Why You Shouldn't Leverage When Investing In Turnkey Rentals
Engelo RumoraBusiness Member
Investor · Toledo, OH · Member since 2013 · 4k+ posts · 2k+ votesWhy You Shouldn't Leverage When Investing In Turnkey Rentals
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Rental Property Investor · Durham, NC · Member since 2016 · 7k+ posts · 7k+ votes
8y@Engelo Rumora
I'm going to disagree with almost the entirely of your post. The key to leverage is moderate leverage. Don't buy everything at 95 LTV. Do 25-40 percent down payments.
The chances we see another GFC in our lifetime is unlikely. Keep in mind the events leading up to that recession took 30-40 years to materialize. (Thanks big short). So if history repeats itself we have another 20-30 years.
As far buying turnkey properties in cash, I think that’s also a bad idea. You likely won’t get an appraisal and you’ll likely overpay by a lot. When you finance the bank (with all that pesky paperwork) has a lot of build in things (like an appraisal) that limits your/their risk. Use high downpayments and your risk is even less.
Almost any turnkey company that only accepts cash purchases, throws off huge red flags in my mind as it likely means you’ll be overpaying by a lot. I know there are arguments to both sides of every coin but with the whole Morris invest debacle (who only accepted cash buys) it’s gonna be hard to override my opinion on this, especially if you’re dealing in sub 50k purchases
82 Replies
- Contractor · Oxford, MA · Member since 2018 · 807 posts · 745 votes8y@Jay Hinrichs do you think or worry about the hedge funds that own so many SFRs that if this happens again, they will dump everything and flood the market, destroying the SFR market? I worry that if one fund owns thousands and thousands of houses, what is their delinquency rate before they liquidate the whole lot due to non-performance?
- 8yJay HinrichsBusiness MemberReal Estate Consultant · Summerlin, NV · Member since 2014 · 45k+ posts · 66k+ votes
Originally posted by @Bryan Devitt:
@Jay Hinrichs do you think or worry about the hedge funds that own so many SFRs that if this happens again, they will dump everything and flood the market, destroying the SFR market? I worry that if one fund owns thousands and thousands of houses, what is their delinquency rate before they liquidate the whole lot due to non-performance?I really don't know.. I have been seeing them swap portfolios between themselves but not put it on the open markets..
- Contractor · Oxford, MA · Member since 2018 · 807 posts · 745 votes8y@Jay Hinrichs as i stated before my reply to you, I don't think we fixed anything so I am trying to prepare for the worst. With that in mind, I am very worried that with so many whales holding so much of the SFR pie (for the first time in history?) That I have no clue what happens when they don't perform and if they dump them onto the market, it will crush small fish with 2 or 10 SFR that are leveraged and aren't performing and need to sell (or get foreclosed on). Next thing you know the market is saturated, bringing the housing market to the ground. I see the multi market as more stable because we have seen what happens when the market crashes a few times. Maybe I am paranoid?
- 8yJay HinrichsBusiness MemberReal Estate Consultant · Summerlin, NV · Member since 2014 · 45k+ posts · 66k+ votes
@Bryan Devitt well think of it this way.. the big whales own all the multi family as well..
also hedge funds when they started out some of them went for low value assets IE the cheaper hoody stuff.
then realized that no work.. and they have been buying much better inventory the last 3 to 4 years..
like in Oregon they were buying 200k houses that rented for 1000 bucks American homes for rent did that..
so no competition from the BP crowds they would think these were poor investments.. vis a vi return and cash flow.
were the big guys also look at stability not only cash flow and return.. they don't need the return that most mom and pops do.. and because they bought better than average homes.. they are not experiencing the management hassle that those that buy lower value assets do every day.. like a Morris invest type situation..
- Member since 2018 · 214 posts · 175 votes8y
“What happens when they don’t perform and if they dump them onto the market?”
The rental market has been performing very well, it won’t change from performing well to don’t perform unless all of their rental properties goes 100% vacant all of the sudden, but the chance of thousands and thousands homes goes vacant is very low...
If the rental market are not performing well, hedge fund like Blackstone would not have purchased more and more million dollars properties in these two years. Since they see the “profit” in there, that’s why they are buying more and more...
