301: Winning the Money Game—Case Studies
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Episode Transcript
Welcome to Episode One of Season Three of the Growing Empires show. Our theme for this season is winning the money game. And ultimately, we're going to talk about how to keep all that cash in your pocket and have your assets grow, so stay tuned.
00:13
Welcome to Growing Empires hosted by real estate entrepreneur, and trusted investment advisor, Jennifer de Jesus. Growing Empires provides insight to building wealth through passive income producing real estate investments for those who want to build and manage a more profitable real estate portfolio.
00:31
So what exactly do we mean about winning the money game? Well, it's about being creative. It's about being able to utilize other people's money to have your assets grow. It's about being able to keep money in your pocket, provide for a future for your family, for yourself. It's about being able to think about retiring early. And it's about how to leverage yourself appropriately, how to use creative financing to accomplish the goals that you set out for your real estate investments. It's about how to defer capital gains, and save some of that hard earned money. It's about a lot of things. And we can go on and on and on about what exactly we mean about winning the money game.
01:18
But let's talk about some people that have won the money game, in my opinion. We're going to go through today some case studies of people that have been very successful at winning the money game for one reason or another. Before we get started, I want to point out that part of winning the money game is making sure that you have the correct people on your team. You will not be successful in being super profitable if you don't have the right people on your team. You need to connect yourself with a Qualified Intermediary. I certainly recommend the 1031 Corporation and you're going to hear them on two of our episodes this season talk about all the things that you need to know about deferring capital gains. I really suggest that you have a couple of bankers that you speak with, and I'm certainly happy to give you some contacts and get you connected with the right people, but you really want to shop around and you really want to know how to leverage your money to the best of your ability. You want to be creative when you go about financing deals and make sure that the terms make sense for you. Make sure that the terms align with your intention for the property. So for example, you know, don't get yourself caught in a prepayment penalty type of arrangement if you only anticipate holding on to the property for one or two years. Some of the typical commercial loans come with a five year prepayment penalty. Well, if you know that you're going to sell the property in two years, why would you want to invest in a loan that is going to essentially fine you for getting out of the loan too early as one example? So make sure that you have the correct banker. Make sure that you have options. Learn about what is out there as far as financing products, and make sure that you find the one that makes the most sense for whatever your investment goals may be. Whether it's hard money, whether it's commercial loans, residential loans, you know, make sure that you're able to take advantage of all the creative financing options that are out there.
03:14
So winning the money game: we're going to go into some case studies now that have been experiences that I have had with clients over the years when they're purchasing properties specifically in the Lehigh Valley - but purchasing properties for value add plays. I'm certainly not saying the value add is the only way that you want to go. But I really feel, as I've mentioned in season two, that the Lehigh Valley has a sweet spot for value add type of properties and if you really want to spread your money, here are some examples of what you can do to make that happen.
03:32
We have to consider what your threshold of tolerance is for construction and rehabilitation of properties. You may not feel comfortable putting a lot of money into a property and that's okay, that doesn't mean that you can't find the property. Let me give you an example of one that we've done that didn't require a lot of capital. This property was purchased, it was a 14 unit building, it was purchased for $755,000. It was a fully occupied property at the time of contract and the property did not need any specific capital improvements. The property was absolutely 100% dated, and to this day, this property is still somewhat dated, although there's been quite a lot of renovations done over the years. But this property was purchased for $755,000 and no money was put into initially doing any renovations. The property was fully occupied with tenants paying much less - and I mean much less - than market rates. So for example, what I mean buy much less is the market rates for a lot of these particular apartments in this area is about $1,000 a month. Some of those tenants were paying rents as low as like $600 or month and I know at this moment, you probably gasp for air and maybe let your jaw drop because it sounds crazy to think that you can find investments that would have such a fluctuation of actuality to market. And in this particular case, it did. So the strategy for this one, as I discussed with the investor was to leave it status quo. We got the property for a really great price. It cash flowed phenomenally from day one. And we didn't really need to spend any money to make any renovations to the property. So our goal was to let it ride out. Our goal was to let the property, cash flow naturally. Don't go in there and disrupt the ship, don't go throw a bunch of people out, let's just see what happens with the building, let's maintain our expenses to the best of our ability, control them. Let's look for opportunities to decrease those expenses over time. And