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Attention Flippers Everywhere: You’re In FAR Better Shape Than Most Long Term Investors

by Jeff Brown on November 1, 2012 · 17 comments

long-term investing vs flipping

Those who’re successful flippers, regardless of how many you’re able to turn each year, you may be missin’ the boat. Here’s what I mean. On one hand, if all you do in real estate is flip, the light at the end of your tunnel — as it relates to retirement — is a freight train coming at full speed. Flipping is a job, nothing more, nothing less. Here’s the good news. It has the potential to give you a lifestyle you never thought possible. I’ve personally seen many who’ve worked their way up to 2-6 flips a month — a few who’ve managed to do much more. The bad news? See the good news.

Meet Joe Flipper at 54

He started flipping homes and smallish multi-families when he was 38. At 40 he quit his $80,000 a year job to become a full timer. By 42, he was closin’ a flip a month, give or take. His typical profit — after tax — was $15-20,000 a deal. He sold his home at 44, buying in a far better neighborhood for twice what he sold his. His business was rockin’ and rollin’. He was closing more deals, and makin’ more money than he’d ever thought possible. His wife was ecstatic to say the least. And that was before he gave her a brand new Lexus sedan that Christmas. He’s since added a 600 square foot family/game room over their three car garage. Since his business was growing in leaps ‘n bounds, he clearly needed a new dually pickup. Doesn’t everyone? :) OK, he probably could use the pickup.

Then came the 35 foot RV.

Then the BassKiller.

You finish the list.

But at 54, Joe wakes up one morning slammed by two realities. 1) He’s just plain tired. He’s been tired for a few years now, even though he hasn’t been on the job as ‘one of the guys’ for awhile. It’s a grind, and and the grind’s winning. 2) Tired or not, what happens if he stops? He has all the goodies, but they’re all in the ‘now’ category on the spreadsheet. Retirement? Based on what, exactly?

At 44 years old he’d earned $500,000 in profits. Since then he’s pretty much averaged three flips monthly with after tax profits of around $60,000. Yeah, he’s gotten better at it. :) After his initial flurry of lifestyle spending, he’s managed to save around $300,000 for the family nest egg. Though his friends and family are appropriately dazzled by his success, Joe knows that a retirement commensurate with his business success simply isn’t in the cards, if he continues down the same road.

What to do?

Oops — Let’s play Back to the Future — Purposeful Plan — Part 1

What if 10 years ago when he was two years into full time flippin’ and his business had grown, he’d invested in three super well located 2-4 unit properties that were either new, or close enough for jazz? Let’s say he paid $265,000 apiece or so with 25% down.

What if he took $6,000 a month of his after tax profits — just 10% — to strategically target his long term investment debt?

What if he added the investment properties’ total cash flow each month to the loan payoff strategy as well?

What if he chose to pay them off one at a time, instead of with equal velocity?

What if he’d put in place, at time of acquisition, a depreciation strategy that would put his annual tax shelter on steroids — even though his personal income level would literally bar him from using it to shelter his personal income?

What if he did all these things utilizing the principle of Strategic Synergism?

Let’s go step by step — He’s acquired the three small 2-4 unit properties.

Note: There are two pivotal assumptions at work in this example. The properties will never ever increase in value, not a penny. No appreciation. Also, the NOI (net operating income) will never go up for as long as Joe owns ‘em.

Step #1:  He’s adding the aforementioned $6,000 monthly to just one of his loans. This results in the loan being paid off in approximately 22-28 months, depending upon the cash flow. (That’d be the cash flow from all three props.)

Step #2: He opted for the Cost Segregation approach to depreciation for at least one of the properties. What this does is to compress the timeline of available depreciation, while increasing the annual depreciation available each year. In this scenario we know that for about five years the annual depreciation using CS will result in around $25,000 a year in depreciation per property.

Step #3: When the first property is paid off, Joe then sells it. Since we assumed no appreciation whatsoever, that means his net proceeds will be about $257,000. His cost of sale was roughly 8% plus a bit. It took Joe 25 months to pay the loan off. He now has over a quarter million in tax free dollars to do with as he chooses.

Note: At this point in the Plan, it’s imperative to recognize that in no way, shape, or form could we possibly know what would be the highest and best use for this money. For the sake of this example, we’ll assume the market tells us that the acquisition of three more properties makes the best sense. In reality? My crystal ball is as cracked as yours. :)

Step #4: Joe takes the tax free proceeds (made possible by the accumulated, unused depreciation over time) adds $40,000 to it, and purchases four more smallish properties, similar to the ones he first acquired. Subtracting the one he sold, he now owns half a dozen small rental properties.

Step #5: He’s not quite 47 years old. He’s kickin’ butt ‘n takin’ names on the flipping side of his ledger. At this point his decision might be to continue the $6,000 a month he’s targeted for loan payoffs. Or, increase that amount to hasten a completely free ‘n clear portfolio. Or, begin diverting his now peaking after tax flipping profits toward the purchase of more income property. Let’s say Joe opts for keepin’ the six properties and moving on from there.

Step #6: He increases his monthly contribution to $8,000 monthly. This obviously speeds up the process. Why does he do this? Cuz he can.

Step #7: All loans are paid off. Since his Plan called for ‘vanilla, boring’ depreciation on his last six properties — no cost segregation —  a large minority percentage of his cash flow is tax sheltered — approximately 30-50%. This will continue for at least another 15-17 years. Sweet.

Where’s Joe at this point?