Also, the hedge fund are not buying the properties at zero or 5% down, most of their purchase are cash or higher down payment. They don’t need to sell it low when the market crash, like one of the wealthy person said in a recent article, he only sell it when the market is in a high price. Since he hold the properties by cash without any leverage, he does not need to sell it low when the market crash. In case the market crash, he will just hold the properties over to the next booming cycle. He doesn’t need to dump it at low price.
Originally posted by @Bryan Devitt:
@Jay Hinrichs as i stated before my reply to you, I don't think we fixed anything so I am trying to prepare for the worst. With that in mind, I am very worried that with so many whales holding so much of the SFR pie (for the first time in history?) That I have no clue what happens when they don't perform and if they dump them onto the market, it will crush small fish with 2 or 10 SFR that are leveraged and aren't performing and need to sell (or get foreclosed on). Next thing you know the market is saturated, bringing the housing market to the ground. I see the multi market as more stable because we have seen what happens when the market crashes a few times. Maybe I am paranoid? - Specialist · Memphis, TN · Member since 2012 · 1k+ posts · 1k+ votes8y
The hedge funds make no sense to me at all. I have recently been on the fringes of a deal where hundreds of homes were being sold out of an overseas investment fund to a US hedge fund. The addresses are all awful parts of Memphis where performance has proven impossible for the current owners. So what is the attraction to a fund? The fund I used to supply had great rules and were buying fabulous investments, so why would any corporate investor want to buy sh*t boxes? I don't get it!
- Rental Property Investor · Ramsey, NJ · Member since 2016 · 72 posts · 55 votes8yWell I've only been at it a few years now but have no leverage yet. I've talked to enough people with stories of vast portfolios of rentals getting wiped out in the wake of 2008 - many under strange circumstances like unlikely contract clauses demanding repayment being triggered by things like lending banks getting acquired. I found a good team before I made any moves. Set minimum cap rate targets of 9% (for b class) or 14% (c class) and have been acquiring in cash. I look at comps for a sanity check. But with a team I trust, I'm really just looking to buy a cap rate and they know what I'm willing to pay for it. So far so good. Working with honest people really means everything. My wife and I live well enough below our means that we don't need much of my income for operating expenses, so it mostly just gets invested. For us, frugality is the method for enabling accumulatIon, rather than leverage. I do plan to introduce leverage when I get to 10 or so SFRs that are fully stabilized and predictable. But I'll probably only take on 60% leverage or so. I feel it would be silly to not use it for growth, but I would rather be conservative about it and move at a measured pace. And I would just not be happy with $150 per door.
- Rental Property Investor · Orange County, CA · Member since 2016 · 513 posts · 374 votes8y
This is a great thread. over leveraging will lead investors to losses but lot of them havent seen the stock market or real estate crashes as @Jay Hinrichs mentions.
i agree with your assessment that 50% cash and 50% leverage in a portfolio is prudent. Best is if the portfolio cash flow pays off the properties in seven to ten year period. One can quit the day job easily.
- Real Estate Agent · Arlington · Member since 2016 · 162 posts · 100 votes8y
As we look at the strong likelihood of increased inflation down the road, I wonder if thoughts here toward leverage will then become more dovish. One glorious part of having mortgages on properties is having a 30 year fixed note that will get pummeled over time by inflation (or admittedly, become much more burdensome by deflation, but I don't think that's where we're heading for now).
- Real Estate Coach · Austin, TX · Member since 2018 · 56 posts · 52 votes8y
I would say 100% Leverage would be fine and a dream as long as debt coverage is healthy. Consider the implications of needing to reduce rent by 10-20% to keep the tenant or the place rented during an economic crisis. Does your property still cash flow net of all expenses including your debt service? If so, why wouldn't you leverage?
- 8yBrian KittnerPro MemberInvestor · Hawthorne, NJ · Member since 2017 · 31 posts · 12 votes@Engelo Rumora thanks for the insight Mr. Dingo. I'm by no means an expert or even a very seasoned investor, but I'd agree with your assessment about the current state of the real estate, and even the overall market at this point. Seems to me now is the time to be conservative.
