Last week when I posted how I went from a negative net worth to a positive one a big part of the turnaround was a result of buying real estate. I believe in the housing rebound and explain here why you should ride the wave. Real estate is the best way to become a millionaire.
My virgin property that popped my real estate cherry.
This 2 bedroom 1 bath was the first home I bought in 2001 while I was living in the Bay Area. Since I don’t like managing things that I can’t drive to this property was rented to a family member. I remember my interest rate was high at 6.1% on an adjustable rate due to being a higher risk because of student loan debt. Eventually when rates dropped I refinanced this property to help pay off my student loans. (Thanks renters!)
Current balance owed: $197,000
My second home that was purchased when I moved back to Hawaii.
As part of my relocation package my company offered to help with closing costs and assistance with purchasing a home. Since that was worth tens of thousands I took advantage and purchased this 3 bedroom 2.5 bath unit in 2004. Since I didn’t have the down payment I borrowed against my 401K to purchase the unit. Using 401K money to buy a car or pay bills is foolish, when you use it to buy a home you are actually diversifying. My 401K has only stocks and bonds, since the down payment was used for real estate its as though I added a real estate option. I know the early payment penalties if I lost my job, but by not buying I would forego the $20,000 in housing assistance. I wasn’t going to let that opportunity pass.
Current balance owed: $342,000
My wife’s first and true love.
My wife bought this 2 bedroom 1 bath in 2006 when she first started her career. This renovated unit is centrally located in Honolulu. This place was great as it was near all the night life on Oahu. We wanted to stay in this neighborhood however we couldn’t afford to buy a house in this neighborhood. I think she misses this unit more than she misses me when I’m traveling for work.
Current balance owed: $140,000
The Beast When we got married we found this two story house in the suburbs. This renovated house was in a great school district, located in a highly desirable beach town. The beach is three blocks from my house. Due to the price of the home we needed to come up with nearly $200,000 as a down payment. Are you fricking kidding me?? Who has that kind of cash saved up. It would take years to save that kind of money since I have no intention of selling any of my real estate holdings. So we borrowed against our other properties and used that as a down payment for this house in 2012. All the outstanding balance amount includes the money borrowed for the down payment. We also came in out of pocket a decent amount, however the majority of the funds were from the rentals. Every month when my renter pays the rent it goes towards paying back my down payment. It is actually cheaper for us to live in this house an an owner than renting something similar. I call this the beast as our monthly carrying cost is a beast of a payment, however we rent out part of the house to help pay the mortgage.
Current balance owed: $680,000
Total mortgage debt: $1,359,000
(Update: I have a 50% interest in another rental property that I will write about in an upcoming post. I did not include that unit in this post because the mortgage and responsibilities are split between my partner and I.)
Strong cash flow and rental income is what matters.
All of my properties pay for itself, any excess funds is reinvested into the units. When I was looking to purchase another unit in 2006 the prices were too high, I couldn’t rent it out to cover my expenses. If you value property correctly it is irrelevant what home prices do. If my properties all dropped 50% tomorrow it wouldn’t matter as I am concerned only with the rental rate. During the recession my properties dropped 20% in value, however I only had to lower the rent by 5% and do some needed upgrades. Where people got in trouble was buying a property that costs $4,000 a month to carry but could only rent out for $1500. Valuation matters.
If I could I would borrow $2 million dollars.
My wife thinks I’m crazy as I would like to eventually owe $2 million on properties. We’re not well diversified as all the properties are in Hawaii. Eventually I want to buy duplexes in other states. At $2 million it means we’ll have 7-8 properties, at that point vacancies doesn’t hurt as much. Now when a renter leaves that means a fourth of our rentals are vacant. With all the new banking laws that cap how many mortgages are covered by Fannie Mae or Freddie Mac, I won’t be able to buy anything else for a while. We did invest $35,000 into solar panels on our house ($35,000 closer to $2 million in debt, see dreams do come true.)
Location and neighborhoods matters the most.
Our properties are located in neighborhoods that are completely built out and highly desirable. There is no room for any new homes to be built. When the recession hit our properties dropped “only” 10-20%, while some parts of the island suffered losses of 40% or more. The areas that suffered the steepest drop has the worst traffic and have thousands of new homes being built.
Having a contingency plan for a worst case scenario.
I know some readers are probably thinking that I am over leveraged either with my house or my rentals. One of my requirements on my house purchase was that if one of us lost our jobs we can still pay for it on one income. With the rental income and tax breaks we can pay our mortgage on a single salary. For the rental properties we have enough liquid assets to cover 6 months of vacancies if needed.
Properties take a long time to build equity and cash flow. I bought my first one 13 years ago, however over time with rising rents and principle pay down they play a big part in my net worth. Many years down the line once paid off my rentals will generate at least $9000 a month in rent in today’s dollars. I will have future posts on how I find and value real estate. I’ll also post on how I pick my renters. If you don’t own any real estate what are you waiting for. If anyone has real estate questions you can also feel free to email me with them.
Do you think I’m crazy for wanting to buy more properties? Do you own rentals? What is your experience with real estate?