Be Careful of Dead Equity!!

Be Careful of Dead Equity!!

Rental Property Investor · San Diego, CA · Member since 2014 · 1k+ posts · 2k+ votes

What prevents us all from becoming super wealthy?  Plain and simple it is the return you get from your net worth.  So, for an experiment take your net worth.  That means, if you were to sell everything today and paid off all your loans etc...  What would you be left with?

A few years ago I figured out that if I were to do this, I would have about $2,500,000.00 in Equity or Net Worth.  I thought that was something else at 49 years old.  Then I calculated my ROE or Return On Equity.  I figured out that our passive income from all this RE was at $72,000 a year.  To figure out my ROE, I took that passive income and divided it by my $2,500,000 in equity or Net Worth.  Guess what?  It wasn't very impressive.  My Return on Equity or my return on Net Worth was almost 3%.

Wow!! That was a real eye opener.  That was pathetic.  What that told me was that I had too much dead equity sitting in pricey California single family rental properties.  So, what I did was learned and read and learned and read and attended seminars etc...  What I learned was people with dead equity and were successful RE investors took that equity and did one of 2 things.  The first was they refinanced that equity out (tax free) or the route I took, which was the incredible tool called the 1031 exchange.  

All I did was started to trade this pricey San Diego Re in for undervalue apartment complexes in Ohio.  Right now our passive income has risen to $120,000.00 a year and our ROE is now up to about 5%.  Again, this is tax deferred and the Net Worth is still the same.  The difference was, increasing the front doors from 12 to 78.  That is including 2 personal residences that don't give us any passive income.  Those personal residences have loans and take money out of our pocket each month.

Remember, If you keep the proper leveraged debt 30-50% on each property you keep a level of safety and ROE. Let me know what your ROE is currently and what you plan to do about it.

Happy and prosperous New Year to all here at BP!!!

Swanny

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Member since 2016 · 13k+ posts · 12k+ votes
9y

My opinion has always been that equity in a property is a liability not a asset. The most troubling issue I have with novice/inexperienced investors is they have absolutely no concept of the value of cash, the opportunity value to generate more cash.

Novice investors state that paying down a mortgage increases cash flow, they keep their rents below market, they do not apply annual rent increases. They do not understand that all of those things depreciate a investment. They have no concept that  when a property appreciates their returns are dwindling away. Clearly no concept of the value of cash. These I refer to as hobby investors, regardless of their net worth, as they never see beyond the money coming in.

The biggest hurdle novice investors face is looking beyond the money they are making. They never see the money they are not making. By doing that most overlook the unlimited amount of income they do not even know they are losing. That's right, it is not that they are not making it they are actually losing it and 9 times out of 10 it is because they have no concept of the value of cash. Having equity in a property is reducing cash flow and throwing income away. Appreciation is a double edged sword that money hoarders never benefit from.

Investors holding dead equity are looking at a diminishing dream. A someday thing. Thanks but no thanks I'll take the cash, every dime I can generate, before I die.

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  • Real Estate Broker · Cleveland Dayton Cincinnati Toledo Columbus & Akron, OH · Member since 2013 · 31k+ posts · 20k+ votes
    9y
    Originally posted by @Michael Swan:

    Well since I last checked, you guys @Chris Martin and @Brent Coombs and @Adam Christopher Zaleski and @Justin R. and @Thomas S. have been contributing nicely to this Dead Equity issue.  That's why BP if used properly spurs many different aspects to RE investment.  I seem to remember reading in an excellent book called the secrets of the Millionaire Mind by Harv Eker. One of the ways that rich people think and act different from the middle class is exactly what we have done and continually do on this forum and all others.  We are consistently learning and growing.  Middle class and the poor, think they already know.  I truly believe, when you quit learning, you start to die.  You all bring up good points.  

    Yes. I am a little worried about future 1031 exchanges not an option possibly.  Of course, they won't be able to take away the six I have already completed in 2015 and 2016. Next, I feel some of what Jay is speaking of when he talks about Midwest is more difficult to collect etc..  Right now my PM and I have worked extremely hard to maintain consistent collections of rent and late fees etc.  If you don't budget in Cap Ex, of course Muphy's law will hit you right between the eyes.  At the moment we have 3 vacancies out of all our front doors.  I am all over my PM if we don't maintain 95% or better occupancy.  