- 8yJay HinrichsBusiness MemberReal Estate Consultant · Summerlin, NV · Member since 2014 · 45k+ posts · 66k+ votes
Originally posted by @Thomas Staub:
I would say 100% Leverage would be fine and a dream as long as debt coverage is healthy. Consider the implications of needing to reduce rent by 10-20% to keep the tenant or the place rented during an economic crisis. Does your property still cash flow net of all expenses including your debt service? If so, why wouldn't you leverage?
or like my San Francisco clients whose 4 plex's in PHX AZ went hundred % vacant and stayed that way and they lost them.. and for sure they had max debt on everything.. that forced them to sell what I sold them in PDX that was still performing and they still walked from PHX and lost those buildings and it was a lot of buildings.. and again I am not saying we are going to see that play again.. but it happened.
Just like when I was Hardmoney lending in SF.. back in 1990 post earth quake and the war and the deep recession SF went into it was pre tech.. I had a loan on a great home on Green st.. 5 sq ft total remodel that when I made the loan in 88 it appraised for 2 mil.. it went to foreclosure sale in 90 for 900k ( the first we were the second) and no one bid.. we got wiped out.. it happened.
- Investor · Toledo, OH · Member since 2013 · 4k+ posts · 2k+ votes8y
Originally posted by @Rob Barry:
Well I've only been at it a few years now but have no leverage yet. I've talked to enough people with stories of vast portfolios of rentals getting wiped out in the wake of 2008 - many under strange circumstances like unlikely contract clauses demanding repayment being triggered by things like lending banks getting acquired.I found a good team before I made any moves. Set minimum cap rate targets of 9% (for b class) or 14% (c class) and have been acquiring in cash. I look at comps for a sanity check. But with a team I trust, I'm really just looking to buy a cap rate and they know what I'm willing to pay for it. So far so good. Working with honest people really means everything.
My wife and I live well enough below our means that we don't need much of my income for operating expenses, so it mostly just gets invested. For us, frugality is the method for enabling accumulatIon, rather than leverage.
I do plan to introduce leverage when I get to 10 or so SFRs that are fully stabilized and predictable. But I'll probably only take on 60% leverage or so. I feel it would be silly to not use it for growth, but I would rather be conservative about it and move at a measured pace. And I would just not be happy with $150 per door.
Hi Rob,
Thanks for your comment and 100% agreed.
Your comment is "candy to my eyes" lol
I replied on Jeff's comment about how folks looking to leverage should replicate what he has done and now I'm happy to say that folks looking to use all cash should replicate your strategy.
Finding the right people and building the foundation of your portfolio with cash is a great way to invest.
Live frugally and eat S#@% for years while throwing every penny into real estate.
Been there and done that.
Once the passive income starts pouring in
Then you can loosen up and spend more.
The first of the month is always round the corner :)
Keep the dream alive and much success
- Investor · Toledo, OH · Member since 2013 · 4k+ posts · 2k+ votes8y
Originally posted by @AJ Singh:
This is a great thread. over leveraging will lead investors to losses but lot of them havent seen the stock market or real estate crashes as @Jay Hinrichs mentions.
i agree with your assessment that 50% cash and 50% leverage in a portfolio is prudent. Best is if the portfolio cash flow pays off the properties in seven to ten year period. One can quit the day job easily.
Hi AJ,
Thanks for your comment and much appreciated.
It's all "fairytales and butterflies" until it's not anymore lol
Prepare for the worst but hope for the best.
Underestimate your income and overestimate your expenses.
I think 50% cash owned and 50% leveraged is pretty safe.
Much success
- Investor · Toledo, OH · Member since 2013 · 4k+ posts · 2k+ votes8y
Originally posted by @Thomas Staub:
I would say 100% Leverage would be fine and a dream as long as debt coverage is healthy. Consider the implications of needing to reduce rent by 10-20% to keep the tenant or the place rented during an economic crisis. Does your property still cash flow net of all expenses including your debt service? If so, why wouldn't you leverage?
Thanks Thomas,
I thinks it's just too risky to leverage an entire property portfolio even if the numbers look good on paper.
Always have a few "anchor" properties in the mix that "can't" be touched by a lender or anyone else.
You will always be able to fall back and rely on those when times get tough.
