Critical Mass for Buy and Hold Investors

8 Replies

Hi Everyone! Happy Friday (that has different meanings to different people!! :) )  Thought I would post a thought provoking post to solicit a lot of response ... let me know what you think!

For those of you who have read any of my posts,  I tend to play both sides of the investment field.  

On one side I am an active real estate investor with experience and (knock-on-wood) some nice properties. 

On the other side I appreciate the fact that I have a lot to learn.  And even the things I do know may be incorrect.   

I find that that combination of "I think I know what I know" and "I don't know what I don't know" is really helpful in life [and investments in particular].   Its particularly helpful in the spectrum/view point of questioning your ideas and learning new things.  Keeping your mind open is one of the best practices in life.

Having said that, I find myself always questioning interesting points and theorizing on real estate success. I know that there is a huge population of Buy-and-Hold SFH and MFH investors on here.

For those people - here's a great question that I'm sure many Bigger Pocket's members would like to answer:

What is the right number [amount of houses] to hit critical mass? 

e.g.  I define critical mass as: "Enough free cash flow to handle all my financial needs in life, create abundance, AND be able to actively expand my business or invest in new ideas as I see fit."

This is critical mass.  This is the point which you have it all ... freedom, time, money, and a growing business.   

Critical mass is the true American Dream. 

My personal formula for critical mass is: 

My lifestyle overhead (variable for everyone) + 1 SFH deal per month = Critical Mass

This basically means, if I can cover all my expenses and planned expenses in life & have the OPTION to buy 1 SFH home per month, I would consider that critical mass for myself.

What is your personal formula?

Onto the nitty gritty ... 

So, how do I achieve critical mass

Step 1: First part of the equation

FIND OUT HOW MUCH YOU SPEND + WHAT IS REQUIRED IN YOUR LIFE, FINANCIALLY = LIFESTYLE OVERHEAD

Create a spreadsheet and systematically track every dollar you spend. 

Do not change change your lifestyle, do not hide things.  Just track your expenses on EVERYTHING.

At the end of several months you will know your outflow on average.  Add a safety factor. 

My safety factor is 100%.  (e.g. if I track 3k a month expenses, I keep a 100% reserve (6k) in my calculation). 

I know I spend less now then I will later in life (this also depends on you personally and your stage in life, what you hope to accomplish, etc)  And also, life changes a LOT.  You have to account for variable expenses - it will happen!

Its going to be different for everyone, just be honest with yourself.

If you know your Lifestyle Overhead, you are almost there.  The next part is simple!


Step 2: Second part of the equation

1 SFH per month - this is my definition of what I want my job to be, this is separate from my personal life.

This is easy to calculate. On average, you require 30-35k to close on a SFH home in my area.

Call it 35k.  

Step 3: Find the Critical Mass Number:

Lifestyle Overhead + 1 SFH per month = Critical Mass

I used 6k in my example above as the required monthly amount to make all my ends meet.  

1 SFH per month requires 35k per month as described above. So, plug it into the formula:

6k lifestyle + 35k investing= 41k/month

Now, let's break it down further...

Step 4:

In the long run, if I know that I can cash flow ~$350/month for each property after all expenses, overheads, etc. 

(Check the logic: $350*12mo = $4200/yr. $4200/yr / $35,000 investment = 12% COC return - 12% is achievable if you know what your doing. )

Then you quite simply need to divide the total required income by the monthly house income to determine how many houses you need:

$41,000/ monthly income / 350/mo/house = 117 SFH's

I imagine your reaction is something like this:

"Okay. Great. You're telling me I need 41k a month to make it all happen and that equals 117 homes. Lol, you're crazy. I don't even make a fraction of that now, I only own a couple homes now. You wasted my time and that doesn't help me at all? Right? "

My response: you are WRONG!

Now you have a vision. This is a key element in your investment plan. A very specific goal which makes sense. There was effort and thought put into it. You have real data on your requirements in life and you have real data on what is required to grow your business. 

