Achieving Balance in Your Investments, Time and Life
Balancing Time and Money: Can Money Buy You Time?
Money can buy you time every day. You can avoid doing tasks you don’t like, the ones you are not good at and others that don’t move you forward by paying someone else to do those jobs. I perfected my grass mowing skills at an early age and may be one of the best mowers in my town, but I never mow my own grass or that of my rental properties. I would spend a lot of hours on a mower if I did, and I can write a check and keep those thousands of hours over my lifetime for doing something more productive or more fun.
Where in your life can you buy some time? It costs money to hire a painter or a plumber or someone to do your books. They probably won’t do the perfect job that you will, but are you ready to trade off some of your money for what might be a lot of time?
Is there something else you can do with your time that will either make you more money or be more important to you? If you spend a week finding a house to buy rather than painting a house, will you make more because you bought a house? If your friends, spouse, kids, grandkids, ask you to spend a special day with them, is that worth paying a painter or someone else to free you up?
Certainly there is a dollar cost of taking personal time. When we travel, though I can manage from afar with the aid of my computer and cell phone, I won’t rent an empty house without meeting the new tenant, face to face. If I’m gone for a month, a house may sit empty until I return. It’s a trade off I’m willing and able to make today. In my early years I’d probably stay home and rent the house.
Keep Your Deals Little To Avoid Losing a Lot of Time if They Go Bad
When you lose money you can recover it. When you lose a year or two in a bad deal, you never get that year back. I learned this lesson the hard way in my first recession. Not only did I lose a lot of sleep over a big deal gone bad, but I missed out on several years of great opportunities to buy.
Balancing Cash Flow Today and the Need to Acquire More Investments
In my seminar I advise you to set up a separate investment checking account, and as money accumulates in this account, use it only to acquire more houses until you reach your goal in the number of houses that you want. This keeps you focused on your goal of acquiring the assets that you need, before you start taking cash out for personal spending.
To do this you need another source of income, a job or a business. If you buy and sell property to support your investment habit, plus living inside and eating regularly, have a separate bank account and a separate entity, like a Sub S Corporation or LLC.
Your job or business income needs to support you until your investment can. Of course, you can sell an investment property if you have an emergency need, but not for a “want” like a shiny new toy or vacation.
To acquire investments that will one day produce enough cash flow for you to live on, you need to use as much cash flow as possible for acquisition. Learning to buy with high leverage helps with this issue immensely. If you had to save a 30% down payment for every house you wanted to buy, you would be cash poor for a long time. Plus, it would take a lot longer to acquire the houses that you want.
Suppose that your goal is ten houses free and clear, and you plan on buying 15 all together, with the plan of selling your least favorite five and paying off loans on the other houses. If you are starting with a small amount of cash, you may have to save a couple of years to get a 30% down payment. During that time, house prices may continue to increase. If, instead, you begin buying today with owner financing, you can acquire properties with a much smaller down payment without ever qualifying for a bank loan.
Balancing Long Term and Short Term Investments
Does the length of time that you intend to hold an investment affect your risk? When you plan on holding a house ten years (or until it doubles in value), is it safer than when your plan is to sell in two or three years Having a longer window of time to hold and then to sell reduces your risk of being forced to sell in a down market.
Ideally you would buy properties that you want to hold forever every time you buy. It’s likely that, like me, you will by some you like better than others, and then weed out the week ones as you get smarter about what you want to own and manage.
Warren Buffet’s advice is to hold an investment that is making you money indefinitely. I agree as long as the management isn’t a problem. In the long run, you want to own the properties that attract the best tenants. Cash flow is an important part of your profit and good tenants create more cash flow.
Your money will grow at compound rates when you hold property. When you sell and then buy another property, you may pay taxes. More danger to your wealth situation is created when you put the proceeds in the bank earning a piddling amount of interest Not only are you out of the market and earning far less, but you will want to buy something, and might rush to buy rather than wait for the right deal.
Advantages of Short Term
Short-term investments have a couple of advantages for newer investors. First, they can generate short-term profits to fund other purchases. Second, it gives you more experience finding and negotiating purchases. Don’t confuse short-term investing with flipping.
Flippers got slaughtered during the downturn because they could not sell, and most owed money at high interest rates. Flipping is a high-risk business not an investment strategy.
