Lot's of leveraged houses vs. one or two paid off houses

17 Replies

 I know that they say leverage allows you to increase your returns, however; I've heard a popular investor say that he used to think that many leveraged properties were the way to go, but that now he realizes that one or two paid off properties that cash flow like crazy are the better way to go. But he doesn't say WHY.

The one thing that comes to mind is if you have 50 leveraged houses, you have 50 roofs to deal with, 50 kitchens, etc. That's a lot of money spent on upkeep, but if it is factored into the rents and budgeted for, then I don't see why this still isn't a better way to go. Perhaps it's the way to go when building wealth, but paid off properties are good for when you want to "retire".

Thoughts?

Originally posted by @Charlie Fitzgerald :

2 paid off houses rented out and cash flowing great can be 2 paid off houses not rented out with no cash flow pretty quickly.  Leverage to me is the way to go.  Your risks are spread over multiple doors.  Yes there is more work, but there is also more reward...in my opinion.

Wouldn't 2 leveraged properties be susceptible to the same conditions, for the sake of comparison? In such circumstances, two paid off houses are superior to two leveraged properties, as the paid off properties have far less expenses.

With many leveraged properties, you will also be able to take advantage of appreciation and debt reduction on all of them. Don't forget about the extra tax benefits such as depreciation and mortgage interest.

I think it's all about personal style and where you are at in your career. Being young and having low interest rates right now, I'm trying to buy every quality investment property I can find.

Originally posted by @Charlie Fitzgerald :

If your goal is to have only 2 houses...I'd rather have 2,  300k houses with 25% of my money in them and 75% of somebody else's rather than 2, 75k houses that I own free and clear.  Use whatever numbers you want, the concept is the same.

Ummm...the concept is the same in that what I pointed out above as your reasoning for having leveraged properties works against you, not for you, especially since you would rather have two expensive leveraged properties rather than two cheap paid off properties.

You are just changing your scenario and comparing apples to oranges now, where earlier you made a statement as if leveraged properties are somehow immune from the same vacancy risks, and as if there is no expense there when they are sitting vacant.

Again, your original comments said that 2 paid off houses sitting vacant is lost income. Great, but the same applies to two leveraged properties and then some, since two leveraged properties is not only lost income but a lot of expense as well. Comparing apples to apples would give a better comparison of which is better.

Again, it has nothing to do with a number goal. The question is, which is better, two paid off houses or multiple leveraged houses? For sake of an even comparison, let's use the same values for properties...

Originally posted by @Charlie Fitzgerald :

If your goal is to have only 2 houses...I'd rather have 2,  300k houses with 25% of my money in them and 75% of somebody else's rather than 2, 75k houses that I own free and clear.  Use whatever numbers you want, the concept is the same.

No offense, but your posts are poorly thought out and make absolutely no sense at all, and you keep changing your story. First you said it's better to own leveraged properties because two vacant houses sitting empty are lost income. Great, but two leveraged properties sitting empty are also lost income, not to mention that they are huge expenses. Or did you forget to take that into account?

Then you post that you would rather have two expensive leveraged properties than two cheap paid off properties, which according to the logic of your original post, is even worse.  Did you perhaps make an erroneous statement and are now trying to justify it but are in reality digging deeper into a position that makes no sense?

None taken.  In my personal opinion, the intent of leveraged properties is to build a portfolio of them.  Not 2.  Perhaps you missed the first part of my statement that said if you intend to have only 2 properties.  The beauty of leverage is that you can have multiple properties so that when you do have a vacancy, your income loss is not 50% or 100% of your rental income as it would be with 1 or 2 paid off properties, respectively.  Maybe you have 2 vacancies out of 14 rental properties for instance in a leveraged portfolio.   The reason I'd rather have two 300k houses (if I were only going to have 2) is because my rental income on a 300k house is likely going to be a lot bigger than it is on a 75k house,

and I will be able to stack my chips a bit to cover my vacancies when they occur.  Yes so are my expenses, but all else being equal...my yield is likely to be larger in the larger house and so will my appreciation nest egg in rising markets, and my depreciation benefit is also larger.  There is no debate that given the choice between a fully free and clear portfolio being handed to me or a portfolio of the same size with mortgages being handed to me, I am going to take the free and clear portfolio.  But if I am building that portfolio myself, I'm going to do it with as little of my money in each acquisition as possible and get to as many cash flowing assets as I can in as fast a period of time as I can.  That's my choice...it might not be yours.  To each their own.   Thanks for your comments.

Jack B. Your on the right track. I practice and prefer the paid off properties. I sleep at night, have very little stress, I'm able to travel, my belly is full, have plenty of time. The question is how much is enough? I personally have enough, so now I travel slow and deliberate. No rat race for me and I'm not worried about pleasing others. Life is good

My personal strategy has been to "go wide" buy buying leveraged properties.  We have used W-2 income, to include bonuses, tax returns, etc. to buy a number of newer quality houses.  And then we "go deep" by paying them off.

There are so many moving parts to this: how old are you, how much disposable income do you have, do you have children/college to consider.  It takes time to save up one deposit.  And then the next and the next.  But, the cash flow increases over time; rents go up and mortgages go down.  

