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
Originally posted by @Alex Shin:
@Jeff Wallace Woah! Jeff, I agree totally with your statement here. I'd say my 6 year goal goes very similarly in line with what you were able to achieve in 5 years. I'm saving up for my 20K (where did this magic # come from? Lol) to start my path towards first replacing my monthly expenses, to reaching my semi-financially free #. If you can share, did you start by buying rentals in the Texas market, close to where you live, or did you go out of state at all? I would very much appreciate your response! I am wrestling with what my Step C would look like, living in SoCal without a 6 figure income, but trading A LOT of hours for $$ to save up. Thanks-I think $20k is a magic # as it's 20% of a $100k SFH
I think it's a matter of preference. One thing I haven't seen mentioned a lot in this thread is about the importance of reserves, ESPECIALLY for leveraged properties. If I just took gross rents minus PM and PITI, my cash flow numbers would look a lot better, but we all really know these aren't true cash flow numbers. A big chunk goes into a separate account, per property, for vacancy, cap-ex, and maintenance. Is this a bulletproof strategy? No, but I think building up these accounts consistently over time helps to mitigate the risk involved with leverage. Once I scale large enough and have enough cash flowing properties with large enough balances in these reserve accounts per property, maybe then I can come up with a different method and just have one large cash reserve for all properties.
The way I'm doing it now is leveraging to grow, maintaining what I feel to be adequate reserves for each property, and remaining flexible. In this rising interest rate environment and in this REI stage I'm in now (growth), I think this is prudent for me.
- Investor · Seattle, WA · Member since 2017 · 3 posts · 2 votes8y@Engelo Rumora thanks for the reality check, could provide a few tips for folks who have just invested
- 8yJay HinrichsBusiness MemberReal Estate Consultant · Summerlin, NV · Member since 2014 · 45k+ posts · 66k+ votes
Originally posted by @Cody L.:
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.
your in a different league than 95%of those on BP.. LOL... and I think the conversation was more in line with buying little sfr's not being a major player in MF game which of course you are.. And I suspect you have bought your share of MF that failed as well because rents could not cover debt service .. building eroded and there you were to pick up the crumbs.. it happens in those assets as well.. there was a great transfer of wealth that happened out of the GFC.. for those that could execute.. and those that were leveraged up or had 5 year calls there was some blood baths.. I know I financed a few folks that had 5 year calls and the bank always extended their loans at 5 years .. well in 08 to 2010 that did not happen to many folks in the MF and commercial space as you probably aware and again your sitting there ready to grab those deals when those operators stumble for any number of reasons..
- Member since 2018 · 214 posts · 175 votes8y
Well said. I 100% agree with it.
if I didn’t use leverage, I would have had only 2 to 3 free and clear doors. Since I have been using leverage for a few years, I’m holding 70 doors class-B properties with positive cash flow of 6-figures income per year. I’m not happy with only a few free and clear properties. I want more doors to grow more cash flow...
Originally posted by : @Cody L
***********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.
- Real Estate Coach · Austin, TX · Member since 2018 · 56 posts · 52 votes8y
@Jay Hinrichs I agree. If units become and stay vacant, that’s hard to handle no matter the leverage really and yes, while not being leveraged would help, not earning money on invested capital AND collecting no cash flow will put anyone in a bind.
At the end of the day it comes down to your strategy and being a prudent and ever-learning investor. If you're investing in primary markets, as you likely know, you should expect more volatility. Most linear markets dropped less than 10% during the great recession while places like Las Vegas, Phoenix, Miami and parts of CA got crushed. If your game plan is backed by economies that are diverse, connected to and ALSO disconnected from the general economy, you keep a close eye on leading economic indicators as well as coincident indicators, those telling the story thru all of the noise, you should be able to avoid such drastic results.
Having reserves is also important. Ultimately having an arbitrary number of 50% down payment applied to all market types doesnt make sense to me but then again, maybe my strategy is different
- Investor · Toledo, OH · Member since 2013 · 4k+ posts · 2k+ votes8y
Originally posted by @Todd Hymel:
@Engelo Rumora thanks for the reality check, could provide a few tips for folks who have just investedThanks Todd,
I'm happy to help
Much success
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