Just my opinion
- Investor · Saint Louis, MO · Member since 2016 · 970 posts · 1k+ votes8y
I wouldn't say I'm maxed leveraged with high LTV loans, but I do continue to cashout refi my loans (none more than once though) when I think they've appreciated enough to buy more properties.
I've been pretty consistent at a 75% LTV on my entire portfolio for 2.5 years now.
But I've increased my cashflow by 75% year over year. Its hard to stop you know - Investor · Toledo, OH · Member since 2013 · 4k+ posts · 2k+ votes8y
Originally posted by @Brian Kittner:
@Engelo Rumora thanks for the insight Mr. Dingo. I'm by no means an expert or even a very seasoned investor, but I'd agree with your assessment about the current state of the real estate, and even the overall market at this point. Seems to me now is the time to be conservative.Thanks for your comment Brian,
I'm just happy to share my opinion and I hope that someone finds it useful.
Much success
- Rental Property Investor · 港区, Tokyo · Member since 2018 · 61 posts · 42 votes8y@Engelo Rumora Great post! Been buying tk in Dayton recently, all cash deals. I don't believe you need to leverage these types of properties and the cash you would use to otherwise put on a down payment in other markets you can buy a house outright. Agree, it's all about who you are working with to be successful in the tk investment space. This will make or break you. Casey
- Investor · Toledo, OH · Member since 2013 · 4k+ posts · 2k+ votes8y
Originally posted by @Casey Maeda:
@Engelo RumoraGreat post! Been buying tk in Dayton recently, all cash deals. I don't believe you need to leverage these types of properties and the cash you would use to otherwise put on a down payment in other markets you can buy a house outright.
Agree, it's all about who you are working with to be successful in the tk investment space. This will make or break you.
Casey
Thanks Casey,
Well done on your success
Keep the dream alive
- Investor · Soldotna, AK · Member since 2015 · 103 posts · 64 votes8y
I just had another thought and might be worthy of creating a new thread, I don't know....
If residential rentals (of any size) become too much "work" or too risky, why not refocus on commercial rentals such as renting building space to businesses, dr's, lawyers, restaurants, retail businesses, etc...?
The advantages to me are longer term leases, the tenant takes care of most repairs and they have skin in the game because the business puts food on their tables
- Contractor · Canton, GA · Member since 2015 · 111 posts · 81 votes8y
Leverage is like alcohol. Nice if you can handle it in moderation. To much you may find yourself in a down ward spiral.
Please add some substance before using.
...Or you may have one aweful hang over when you wake up after this big party.
Just because I walk on the edge in life, doesn’t mean I have to take a big jump.
Know your past, see clearly what’s changed , and know the level of duress you can take in this business. Enjoy the American Dream even if it’s Plan B.
- Rental Property Investor · San Diego, CA · Member since 2013 · 3k+ posts · 4k+ votes8y
Originally posted by @Engelo Rumora:
CASH IS KING!!!
G'Day everyone,
I'm going out on a limb here so before you condemn my thoughts at least have a read and try to understand them.
Why does modern day society always want more more and more? GREED that is why.
Human behavior always traps us in vicious cycles, where cash is only used as a stepping stone for more leverage. In all reality is turnkey real estate that good of an investment when you borrow at 5% and try to make 8-10%? I’d say not so much and that's why I have turned down millions in profit over the years from investors looking to finance.
Does everyone forget that we just hit the 10 year anniversary of the financial crisis that led to people buying so many homes with so much leverage forgetting that if their income changes one blip it all goes to S@#%?
Maybe we should revert back to patience and discipline when purchasing a home. Realizing that we should start with one and not 17.
Learn what it is like to be a landlord, and have a property manager manage the day to day.
Being conservative is never going to make you the next Bill Gates, but remember the majority of ones wealth is created by their occupation as opposed to a levered portfolio of homes.
Think of your next property as a conservative investment, one that is entirely paid off, so if for some reason the economy takes a turn or you have a month or two with no tenant you will sleep just fine.
All good things take time so where is the rush anyway?
I see the market getting stupid again and many don't have any pants on.
It won't be a pretty site when the tied goes out again.
