Take the Equity and build a bigger portfolio or hold strong?

Question

Hello,

Thanks to everyone on here for your expertise and willingness to help us young guns. Can’t wait until I have enough wisdom to pass on one day and pay it forward.

I’ve been primarily doing flips and building capital for the last few years and I currently have one long term rental that I bought about 3 years ago. Long term rentals are my passion and the direction I want to start focusing my attention on. My current rental yields about $800/month profit and it’s awesome. However, I’m sitting on about $250,000 equity and I can’t help but think about selling and then immediately turning that into 3-4 rentals in a cheaper area that could double or triple my monthly income and make big strides in growing my book. I’m curious if you experienced investors have found success by using this method. My long term goals are to build a larger long term rental portfolio to gain passive financial freedom.

Would you suggest:

A) Selling and buying 3-4 rentals and bumping the monthly cash flow up.

B) Hang tight, don’t sell assets to get assets. You’ll regret giving up a well performing asset at a time where that can be difficult to find.

C) Freestyle with some knowledge.

Thank you all in advance!

Joe Villeneuve · Answer

You're on the right track.  Building up equity in the same property is money lost exponentially.  Moving it forward is money gained exponentially.  Your initial thought about selling, and why, is correct.

Here's how I do it:

A - There are two criteria that dictates when (not if) I sell to access the equity,  1 - When the CF equals the down payment.  That means I have recovered all of my cost and from that moment forward, the CF is pure profit.  2 - When the appreciated equity is equal to the paid for equity (DP).  From this point forward, my equity value, although increasing in number, is decreasing in value.

B - Both conditions above must be accomplished before selling...the order doesn't matter.

C - Take the equity (now cash) and do exactly like you described...buy more property value and cash flow.

D - Keep repeating this process until...

Example:  $100k property1 - Buy with 20% DP = $20k.  Value of your property is now 5 times what you paid for it.2 - Property CF = $4k/year3 - In 5 years accumulated CF = DP, and profit begins.  Also at 5% appreciation/yr, the PV = 127k...paid for equity is more than 2x DP.  Equity = $47k4 - CF is still $4k/yr; PV = $120k; Equity = $47k;  PV = only 2.6 x the equity.5 - Sell and reinvest at $20% DP6 - New PV = $200k; CF = $8k, equity = $40k (subtracted closing costs & assuming added equity from paydown over 5 years).  PV is back to 5 times the equity and DP.7 - Repeat steps #3 - 6.  You will be developing an exponential return.

Bruce Woodruff · Answer

I'd stay put. It sounds like a good asset (if that is net). Consider refinancing while rates are still low-ish and use that to secure another rental or two.....