    Remember, I have 2 teaching jobs, working about 60 hours a week and just love every bit of this!!  I also think that Harv Eker in that book said that rich people focus on opportunities and poor people focus on obstacles.  Every 3 hours I press A button on my phone and another craigslist ad goes to the top of the list to rent out one of my vacancies.  I am texting, emailing, calling my PM to make sure he has signs up, flyers in neighboring retail establishments, $100 referral for tenants that refer new tenants, bonuses for my PM to lease out vacancies within one month, PM splits all late fees, bonuses for raising rents at lease end, $25.00 pet rent per month per pet etc...  We just purchased a 21 unit with investors too and come to find the previous owner was being dishonest etc.. Upon purchase 5 tenants moved rather quickly.  Many middle class or poor minded people would start to feel sorry for themselves and just play the victim.  No Way!!  We proceeded to rent them out for $80.00 more rent per month in Dec no less.  Not a good time for people to move. Plus a few wanted to pay $25.00 more pet rent.  An incentive for them to sign an 18 month lease at much higher rental rate than existing tenants was we gave them one free month rent to be used in Nov or Dec of 2017.  I choose to look at all obstacles as opportunities to succeed. I also am attempting to grow bigger than my problems.  Am I fearful yes!! But, that fear fuels my determination and persistence to be bigger than my problems.  I believe Albert Einstein once said, you can't solve big problems with the same thinking that got you into those problems. When I began to change the way I looked at things, the things I looked at changed right before my eyes.  I now want bigger and bigger problems.  That way I know I am growing!!   At one time I wanted to be comfortable.  Hogwash!! I want to be uncomfortable to grow way beyond what I could ever or anyone could have ever expected of me.

    I had a 6th grade teacher that sat down with my mom and told her, maybe Michael should do something with his hands, possibly become a gardener or something.  Guess what Mrs. Gates, I have a four year degree, a masters, and more than you will ever know.  Those statements that teacher made way back in 1976, predicated my path I have traveled.   I am much bigger than the problems that have been many many opportunities to succeed.  (Sorry to rant guys)

    Swanny

    Swanny good story, wishing you continued success however it's worth noting that you or your P.M. giving tenants a $100 referral is actually illegal here in Ohio. 

    The OAR Legal Assistance Hotline receives an array of real estate-related legal questions — including license law issues, disclosure, contract law, ethics and commission problems, among others. In an effort to help you work within the law, our “Legally Speaking” series spotlights some of the timely questions that are being asked by REALTORS. This one offers the do’s and don’ts when it comes to referral fees.

    Q: Can I send out a mailer to past clients offering to give them a $100 gift certificate to a local restaurant for referring a seller or buyer to the agent? Can I offer a $100 rent credit to any tenant who refers a friend who rents an apartment in a building I manage?

  • Engineer · Portland, OR · Member since 2014 · 1k+ posts · 1k+ votes
    9y
    I'm not sure I'd form an investment plan based on attending guru or sales seminars
  • Rental Property Investor · San Diego, CA · Member since 2014 · 1k+ posts · 2k+ votes
    9y

    Hi @James Wise,

    It is great to here from you with such a profound presence in the Cleveland area.  You must have much to share here on the issues regarding true Multifamily.  I am focusing more in my efforts in the Lake County area recently.  I would love to here your take on the path I am currently taking.  I have less than 100 front doors and need all the advice I can get from a seasoned professional like yourself.

    I can't wait to here your reply.  I know you have lots of Multifamily agents, turn key opportunities etc.. You must be extremely bullish right now.

    Swanny

  • Investor · Birmingham, AL · Member since 2015 · 45 posts · 10 votes
    9y
    Interesting post.
  • Investor · Princeton, TX · Member since 2014 · 1k+ posts · 1k+ votes
    9y

    @Michael Swan    I have always known lots of rich people.  I do not mean a little bit rich. I mean people that have so much residual income showing up their biggest problem is finding something to do with it.

    Nearly all of them got that rich by having a good working relationship with their families.  That does not mean their family simply gave them huge sums of money at 18.

    What it normally means is...

    1) Mentoring.

    2) Safety net.

    3) Co-signing.

    4) Partnering.

