While there are several debates raging across real estate investing forums, one that seems to attract strong opinions is the debate on whether investors should actively or passively invest in real estate. While there is no singular definition of what it means to invest in real estate, with the advent of reality T.V. and a host of Do-It-yourself shows, there seems to be an existing opinion among the masses that unless you are beating the streets, talking to owners or swinging the hammer yourself, you are not really investing in real estate. Actively taking part in every aspect, it seems, would be the only way to gauge your true value and worth as a real estate investor. I believe that unless beating the streets and swinging hammers is your idea of a fun retirement, figuring out a way to build income passively needs to be a top priority!
Definition of Wealth
Part of the problem when talking to investors about real estate and retirement is agreeing on the definition of building wealth. Too often, the terms “rich” and “wealthy” are confused. Being wealthy means having the ability to choose what we do each day without worry. Being rich means I have the money today, but when I stop producing the money…then what?
Wealth is often confused with a number on a spreadsheet. That number could represent number of houses owned, bank account balances, the size of receivables or in some cases, the balances owed on the boats, cars or other expensive toys we collect. Building wealth means developing a plan to one day be able to stop… to stop doing the things we have to do so we can do the things we want to do. Each of us has a lifestyle that we live and hopefully we have identified hobbies or activities that we enjoy; wealth is simply a mathematical equation that tells each of us how long we can enjoy those hobbies and our lifestyle before our funds run out!
Here is a simple mathematical equation for determining wealth:
Balance of Accounts (cash on hand, retirement) = Retirement funds:
Monthly expenses (Mortgage payment, car notes, living expenses, insurance, required funding):
Monthly passive income (Net cash flow after debt service & expenses):
Monthly Expense - Monthly Passive Income = Total Monthly Flow (Positive or Negative) Multiply this number by 12 to get Yearly Flow
Retirement Funds/Yearly Flow = number of years
Ideally your passive income is larger than monthly expenses, but for most, it is not. Subtract the passive income from the expenses and divide your Retirement funds by this number and you have have how many years you can maintain your current lifestyle before your funds ran out. Most people are often surprised to see that after a short handful of years their funds are gone. Since very few of us are built with the notion that working until our last day is our idea of enjoyment, putting together a plan for growing passive income becomes critical for securing a comfortable retirement.
Passive Income and Real Estate Investing
When I first started flipping properties in Colorado, I was doing what many other experienced investors around me referred to as “real” real estate investing. I was advertising for leads, talking to buyers, inspecting properties, negotiating the deal, hiring contractors, lining up money, and essentially over-seeing every step of the project. We flipped some properties and held one as a long-term rental. On the long-term rental, my partner and I handled everything from interviewing tenants to minor maintenance work. Essentially, we did everything- but hey, we were told that was what it meant to be a real estate investor. Whether we enjoyed it or not never entered the equation.
At the same time I was buying properties in Memphis, TN that were part of my long-term retirement portfolio. I was investing in these properties completely passively and leaving all of the heavy lifting and decision making to the companies on the ground in Memphis. It didn’t take long for me to figure out which form of investing gave me the freedom I was looking for to enjoy my day to day life.
After depositing checks from my active flips, I was often left with a touch of anxiety because I knew that deal was over. I needed to quickly find the next deal in order to keep the income flowing. On the property we held as a long-term rental, I was spending an inordinate amount of time doing little things like checking on leaks that kept me from doing what I really wanted to do. I was so ‘active’ in my investing that I was missing out on some important things in life. I outsourced the coaching job on my sons first soccer team to another dad and that was when I decided that passive investments were going to be the major source of my real estate investments.
Develop Passive Investments for Retirement
By adding passive investment properties to a portfolio, an investor gives themselves the freedom to choose which activities are most important to them. Many investors find a great deal of enjoyment out of managing properties and find it very therapeutic to do the work themselves. God bless them! Others find it very therapeutic to take walks on the beach and to one day hope to make the beach part of their retirement. Regardless of what brings you joy in life and how you want to spend retirement, supplementing that retirement with passive income from real estate is a great way to build security and peace of mind.
Passive income continues to flow to us as investors regardless of our daily activities. So whether we are knocking on doors or swinging hammers, we still have a source of income that is consistent. When I first started investing in real estate, I was advised many times that long-term rentals and passive cash flow was for suckers and that real investors went for the big bucks in actively flipping. As 2012 approaches and I am a few years closer to retirement, I look back on those early words of advice and am thankful I learned my lessons quickly. While I am sure I will always be actively investing, my true joy in life is being with my kids and family. Luckily, I am building a passive income that will allow me to experience that joy on my terms for many years to come.
Photo: Robert Tadlock