Today, there are still millions of homeowners under water (their loans are larger than the house value). Look for properties with existing loans in place, owned to lenders who do not want to foreclose. As prices rise, you can buy subject to these existing loans when you find a house with a little equity in a market moving up. Buy with the knowledge that the lender can call the loan due and payable in full. This is a short-term strategy.
Selling a house to a homeowner on a one-year lease option can produce a significant profit in a relatively short time. Set a minimum profit and don’t buy unless you see a good chance of making that amount it should be at least 10% of the house’s value.
Of course, a lease option buyer may not close. They may not be able to qualify for a loan in one year. So your one-year payoff may become a two or three or four year payoff, and you may have to sell it a couple of times to find a buyer who can get a loan and pay you off.
The good news is that each time you have a chance to renegotiate, you may be able to make your position more profitable and safer. Become a good negotiator and look for opportunity to negotiate. You might be able to negotiate a discount with the lender. Short sales are negotiated loan payoffs. Lenders are now used to “short” offers, so don’t miss this advantage to negotiate. It can pay very well. Disclose to your buyers that in the event that the lender calls the loan you have the right to refund their option payment or close with 90 days notice. There is a lot to negotiate when selling or buying with a lease option. I highly recommend my one-day course, “Using Lease Options to Buy & Sell Property”. (See details on John’s website, www.JohnSchaub.com)
Balancing Risk and Reward
Higher risk does not necessarily lead to higher profit. Gamblers don’t win consistently, the house (casino) does. Be the house! The house collects money slowly and steadily knowing that in the long run they will come out ahead. The gambler plays hunches, makes emotional decisions and always loses in the long run.
“Take calculated risks. That is quite different from being rash.” General George Patton
By understanding the factors that increase your risk, you can take only the risks that you can afford. Any time you take any risk, the money you put up could disappear. Have a policy of never investing more than 10% of your investment capital in any one deal or with any one person.
Leverage affects a property’s cash flow and risk of loss. Many people would think that a large loan makes an investment riskier. That might be true if you had to personally guarantee the loan, but actually a large down payment increases your risk of loss.
Balancing Paper and Real Estate Investments
Have you ever had a bad day and had the thought, “Let’s just sell it all and put the money in the bank”? If you do the math, you may not like the results. Selling a $2,000,000 portfolio of free and clear houses may net you 1.6 million after taxes and closing costs if you get full retail when you sell. That amount invested in a long-term certificate of deposit paying 2% would pay you $32,000 a year before tax income. If your life expectancy is 25 years, you could take out $80,345 a year (before taxes) if you spend all of your principal. That may be plenty today, but in 25 years at 3% inflation, that $80,000 will buy about less than half as much in groceries. So if you want to live with a constant $80,000 a year life style, you will need a lot more money. Plus what happens if you live 36 years? As my friend, Jimmy Napier, is fond of saying, “It’s inconvenient to outlive your money”.
You can increase your income and hedge inflation by selling your portfolio off over time. If you choose this plan, sell your weaker, harder-to-manage properties first. They may be the hardest to sell, but if you sell your best houses first, you will end up with your hardest-to-manage properties when you are the least able to manage them well.
Selling, using owner financing, is a way to increase your income using the skills that you already have. When you rent a house you choose your tenants carefully, because you give them a valuable house with just a little more up front. If you would sell that same house to a buyer who wants owner financing, you would select your buyer carefully and you would be able to get more money up front.
Investors in houses have a big advantage when it comes time to sell. Unlike an owner of a big apartment or commercial property you don’t have to sell everything in one year. You can sell one house a year and benefit if prices go up. If they don’t go up, don’t sell on that year.
When banks are advertising a 5% loan rate that is the rate for their best customers with great credit. A buyer looking for owner financing either can’t or doesn’t want to borrow from the bank. Therefore, they will pay a premium over the bank rate to get the house.
In a market where the banks are charging 5%, you can easily get 8% from a buyer with some, but not great credit. If you can collect 8% instead of putting the money in the bank, you can increase your income by more than four times. Certainly you can charge more than 8%, but if you charge 12%, will your buyers feel like they made a good deal? Will they refinance as soon as they can?
You are more likely to be paid (and be paid for a longer time) if you raise your price a little and charge a “fair” rate, rather than charge a high rate. It’s hard to tell if a house is worth $175,000 or $189,000. It’s easy to distinguish between 8% and 12%
Balancing Retirement and Investing
Earlier this year, I devoted a newsletter to this topic and I just taught a full day class on strategies to both safeguard and increase your investment income. You can order the class on my (John’s) website and it will be shipped out the end of this month.