    The system in the US is setup for families to get richer and richer.  If your entire family is not, then ask yourself why.

  • Investor · Greenville, SC · Member since 2016 · 5k+ posts · 13k+ votes
    9y

    @Michael Swan I am re-positioning a 29 unit complex exactly as you describe above.  Plan to re-finance with Fannie/Freddie (or 1031) after stabilization.  Force appreciation, cash flow and refinance into long-term non-recourse debt.  Many BP members are doing this on a much larger scale than my part-time investing.

  • Rental Property Investor · San Diego, CA · Member since 2014 · 1k+ posts · 2k+ votes
    9y

    @Mike Dymski,

    When did you purchase and how long do you expect to reposition the 29 unit? What was the purchase price. How much did you invest and how much do you plan on increasing NOI?

    Swanny

  • Investor · Seattle, WA · Member since 2016 · 50 posts · 22 votes
    9y
    Originally posted by @Andrey Y.:
    Originally posted by @Amy Greger:

    @Jack B.

    The 3 properties we're selling we've owned for 8-9 years. I wanted to cash in on the appreciation, and the Seattle market is getting too expensive for new investment properties. For the Midwest properties, they are over 10% CAP and cash on cash ROI between 15-26%.

    A cap rate of over 10%, just speaks to the low desirability of the property and of the submarket. May (likely) also mean higher risk. If people (including investors) are willing to pay $100k for a $10,000 NOI in the Midwest, and $300,000 for the same $10,000 NOI in San Francisco, there is a good reason for that.

    $300K for $10K NOI in San Francisco could translate to $300K for $30K NOI in the Midwest. That cashflow can then be invested in additional properties or other opportunities.

    I'm glad I bought in Seattle when I did, and now I'm cashing out on the appreciation for better cash flow. It depends on what stage you're in life... in your 20s and 30s building wealth, or 40s and 50s sending kids to college and looking for long term passive income.  It is not a one size fits all strategy.

  • Investor · Greenville, SC · Member since 2016 · 5k+ posts · 13k+ votes
    9y

    Purchase = Feb 2016

    Timing = end of 2017 (depending on 3rd party management...changing managers right now)

    Purchase price = $1.1 million

    Down payment = 25%

    Rehab = $100k

    NOI increase = reluctant to communicate until I successfully execute but projecting $35k

  • Investor · Seattle, WA · Member since 2016 · 50 posts · 22 votes
    9y

    @Michael Swan

    I'm also investing with my retirement plans and non-recourse loan.  All income are tax deferred, goes right back into the plan.  

  • Los Angeles, CA · Member since 2016 · 43 posts · 9 votes
    9y

    Does a 1031 need to be a 1-to-1 exchange? 

    Like if I have a $400k property in California, can I exchange that for 4 $100k duplexes in Atlanta? Or can I only exchange it for 1?

  • Rental Property Investor · San Diego, CA · Member since 2014 · 1k+ posts · 2k+ votes
    9y

    Hi @Amy Greger

    If I would have known what I know now, when I was 26 instead of what I began to discover at 46, I would have had 15 million in Net Worth income by now. I wish they would have taught this stuff in school. I would have avoided those IRA's etc.. I would have been buying assets that put cash in my pocket every month, plus I would have 1031 exchanged my way up to 1,000 to 2,000 front doors by now. Think and grow Rich, along with Rich Dad Poor Dad I did not read until 46 years of age. These kids in middle class and poor families learn to get into deep college debt, get a good job. Then, work for money, buy depreciating liabilities, and if anything is left, follow the herds and give that money to someone else to manage and everything will work out. Wrong!! Have you seen the statistics. People that followed that false promise are still working at 65 or 70 or 75. Or if they can't work are forced to live on social security or are doing a reverse mortgage on that home that they were so proud of paying off before they retired or were forced to retire. I'm glad I brought my parents along for the ride. They have social security, passive RE income, equity in their home, etc...

    The sooner we start teaching this Rich Dad Poor Dad and Think and Grow Rich, and the Richest man in Babelon to our youth in America, the American Dream will be a true reality again.  We have a RE mogul leading our country in just a few short weeks.

    How do we get schools to start teaching this stuff?

    Swanny

  • Investor · Seattle, WA · Member since 2016 · 50 posts · 22 votes
    9y
    Originally posted by @Victoria Townsend:

    Does a 1031 need to be a 1-to-1 exchange? 

