When my business partner and I started our company, I sat in the sales seat and had the privilege of talking with all our clients about investing, real estate, and their life goals. Recently, I got to take a nostalgic trip back into that seat for a short period of time and found that many of the conversations are still the same. Investors all over the world are interested in real estate as an avenue for bringing in passive income. Specifically, it’s not uncommon to hear an investor say they have a goal to bring in a specific amount of passive income per month around the $5,000 or $10,000 range.
I love this goal. And I love that real estate has a track record of helping people achieve these goals.
But people often go into this type of investing with a fantasy about how much cash flow they can actually get and the timeline it will take to get it. Buying four or five houses—unless you own them free and clear, so they’re producing significant rental income—will not make you $5,000 in passive income.
Real estate investing is not a sprint, it’s a marathon. The very best investors I know—and we do this ourselves in our company—utilize all the best components of the real estate strategy together:
- Buy a property that makes financial sense underwritten to today’s conditions.
- Have a tenant whose monthly payments are at or above the mortgage.
- Do all of this well, with a plan, over time.
If you want to get down to the brass tacks of the thing, here are three actual plans for adding $5,000 per month in passive income through real estate.
Investment Strategy #1: Buy a Few, Pay Them Off
Ideal for: Someone who has $50,000 to $60,000 per year to invest. They want to own it, they want the tax benefit, they want the control.
Using this strategy, an investor will buy and hold the least number of properties possible and have an aggressive principal paydown approach. The investor would want to acquire the properties as quickly as possible, and then the question becomes how much additional principal they can pay down over time.
If you put 20 percent down in a 20-year amortization in the current interest rate climate, you can average three percent of the paydown per year, so that’s 15 percent over five years. In this example, you could continue to buy.
Let’s use 10 houses as an example. You buy two houses per year, and you’ll own every house in five years. In five years, those first two houses are at 50 percent loan-to-value (LTV). You can look back at which one is the lowest-performing property and sell that one off. Take your available cash remaining from the sale of that property and pay it down on the lowest principal balance. Then, you can quickly pay down to a low LTV ratio.
Soon, you’ll start to have some paid-off properties. In the short-term, you have the tax advantages of depreciation and the cash flow benefits of rental properties. As you pay them off, you won’t have the benefit of the interest to write off. It’s the most conservative. It’s the safest. Even with a 30 to 40 percent expense ratio, you could still be making more than $5,000 per month in cash flow on ten $100,000 houses.
Passive Real Estate Investing
Ideal for: An investor who has a good amount of money in an IRA that they can deploy or an investor with a higher income who wants to diversify.
With this approach, an investor would invest in syndications, real estate investment trust, or apartment buildings that are totally passive. People can do this, especially people who are higher income earners. It’s a perfect option for those who don’t want to solve the problems of an individual asset.
Say, for example, you had an upfront investment of $100,000 by using your IRA. If you invested $50,000, you’d make about $1,250 in passive income per quarter. Once that property is totally stabilized and refinanced, you can typically expect to make an additional percentage return on your investment until that property is sold.
Although it’s not hitting your $5,000 per month in cash flow immediately, as you do those syndications, they do snowball over time. So, I can take my initial $50,000 investment and the $5,000 I made that year in passive income and keep rolling the interest into the deal. Though the initial return was only one-tenth of the goal for passive income, using this strategy over 10 years could literally mean $10,000 per month in passive income.
If you’re a super saver or you have a high net worth, this could absolutely be a great option. The only downside is if the general partner who manages the syndication decides to sell, you’re not really in control of that decision.
You would have whatever gain is built into the deal (make sure to underwrite every deal specifically), but you wouldn’t have control. You also don’t have the same tax benefits as owning individual real estate investments, of course. So, there are definitely elements to consider here.
Investment Property Scaling with Turnkey or BRRRR
Ideal for: Real estate investors who are more active in their investing or who have their own team and understands the risks associated with this strategy.
In this example, you can acquire three, four, or five properties in a year, so you really start building up and seeing more significant cash flow in a shorter term. You’re also spending less time in paydown mode and more in growth mode from a position of number of doors. BRRRR is one popular way to achieve passive rental income.
In this case, an investor can scale more on the cash flow side because there are more doors. If you have 30 to 40 doors making $150 to $200 per month, then you can have cash flow that gets you to that $5,000 per month—an excellent passive income stream. You are at a higher leverage, but you can apply the same idea of taking the one or two lowest performers and selling them, and then paying off the others or using those to purchase more doors for additional income.
To minimize the time you spend managing and searching for rental real estate, considering hiring a property manager or a property management company. They can handle things like listing your properties and turning them over between tenants. Your real estate agent can also help you scope out potential investment opportunities. After all, growing your taxable income with this strategy will require regularly purchasing new income properties.
So What Are the Best Passive Income Investments?
What does this look like for you? I’d highly recommend you assess the following three things:
- How much capital you bring in each year
- Your risk tolerance
- Your capacity (how much time, energy, and effort you can commit)
You should also pay close attention to your real estate market and discuss your strategy with your real estate agent. They’ll have a good idea what strategies lead to long-term wealth in your metropolitan area.
Next, make sure you have a clearly defined goal and be honest with yourself about how badly you want to get to that goal.
We all know people who over a few years have acquired incredible portfolios, and we also know people who are still underwriting one or two opportunities months after being presented the deal. Everyone has different ideas of what they want their portfolio to look like, but no matter what that is, this fact is true: The clearer the vision, the clearer the outcome, the clearer the path to get there.
I tell my team this all the time. There are two things you can’t get back: time and experience. Don’t let those two things go to waste in your life. Make a plan. Outline the steps. And get after it. It’s time for action.
What approaches have you found the most effective on your investing journey?
Share your story in the comments.