Your truly favorite Aussie,
Engelo Rumora - The Dingo
Dude, that's some terrible advice. If I followed that advise I'd own maybe 1 property (8 unit) free and clear right now, making me a few thousand bucks a month. Leverage makes the difference between a few thousand bucks a month to as much as hundreds of thousands of bucks a month.
If you want to call that 'greed', feel free. I call it living how I want and providing a good life for my family. - Rental Property Investor · San Diego, CA · Member since 2013 · 3k+ posts · 4k+ votes8y
Originally posted by @Jay Hinrichs:
Originally posted by @Luke Sass:
@Engelo Rumora Engelo, Wouldn’t you say that real estate is the best chance for an average joe to take a shot. I like real estate because you win on so many levels. We’ve all heard the IDEAL metaphor.I-income from the rents D- Depreciation (ensures we pay little to no tax on the income) E-Equity as your renters pay off your loan A-appreciation in the right market your property should appreciate over time L-Leverage( the ability to gain a return on 3-5 times of my original investment)
Using leverage gives you the opportunity to diversify, instead of all my cash in one property I can spread that cash out on 3-5 properties which mitigates my risk. I also receive 3-5 the return which allows me to build my cash reserves faster allowing to absorb any sort of vacancy.
To your point about the current market I do think there are a lot of people buying clear blue sky and hoping appreciation is going to bail them out.
Well I think what Engelo is alluding to.. is that max debt in a down turn can be unsustainable to some and lead to the loss of this dream
lets go back to 2002 when I started funding turn key companies in the mid west and really got into the rental side of things.. ( and this was regional) in 08 I had 465 investor loans out to mainly west coast folks who had bought in 10 states in the mid west and deep south.)
and here is how all those went.. I put up the HML to put them into title the buyer only needed 1k out of pocket and a 700 fico and my turn key providers and take out lenders would provide the homes. this was and is the BRRR strategy.. we were doing it way before it got coined on BP in fact I did well over 2,000 of them.. Anyway.. so now the buyer refinances and had 25% equity and cash out.. and none of their own money in the deal.. and they cash flowed 100 to 150 a door.. sounds great right exactly what everyone wants to do today.
well in 2010 by the time I was done foreclosing on all those west coast folks that could not refi ( because refi loans froze) and tenants stopped paying no income ) I ended up owning about 200 of these homes.. had they paid cash or had little debt they could have rode it through but no everyone had MAX debt and wanted as many doors as possible.. so many of these folks got crushed.. now granted it was the banks that took the huge loss and myself.. as they had little money into the deals.. but they lost their credit they had major stress.. divorces etc etc.. Am I predicting this again no.. and so what Engelo is saying is there Is moderation here and we are right back to those thinking that max debt is something to achieve with no history of what happens in a hiccup.. 25% equity in a property in a buyers market is NO equity its gone.. and if you put the cash up its a double whammy .. if your rental is vacant and you cant pay the mortgage.. your credit goes along with all your cash.. your recapture of depreciation and your threat of a 1099 C debt relief..
So obviously that was a doomsday event that happened and I live through personally... not predicting this.. but for me personally highly leveraged rentals there is some risk.. and again this is very regional.. in our area here we came through it OK in other areas were west coast folks are flocking to.. not so much..
You're smart, so I'm not pointing out something you don't know -- just something you left out. Those investors that, using OPM, were able to get 200 home and then lose them when the market tanked. Yes, if they bought them in cash they would have been able to keep them and ride out the storm.
***********BUT********* If they were all cash, they wouldn't have been able to amass 200 homes.
I'm sure everyone would rather have 200 homes in cash then 200 homes with debt. But that's not the choice. It's 200 homes with debt at $100/door profit, or 3 homes free and clear with $700/door profit.I love being heavy cash as it allows me to close fast and at a good price. But then I refi that sh** as soon as possible. So get a $2.5m deal for $2m because I can close in 5 days. Then get it appraised for $2.5m, get a new loan for $2m (or more), so I have all my $ back, then keep doing that. That's how you scale and build a huge portfolio.
The risk profile is NOT for everyone though. And some people like the slow and steady game. That's cool. No hate from me if that's your gig (and I'm not talking about you directly). But I don't want to add 1 door a year and have 20 doors in 2 decades. I want to have 10,000 doors in the next decade.
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