    Like if I have a $400k property in California, can I exchange that for 4 $100k duplexes in Atlanta? Or can I only exchange it for 1?

     1031 could be 1 to many OR many to 1.  

  • Investor · Seattle, WA · Member since 2016 · 50 posts · 22 votes
    9y
    Originally posted by @Michael Swan:

    Hi @Amy Greger

    If I would have known what I know now, when I was 26 instead of what I began to discover at 46, I would have had 15 million in Net Worth income by now. I wish they would have taught this stuff in school. I would have avoided those IRA's etc.. I would have been buying assets that put cash in my pocket every month, plus I would have 1031 exchanged my way up to 1,000 to 2,000 front doors by now. Think and grow Rich, along with Rich Dad Poor Dad I did not read until 46 years of age. These kids in middle class and poor families learn to get into deep college debt, get a good job. Then, work for money, buy depreciating liabilities, and if anything is left, follow the herds and give that money to someone else to manage and everything will work out. Wrong!! Have you seen the statistics. People that followed that false promise are still working at 65 or 70 or 75. Or if they can't work are forced to live on social security or are doing a reverse mortgage on that home that they were so proud of paying off before they retired or were forced to retire. I'm glad I brought my parents along for the ride. They have social security, passive RE income, equity in their home, etc...

    The sooner we start teaching this Rich Dad Poor Dad and Think and Grow Rich, and the Richest man in Babelon to our youth in America, the American Dream will be a true reality again.  We have a RE mogul leading our country in just a few short weeks.

    How do we get schools to start teaching this stuff?

    Swanny

    Agreed... my 15-year-old son has read Rich Dad Poor Dad.  I'm teaching my kids about money (age appropriate steps) at home, because that education is missing in school. 

    If we knew what we know now at 26... isn't that true about everything, not just investing? :) 

  • Rental Property Investor · San Diego, CA · Member since 2014 · 1k+ posts · 2k+ votes
    9y

    @Victoria Townsend

    You can exchange for 3 properties max.  If you have no debt on the sale of first property, I would buy an apartment complex valued at about $800,000 or greater.  You could buy a 1.6 mil complex with that kind of money,  that would be about 25% down.  Then you tax deferred cash flow could be about $40,000 a year if it is a strict yield play.  What kind of tax deferred passive cash flow are you getting right now on that $400,000?  How much are you getting in your pocket right now?

    Swanny

  • JD MartinBusiness Member
    Moderator
    Rock Star Extraordinaire · Northeast, TN · Member since 2015 · 10k+ posts · 16k+ votes
    9y
    Originally posted by @Andrey Y.:
    Originally posted by @JD Martin:

    Agree with @Account Closed . I am fond of saying leaving equity sitting in homes is like having employees sitting around, not doing any work. That said, the opposite of dead equity is 100% leverage, which is a dangerous place to be sitting without massive cash reserves. My personal preference is about 50/50, although in reality we sit at around 20-25% (I lean towards the financially conservative side of things). That allows some properties to maintain all their equity as a partial hedge against economic difficulties, while allowing others to help grow the business along with income generation. Also, the overall trend of the specific market needs to be considered. A property that will generate cash flow may stall or deflate when it comes to appreciation, and it could be a coup in a low-interest environment to harvest that equity at a high point and utilize those funds to expand your portfolio. 

    People say this all the time and I still can't wrap my head around it. If you have a $100k property with say a $800 PITI mortgage payment, if the property is 2% or 98% leveraged, where is this "partial hedge against economic difficulties"? You will still be making that same payment month after month, if its a rental the rents will be quite stable in the near term, so I am not seeing the benefit or even existence of this added 'security'.

     Your question answers itself. Properties that are not leveraged - IE, all cash - have no PI in your equation. As long as you can pay the TI part, you can hold the property indefinitely. 

    If every property you own is leveraged at 75%, there will be two issues at work simultaneously: first, your cash flow on each property (not your ROE) is going to be less than that of a non leveraged property, and second, you have little to no equity to tap in an emergency. Now take even a minor downturn and lose a renter or two, and suddenly you are in a negative cash flow scenario. Unless you have other streams of income, or very deep cash reserves, you suddenly get into a situation where payments are being shuffled, or unmade, or you are listing assets to get some relief. Either way, it is a quick way to go from investor to former investor.