We can also leverage our abilities through rehab projects.  Use creative strategies to buy low, or to add value.  When the "debt snow ball" is used, houses pay off pretty quickly.  

Here's my take on this question...

"It depends", yes, but these facts are constant: cash flow pays the bills while equity only improves your net worth. You can't pay the bills with equity.

Profit can be thought of as the excess of cash flow after expenses and debt service.

Early in your career - regardless of your own age, in my opinion - you'll want cash flow for income. As equity builds, I personally prefer to arbitrage that; that is, lend it out for more interest than it costs me to borrow against my equity. This pays back the equity while producing a stream of income.

So, I get income from debt and income from "equity".

That said, of course, there are instances where a higher net worth can facilitate new business and enable new ventures.

So, yes: "it depends". What are your broader goals?

@Jack B. @Jake Stenziano

Hi Jack

Leverage works both ways.  You can either make a fortune or get wiped out.  I would prefer to own one apartment complex with 50 units than have 50 single families.  You are leveraging time and resources with apartment complexes.

It comes down to risk tolerance and your strategy.  Owning the most amount of properties with fewest amount of your own dollars will lead to the highest creation of wealth.  When those properties appreciate, you will realize a higher return.

Great topic, I think about the benefits of both on a daily basis. I currently own 4 single family homes in which I put down 3.5%, 20%, 20%, and 5% in order to close each deal. I personally want to expand my portfolio by leveraging so I can own more, opposed to putting all my cash toward owning each property free and clear and owning less. I do however make extra principle payments toward the property with the lowest payoff amount.

I often refer back to Robert Kiyosaki in Rich Dad Poor Dad where he constantly teaches the importance of OPM (other people's money). Which is more of a leverage based strategy.

With rates this low, I think it is a good idea to leverage.  If it was costing 18% to get a mortgage it would be another situation completely.

By the way, I remember when rates were at more than 18%.  Yes.  I am that old.  I admit it.

Leverage is super risky if you don't buy "great deals" with at least 25% to 35% equity built in. The only way to find great deals is to fix up properties that have deferred maintenance. By fixing up the property, you kill two birds with one stone. CapX takes up to 15% on your cash flow and 5% goes to repairs. When you fix up the property and get everything up to date like the roof, siding, cabinets, water heater, HVAC, electrical and plumbing, you will eliminate most of the CapX for a while.

Don't leverage if you don't know how to get deals with 25% to 35% equity. If you can find the deal, you have a margin of safety to apply leverage. 

Here is another way to look at it. Always leverage when your loan constant is 3% lower than your cap rate. 

Don't hold your rentals forever. Buy 10 SFR rentals with a hard money loan, fix it and refinance into a low interest rate loan. Once you hit 10 rentals with 25% to 35% equity in your credit (assuming the real estate market is pricing stable and not declining), sell the 10 rentals that you've leverages and trade all your SFR homes in a 1031 for an apartment.

Then, guess what? You've paid off all your leverage and can start the whole process all over again. 

Originally posted by @Jack B. :

 I know that they say leverage allows you to increase your returns, however; I've heard a popular investor say that he used to think that many leveraged properties were the way to go, but that now he realizes that one or two paid off properties that cash flow like crazy are the better way to go. But he doesn't say WHY.

The one thing that comes to mind is if you have 50 leveraged houses, you have 50 roofs to deal with, 50 kitchens, etc. That's a lot of money spent on upkeep, but if it is factored into the rents and budgeted for, then I don't see why this still isn't a better way to go. Perhaps it's the way to go when building wealth, but paid off properties are good for when you want to "retire".

Thoughts?

"Popular Investor"? Where does he suggest other Investors get their 100% purchase cost from to own their Real Estate free and clear from day one?

"Now he realizes that one or two paid off properties that cash flow like crazy are the better way to go"? No he doesn't; he can only SUGGEST that he is right! Others will (rightly) disagree. Horses for courses...

This is a controlled situation math problem.

Situation 1 vs Situation 2.

I have 100k. I can either buy 5 100,000 properties @700 month in costs, and rent them for 1k, or I can buy 1 property in full.

My one property nets me 1k in rents. Full cash. 

My 5 net me 1500 total between them all.

Key points to realize.

My five in order to meet my 1 must maintain at least a 60% occupancy at ALL TIMES. With no costs. Ever. Five times the tenants means 5 times the risk of wear and tear and/or damage.

My one unit has very little mitigation.

When its not rented, I make no money whatsoever.

My five properties are new, therefore dont have equity for leverage. My one property is paid in Full, therefore I can leverage up to 80-90% value (80-90k) at any time.

In my opinion, take it for what its worth, I like a 50% cash in finance.

This allows for you to do a 30% leverage right away, you have half the payment, so more cash flow, but you get the diversity of risk, without too much diversification to hit diminishing returns.

For instance.

I have 100k again, I buy TWO properties, my pay is 350/month, and I make 1k per, or in essence, I make 650/property, for 1300/month cash.

I dont quite make 1500 like the full 5, I make more than the one, I gain the power of leverage, at the sacrifice of cash flow, but I have the protections of diversity, but without too much of it. Its the best of both worlds IMHO.