In my case, my example, that is a big number.  For sure.  But my goal was enormous in the first place - closing 1 deal per month.  

In that situation, after year 1, I would have 129 homes.  

The goal is very big for starters, but I implore you to plug into my example the requirements of only doing 1 deal every 3 months or 6 months, you will notice the amount of money required and amount of houses required greatly reduces in that case. 

My next post will be an action plan to obtain 117 homes to meet my goals described above.  ITS NOT AS HARD AS YOU THINK !!!

Have a nice weekend :) 

Samir Shahani

Thought provoking for sure

Personally after I had enough to live on and few thousand extra no need to try and buy a house a month extra.

Reason being as prices of groceries, cars etc go up so does the rent received and the cost of the mortgages do not and of course after 30 years they are gone.

May I ask how many doors do you have, the 117?

To me I would rather flip for a couple years making it possible to get to the 117 much faster if that was my goal

   Wow, that seems way high to me. 117 houses puts you in pretty rarified air as far as RE investors goes. Not as ambitious to buy one a month, we do 3-4 a year and that is plenty. My thought is grossing 25k or so a month with mostly paid off houses is plenty. Will not be dating super models at that level but not much of a hassle either. 

@Michael Plante

Thank you for your response! 

I certainly understand and appreciate your lack of desire to want to close on a house per month.   I think that this is a very lofty goal and certainly should not be desired for everyone.

For me - its the "business home runs" that make tick.  Certainly, in my example, unless your lifestyle is obscene, 41k a month more than covers it several times over.  In that case, its not about money, its about "Business Home Runs"

As far as your question, no I have far less than 117 homes.  But we have a plan to get there in the not too distant future ... my next post will detail my plan , just thought I should leave something to desire on that front before I dive in :) 

It’s hard for me to conceive being able to get enough money to buy the 117 doors with just money from RE, to get to the point of having 35k/mo to buy a house a month

For me personally I prefer flipping for so many reasons. And then take those profits to some day buy a multi unit complex

Bit even then seeing cap rates of even 20% just seem like so little money for so much bother

But I guess we each pick our own poison lol

@Michael Plante

Great point of conversation - "we each pick our own poison." My main point in my initial post was, very simply, to have a plan.   If your plan of flipping homes leads you to your "Critical Mass" point, then by all means execute on your vision vigorously.  My "Critical Mass" plan is strictly buy-and-hold and I have been able to create a plan on paper which allows me to obtain that goal. 

Just to clarify, I do not have enough income from real estate alone to scale into 117 units (and just to clarify even further, I do not plan to stop at 117!) The initial money to get the train moving is coming from our W2 jobs, we have a good start already and are trucking away to the goal(s).

Best,

Samir

Great Post.. Like the great Albert Einstein said "Compounding Interest is the 8th wonder of the world". There is a great power in multiplication. The only thing I see in your analysis that struck me as somewhat odd, is that you are basing your analysis off SFH. If you would throw in some Small Multifamily Units in the picture, you can not only have better income per door, but also achieve financial freedom and critical mass in less number of transactions.

Is there a specific reason you chose not to include MF in your analysis.. ?

Originally posted by @Chinmay J. :

Great Post.. Like the great Albert Einstein said "Compounding Interest is the 8th wonder of the world". There is a great power in multiplication. The only thing I see in your analysis that struck me as somewhat odd, is that you are basing your analysis off SFH. If you would throw in some Small Multifamily Units in the picture, you can not only have better income per door, but also achieve financial freedom and critical mass in less number of transactions.

Is there a specific reason you chose not to include MF in your analysis.. ?

I agree with you 100%. MFHs may do the trick even faster and provide many other pros including less volatility on the ability to service  debt, etc. 

 For the sake of simplicity I used SFHs. My post was long enough , I didn’t want to have to tier everything out.  

In real life , I do plan to enter into the MFH market in the near future.

We believe we will be at 'critical mass' as you describe it with 70-80 units netting $125/unit in free cash flow after ALL expenses. Right now we have 21 units with 12 more under contract . We already have loan approval on 9 of the 12.