    Someone above said it already, but investing in RE is great when the market is on fire. The test is who is left after a correction. I was shook out of my local market years ago in a local downturn, and I was lucky not to lose my primary residence as well. It was a hard and expensive lesson to learn about having adequate cash reserves. That is one reason I personally don't believe in leveraging everything I've got, though it is true that the equity in the cash positions could be making more money. It's just not part of my grand strategy.

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  • Investor · Seattle, WA · Member since 2016 · 50 posts · 22 votes
    9y
    Originally posted by @Michael Swan:

    @Victoria Townsend

    You can exchange for 3 properties max.  If you have no debt on the sale of first property, I would buy an apartment complex valued at about $800,000 or greater.  You could buy a 1.6 mil complex with that kind of money,  that would be about 25% down.  Then you tax deferred cash flow could be about $40,000 a year if it is a strict yield play.  What kind of tax deferred passive cash flow are you getting right now on that $400,000?  How much are you getting in your pocket right now?

    Swanny

    I don't think there is a 3 properties limit on 1031.  It's based on exchange value.  Identifying 3 properties is one of three rules that could be used.  The other 2 rules are based on values of the relinquished property.

  • Rental Property Investor · San Diego, CA · Member since 2014 · 1k+ posts · 2k+ votes
    9y
    Originally posted by @Mike Dymski:

    Purchase = Feb 2016

    Timing = end of 2017 (depending on 3rd party management...changing managers right now)

    Purchase price = $1.1 million

    Down payment = 25%

    Rehab = $100k

    NOI increase = reluctant to communicate until I successfully execute but projecting $35k

    Yes!!! That is eerily simple to one I purchased in Sept of 2015

    Purchase = Sept 2015 15 units

    Timing = Spring of 2017

    Purchase Price = $592,250.00

    Down payment = $144,000 1031 exchange money that grew from $34,000 originally invested in 2012.

    Rehab $50,000

    NOI increase = $10,000 so far - goal $15,000 total.

    Increased value = $150,000 minimum

    Cash Flow currently = $24,000 a year

    It may take us until Spring of 2018 to 1031 exchange or to refinance total money invested out of the property.  Then cash flow may be at $3,000.00 a month. After refinance, we may be at $2,000.00 cash flow again after refinance.  The loan may be a bit higher at that point.  Although, we will have paid our original loan principal Down about $75,000 for the period we held the property.  We have a 20 year amortization commercial loan presently at about 4.5 % interest loan.  We have a 5 year and another 5 year recourse loan.  I have been offered non-recourse loans if my loan balance is at least 1 million or more.  If it was a long term play, I may want a non-recourse 30 year fixed loan instrument.  I would think if I had a b class or a class long term newer building, that could be an option as I grow.

    I have 5 other complexes.  2 other repositioning deals and 3 yield plays right now.  Have you repositioned a product before?

    Swanny

  • Rental Property Investor · San Diego, CA · Member since 2014 · 1k+ posts · 2k+ votes
    9y

    Hi @Amy Greger and @Victoria Townsend,

    I can only list 3 exchange properties on the sheet every time I do a 1031 exchange. If I want to exchange for 4 it is not feasible with the statutes, rules etc. you get penalized big time if you make that mistake. Reading directly from Loopholes of RE by Garrett Sutton Rich Dad advisor, if you put more than 3 properties on your list you become subject to the "200 percent rule" . That rule says, since your list is more than 3, the total purchase price on the list, cannot be more than twice the selling price of your old property. Soooooooo, that's why I could not do that. Victoria, you should be good to go. However, I would highly suggest you have at least 50-60% debt to use leverage to your advantage. I am not talking about 75% or greater debt. Unless you follow my path. I have 5.5 mil in RE value with $2,000,000.00 in debt. I now have $2,500,000 in equity and rising as I increase NOI. Remember comps mean nothing to me as an apartment owner. I am not at the mercy of comps as the lenders start lending homes to people with low 600 credit scores, with little to no money in the bank, allowing parents to loan them the down payment, even though they don't have the money for a downpayment. It will happen and most likely is already happening. These people will need to rent when they lose their house again. Living with family and apartments may be their only option again.

