Canadians, Californians, and Europeans have discovered us and are investing here.  So far, this hasn't affected my investing yet, as they usually go for areas I'm not currently investing.  Higher risk, higher reward areas. 
      So, if you live in one of these hope for appreciation only areas, there are markets to invest in that provide better results.  Appreciation plays in those tight markets( like Canada ) are usually all in on a single investment that you pray and hope doesn't go south when the market is down.  It may take years to see returns and the risk is extremely high in those areas in the current economic environment.   That same single investment, could became a portfolio of properties in a better market.   
     But, if you know your market, and how to make money in it then that's what it's all about.   

clarkfan1979

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Re: Get Rich With: Owning Rental Houses
« Reply #11 on: August 20, 2016, 10:16:39 AM »
This does not work in all markets.
 
 
   
     But, if you know your market, and how to make money in it then that's what it's all about.


+1

thedayisbrave

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Re: Get Rich With: Owning Rental Houses
« Reply #12 on: August 21, 2016, 01:39:52 PM »
Why are you selling the house after 1 year? The point of buy and hold is to not sell and just collect the cash as it comes in.

Real estate fees are not "standard."  They vary by market and are negotiable. 

bpleshek

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Re: Get Rich With: Owning Rental Houses
« Reply #13 on: August 23, 2016, 03:14:52 PM »
If you plan on buying and selling a lot of properties, it might be in your best interest to get a real estate license.  That way you can reduce some of your fees.

Brian