While, when buying real estate, it’s location, location, location, when you’re investing during your retirement years, it’s safety, low management, more cash flow. The challenge is to increase your cash flow without increasing your risk or management.
A lender will not want to foreclose on a property with little equity, so a small down payment shifts the risk of loss to the lender. A larger down payment puts the buyers at a higher risk as they have more to lose if they lose the property.
Successful investors learn how to borrow the most they can every time they buy without personally guaranteeing the debt. This allows them to buy much more property, plus gives them the upper hand should they ever have to negotiate with the lender.
Factors that increase the risk for a house investor area: financing with bad terms that consumes your cash flow or forces you to sell at the wrong time, tenants that drive you crazy or out of the business, run-ins with the government at any level, and partners that don’t live up to their promises.
Which of these can you eliminate with knowledge and work? All but the government, and you can certainly take steps to keep that interaction to a minimum.
Balancing Leveraged And Free and Clear Property
When you begin to invest, using as much leverage as you can helps you build your net worth faster. As you hold leveraged properties for years, your amortizing loans will reduce in size, but their payments will remain the same. With each successive payment, your principal payment increases as your interest payment decreased.
Once you acquire all of the properties that you need to meet your goals, you can switch your focus from acquiring leverage, to paying off debt and increasing your cash flow.
Paying off an old loan is a great use of your cash, once you stop buying. Suppose that you have a loan with payments of $661.44 a month with a balance of $40,000. You can invest $40,000 and increase your cash flow by $7937 a year. That’s about 20% cash flow on your $40,000 investment and it’s perfectly safe.
It’s even more fun if the lender will give you a discount for an early payment. Suppose you owed a lender a loan bearing 4% interest with 20+ years yet to run, and mortgage interest rates increased to 8%. The lender could make a lot more interest with a new loan. They may be willing to discount your loan if you would pay it off early. This would enable you to get free and clear faster.
Owner-sellers who carry financing are prime candidates for discounting as they often have another use for the money. Always ask for a discount when paying off any loan, but especially a private loan. Ask, “If we were able to pay you off early, would that be a help to you?” Not everyone will say yes. One of our private lenders did not want to be paid off; he liked getting our payments every month. When you run into this situation, you may be able to move the loan to another property if you want to sell the property that they have as collateral.
If you believe that we will have inflation, you may want to retain some of your long term, low interest rate loans. If all your property is free and clear, you will not profit from inflation, in fact, it will cost you money. Inflation increases everyone’s income. If your rents double because of inflation, you will most likely be in a higher tax bracket. If you move from the 15% bracket to the next bracket up (25% today), even though your gross income increases, your after tax purchasing power will drop.
Many seniors get scammed or simply robbed because they trust people that they don’t know to manage their financial affairs. If you know that you will need help in the future making financial decisions, start delegating some responsibilities early so you can learn whom you can trust and on whom you can depend. Put policies and systems in place now that will continue to work when you are less able to be in charge.
Balancing Work and Life
I get kidded by some friends, as I don’t seem to work as much as they do and have a lot of freedom to do the things that I enjoy with family and friends. A benefit of deriving your income from investing, rather than from a job, is that you can work when you want to.
As I mentioned in the first section of this letter, there can be a cost to not working. Once you reach the point where you have the income you need plus a cushion for unexpected expenses, you can choose to pay the price. It may be an empty house or an expensive repair you trade off in return for not working that day.
As I pass middle age, I am reducing the number of properties that I own and manage, knowing that I am giving up some future profits, but choosing to have more freedom to do what I want with my time.
A good question to ask yourself is, “Which properties do I want to own forever?” The next questions might be, “When do I want to sell the others?”, and “Do I need to reinvest, or can we just spend the proceeds?”
Should you acquire more properties, acquire them with a holding period in mind. Today, anything that I buy, I plan to hold for about 15 years, and then to either liquidate or turn them over to my children.
If you don’t have family members that are interested in owning and managing your properties, you could contribute your properties to a charitable trust which could then liquidate the properties without paying a tax, and provide you with an income for your life, plus benefit your favorite charities.
By, John Schaub
(John Schaub Strategies and Solutions Newsletter # 1311 November/December 2013)