    Swanny

  • Investor · Cleveland, OH · Member since 2015 · 6k+ posts · 2k+ votes
    9y

    I agree that the OP (and everyone else) should carefully work out their TIMING for "trading for cash flow" (to their OWN satisfaction)*, but he/they needn't be questioned derisively as if it's patently a terrible decision (which seemed to me @Jack B.'s point of view, not to mention @Andrey Y.).

    @Michael Swan, maybe your "trading for cash flow" reason will be clearer if you answer Jack's other question: "what is your projected total ROI on the new vs. old properties"? 

    * Similarly, why be pestered about: "buying a growth stock (or) a bond"? Happy New Year all...

  • Specialist · Honolulu, HI · Member since 2014 · 1k+ posts · 1k+ votes
    9y
    Originally posted by @JD Martin:
    Originally posted by @Andrey Y.:
    Originally posted by @JD Martin:

    Agree with @Account Closed . I am fond of saying leaving equity sitting in homes is like having employees sitting around, not doing any work. That said, the opposite of dead equity is 100% leverage, which is a dangerous place to be sitting without massive cash reserves. My personal preference is about 50/50, although in reality we sit at around 20-25% (I lean towards the financially conservative side of things). That allows some properties to maintain all their equity as a partial hedge against economic difficulties, while allowing others to help grow the business along with income generation. Also, the overall trend of the specific market needs to be considered. A property that will generate cash flow may stall or deflate when it comes to appreciation, and it could be a coup in a low-interest environment to harvest that equity at a high point and utilize those funds to expand your portfolio. 

    People say this all the time and I still can't wrap my head around it. If you have a $100k property with say a $800 PITI mortgage payment, if the property is 2% or 98% leveraged, where is this "partial hedge against economic difficulties"? You will still be making that same payment month after month, if its a rental the rents will be quite stable in the near term, so I am not seeing the benefit or even existence of this added 'security'.

     Your question answers itself. Properties that are not leveraged - IE, all cash - have no PI in your equation. As long as you can pay the TI part, you can hold the property indefinitely. 

    If every property you own is leveraged at 75%, there will be two issues at work simultaneously: first, your cash flow on each property (not your ROE) is going to be less than that of a non leveraged property, and second, you have little to no equity to tap in an emergency. Now take even a minor downturn and lose a renter or two, and suddenly you are in a negative cash flow scenario. Unless you have other streams of income, or very deep cash reserves, you suddenly get into a situation where payments are being shuffled, or unmade, or you are listing assets to get some relief. Either way, it is a quick way to go from investor to former investor.

    Someone above said it already, but investing in RE is great when the market is on fire. The test is who is left after a correction. I was shook out of my local market years ago in a local downturn, and I was lucky not to lose my primary residence as well. It was a hard and expensive lesson to learn about having adequate cash reserves. That is one reason I personally don't believe in leveraging everything I've got, though it is true that the equity in the cash positions could be making more money. It's just not part of my grand strategy.

    I reread your post. I still don't see anywhere where you said "free and clear properties". You were talking about percentage of equity versus leverage across the/your entire portfolio (line just before the one I bolded). I agree with most of what you said, but you didn't really answer my question. If someone is highly leveraged, say 80-90%, and another person is moderately, say 40-50%, where is the "partial hedge against economic difficulties"?

    Cheers and Happy New Year !!

  • JD MartinBusiness Member
    Moderator
    Rock Star Extraordinaire · Northeast, TN · Member since 2015 · 10k+ posts · 16k+ votes
    9y
    Originally posted by @Andrey Y.:
    Originally posted by @JD Martin:
    Originally posted by @Andrey Y.:
    Originally posted by @JD Martin:

    Agree with @Account Closed . I am fond of saying leaving equity sitting in homes is like having employees sitting around, not doing any work. That said, the opposite of dead equity is 100% leverage, which is a dangerous place to be sitting without massive cash reserves. My personal preference is about 50/50, although in reality we sit at around 20-25% (I lean towards the financially conservative side of things). That allows some properties to maintain all their equity as a partial hedge against economic difficulties, while allowing others to help grow the business along with income generation. Also, the overall trend of the specific market needs to be considered. A property that will generate cash flow may stall or deflate when it comes to appreciation, and it could be a coup in a low-interest environment to harvest that equity at a high point and utilize those funds to expand your portfolio. 