His retirement income at this point has risen to $110-120,000 annually. For about 15 years, maybe a couple years more, only 50-70% of that cash flow will be subject to taxation. Joe will have paid off his primary residence. His business? Close it down, pass it on, sell it, keep it but hire executive help. His choice. His loan free properties are worth a few HappyMeals less than $1.6 million. He’s somewhere between 54 and 58 years old. No house payment. Kids long gone. A few hundred grand in the bank. $9-10,000 coming in monthly.

And he smiles every morning at breakfast, cuz he knows he doesn’t need to flip homes to make a living in his old age.

But wait! There’s more! :)

Those who know me well, can clearly discern I’ve made this example exceedingly simple, and oh so boring. Fact is, with a guy like Joe, with his predictable earning power, he likely could’ve done more — in fact, easily so. But I meant this to be pretty close to the vest.

There was another facet to his Purposeful Plan not discussed here. We’ll be having Joe open up a retirement plan inside his company. (Experts who do this for a living will be used to make this a reality.) This plan will be funded with after tax income. It will be self-directed and will not be investing in brick ‘n mortar real estate. Instead, it will target notes, secured by real estate. He’ll begin this second, stand-alone strategy the same time he began investing in real estate. They’ll be independent of each other in every way possible.

But the second half of Joe’s retirement plan, generously employing the principle of Strategic Synergism, will be saved for another post.

Photo: Jeremy Levine

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{ 17 comments… read them below or add one }

Greg November 1, 2012 at 9:36 am

I bet somewhere in there, Joe could set aside $20,000/year for 5 years, and buy an EIUL. That would probably add at least $80,000/year in tax-free income at retirement. Maybe do that again somewhere along the line. I wouldn’t object to that.


Dale Osborn November 1, 2012 at 10:30 am

They always say hind sight is 20-20. If this happened then – today things would be different. You can’t just push the easy switch to go back and do things all over again making all the right choices. That would take all the fun out of the human learning process and would be too boring.


Jeff Brown November 1, 2012 at 10:34 am

Hey Dale — Couldn’t agree with ya more. This was merely an example of what ‘Joe’ coulda done if he’d known it was on his menu. Have a good one.


Jeff Brown November 1, 2012 at 10:31 am

Hey Greg — That’s certainly an option on his menu. However, Joe’s earning capacity, relatively speaking, is over the top. Also, since he owns his own company, he has an option many don’t have. He can sock away impressive amounts of money in the ‘retirement account’ for which his company is eligible. Still, what you suggest is also a possibility available to Joe for sure.


Sharon Vornholt November 1, 2012 at 12:57 pm

Great post Jeff.

Everyone out there flipping houses needs to take a hard look at what they are doing with those big chunks of cash. Flipping houses will help you pay off your rentals faster, so I’m a firm believer that you can do both; flip houses and build a good rental portfolio for long term, passive income..



Brandon Turner November 1, 2012 at 2:50 pm

Jeff – I always appreciate that you are a man with a plan. So few actually make plans for the future. I like to compare “flipping” to Blackjack -because you can do well for a while, but if you don’t play smart and over-leverage yourself, you could lose everything in one hand. Great article, as always. Now if only we can get more people to follow the advice!


Melisa November 2, 2012 at 12:45 am

Great article Jeff as a new Buy and Hold RE Investor I look to experts look you to help educate me on my journey.


Irsh Ramuk November 2, 2012 at 1:23 am

Can someone explain how the rental income is made tax free by accelerated depreciation?

SO the key message from this article is that you can buy and hold and once your rental income pays off the mortgage, you have a fixed income without much effort.


Jeff Brown November 2, 2012 at 10:07 am

Hey Irsh — Unused depreciation can be used to offset the capital gains/recapture taxes on long term real estate investments that you might sell. The most common reason investors would have ‘unused’ depreciation is twofold. 1) They make too much money. That is, they make over $150,000/yr. At that point the Internal Revenue Code bars them from using depreciation to offset any ‘ordinary’ income. 2) If #1 is true for the investor, AND the cash flow from their income property(s) are less than their available depreciation, the ‘extra’ depreciation is then put on the ‘shelf’ until it can be utilized using the IRC regs.


Keith November 2, 2012 at 6:07 am

Great post! I can’t tell you how many flippers I’ve seen burn out and flop with nothing left to show for it (except fancy cars and a lot of debt). It’s like any job, it’s got to work in parallel with a long term wealth building and retirement strategy.


Jeff Brown November 2, 2012 at 10:08 am

Hey Keith — Many of them call me. Sometimes I swear I can hear the exhaustion in their voices.


Karen Rittenhouse November 2, 2012 at 8:01 am

Joe is singin’ my song – and I go to be smilin’ every night…


Great article, Jeff.


Jeff Brown November 2, 2012 at 10:09 am

Music to my ears, Karen.


Jason Grote November 2, 2012 at 6:48 pm

I think I am beginning to experience this flipper burn-out… I am always trying to work myself out of a job! I think we will be contacting you soon for some direction ;)


Jeff Brown November 2, 2012 at 7:24 pm

And when you call, Jason, I’ll be answering. :)


Jon K November 3, 2012 at 6:53 am

Jason, I know our discussion has been all about development and rehabbing, but most of my stuff is buy and hold. Let’s talk about long term, too.

Jeff, thanks for a great article. Many who go into flipping get on that treadmill and can’t quite figure out where the off switch is when it’s time.


Frank November 14, 2012 at 7:25 pm

Love flips. Love buy and hold. Tougher, the picture gradually comes together nicely!


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