    People say this all the time and I still can't wrap my head around it. If you have a $100k property with say a $800 PITI mortgage payment, if the property is 2% or 98% leveraged, where is this "partial hedge against economic difficulties"? You will still be making that same payment month after month, if its a rental the rents will be quite stable in the near term, so I am not seeing the benefit or even existence of this added 'security'.

     Your question answers itself. Properties that are not leveraged - IE, all cash - have no PI in your equation. As long as you can pay the TI part, you can hold the property indefinitely. 

    If every property you own is leveraged at 75%, there will be two issues at work simultaneously: first, your cash flow on each property (not your ROE) is going to be less than that of a non leveraged property, and second, you have little to no equity to tap in an emergency. Now take even a minor downturn and lose a renter or two, and suddenly you are in a negative cash flow scenario. Unless you have other streams of income, or very deep cash reserves, you suddenly get into a situation where payments are being shuffled, or unmade, or you are listing assets to get some relief. Either way, it is a quick way to go from investor to former investor.

    Someone above said it already, but investing in RE is great when the market is on fire. The test is who is left after a correction. I was shook out of my local market years ago in a local downturn, and I was lucky not to lose my primary residence as well. It was a hard and expensive lesson to learn about having adequate cash reserves. That is one reason I personally don't believe in leveraging everything I've got, though it is true that the equity in the cash positions could be making more money. It's just not part of my grand strategy.

    I reread your post. I still don't see anywhere where you said "free and clear properties". You were talking about percentage of equity versus leverage across the/your entire portfolio (line just before the one I bolded). I agree with most of what you said, but you didn't really answer my question. If someone is highly leveraged, say 80-90%, and another person is moderately, say 40-50%, where is the "partial hedge against economic difficulties"?

    Cheers and Happy New Year !!

    Sorry, I thought it was clear that 75% of my properties were F&C and 25% were leveraged, and when I referred to 50/50 this is what I meant, i.e. not every property is leveraged. There is still a "partial hedge" even if all properties are leveraged, so long as there's enough equity to access (and you're not so far up against your DTI that you cannot find a lender to let you access the equity). If you own 10 houses worth $100k each, and each one has a $50k mortgage, you still have (theoretically) $25k or so accessible in each home. But the "partial hedge" is certainly much more realistic if some properties have no liens.

    Happy new years!

    Skyline Properties
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  • Investor · Cleveland, OH · Member since 2015 · 6k+ posts · 2k+ votes
    9y

    @Andrey Y., really? At this point in the economic cycle, would you consider you had a better "hedge against economic difficulties" at 90% leverage, or 25%?

    Or do you not care, because you reckon it's (only?) the BANKS taking up to a 90% risk?

    Fact is, SOME properties that are worth $800k today, may only be worth $550k "tomorrow".

    Would you want to be the person who still owed $720k (90%) on it?

    Personally, I'm all for having a "partial hedge against economic difficulties"! Cheers...

  • Rental Property Investor · San Francisco, CA · Member since 2016 · 227 posts · 365 votes
    9y

    Thanks Michael for starting a great discussion and thanks everyone for great contributions. 

    I am new to BP and really enjoying the learning. I own 3 SFR's in San Francisco which are leveraged at about 65% LTV. I have invested in SF because I know the market and the long-term appreciation is great. But like @Michael Swan, @Account Closed and @Amy Greger, I am considering shifting into a higher cash-flow market (presumably with less appreciation). 

    What markets should I be researching and who should I connect with who knows various markets in the West? I'm seeking a market with: 

    - good cash flow

    - decent appreciation 

    - low volatility

    - ideally reachable in 2-3 hours (by car or plane) from San Francisco

    Thanks!

  • Peter MckernanBusiness Member
    Residential Real Estate Agent · Irvine, CA · Member since 2013 · 2k+ posts · 1k+ votes
    9y

    Hey @Michael Swan

    This is great! This shows that gaining knowledge by going to seminars, tweaking what you have, and applying good financial sense to a person’s finances can have huge benefits! It is awesome that you were able to see what you needed to fix and make the necessary adjustments to achieve a better return.

    Thank you for sharing!  

    The McKernan Group4.957 Reviews
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