as tenants decide that they're going to move on, or lease renewal time comes up, we can approach lease renewals in a very purposeful manner that doesn't disrupt the entire 14 units in the building. So that's what we set out to do. Year one, we made $48,000 net profit. And that was based on the income of the property from the time of purchase until the end of that year. It was certainly not fantastic for 14 units certainly wasn't fantastic for spending $755,000, but it was adequate. So the first year, we only made about 6% return on our money, right? Second year's profit went from $48,000 in the first year to $95,000 of profit. Profit, profit, profit! Year three $76,000 of profit. And by year three, we're starting to put some money into the building. Year two what happened to drastically increase the rent is as the rents as the leases renewed, we started to make increases to the rents and that allowed us to capitalize on roughly $40,000 worth of profit. Year three, we started to put some money into the building, so that profit dropped to about $76,000. But the improvements that we were making were improvements that would allow us to now maximize rents. So in year two, the strategy was to just increase the rents to a tolerable amount where all the tenants stayed. And then in year three, we were going to start to make moves to tenants that couldn't afford any future increases, kind of get them out of the property, make significant improvements to the cosmetics of the property and then increase the rents to market rates. By the fourth year, we were well over $100,000 in profit for the year and have maintained that consistently for the last couple of years. Something that you need to know now is if I were to put that building on the market, original purchase price was $755,000. Today, that building would be worth well over $1.5 million. So not only was there significant profit over the course of the whole period, but at any given time, if that investor wanted to sell that property, they would nearly double - double - their initial investment in profit. So that to me is a great example of winning the money game and it didn't require you to spend any money to do any improvements. And that's just one example.
07:55
The episode will continue in just a moment.
07:59
This season is all about winning the money game with your real estate investing. However, simply investing in real estate with all of its advantages that it promises, you can still get taken to the bank if you don't know how to make smart money decisions or have access to the right resources to save you time and headaches. Building your investments so that they grow in value over time requires a lot of factors to go right. And the money part is a big one. It's not always about the property. It's how you make the critical decisions about leveraging money so that you have the most control and freedom while growing your portfolio. Whether you're concerned about the validity of that too good to be true offer on a property or you can't settle on the right mortgage structure, I can help. I will answer your money questions on a quick call and if I don't know the answer, I can certainly connect you with somebody who does. Visit GrowingEmpires.com and schedule that call with me today. That's g-r-o-w-i-n-g-e-m-p-i-r-e-s.com, and I will help you make smarter money decisions and put you in full control of your investing success.
08:54
Now let's go to the other side of the tracks a little bit. Let's talk about a really big investment as far as doing rehabilitation. So this one happens to be an eight unit complex. It was purchased for $190,000. $210,000 was put in addition in renovation costs. This was a full gut and rehab of an eight unit apartment complex. The all in costs were somewhere around $400,000. Now the goal of that investor is really to hold this property. Again, this was another hold strategy, so it made sense to put in all of these renovation costs. But because the purchase of $190,000 was done in cash, and the renovations were done in cash, this investor can now capitalize on the equity that was immediately generated in the property. So that was a great strategy. This is one area where I would say cash was the right way to go. But that property upon construction completion was leased up in under 60 days, actually, I think it was a little over 30 days, and the entire eight unit was leased up. And we have been able to maintain a profitability of somewhere around $55-$60,000 per year net profit. So we got our initial $400,000 back, we were able to obtain an additional $300,000 of equity. So now we have $700,000, to essentially go reinvest. That is another example of somebody that I feel really won the money game, because there's options. If that building word to be sold today, that building would be worth just shy of a million dollars. So again, a great example of somebody winning the money game.
10:30
So this example is an investor that was able to do something on a smaller scale. He purchased a townhome for $70,000, did minor renovations in the tune of about $20,000 and all in he was somewhere around $92,000. The carrying time was very short, it was 30 days, from the time that he purchased the property to the time that the renovations were done. That property really had some flexibility. It had some options - one of the options was he could have rented the property out and made some pretty good cash flow for a period of time, or he could take the option of selling the property in which he did. And this investor was able to sell this property for $180,000. So he initially invested around $90-92,000 sold the property for $180,000 and had some pretty significant gains from that. So that's another example of something that was a really good investment. The thing that you need to know about investing is that it is as much about the initial purchase price as it is about the plan post-purchase. And I can't stress that enough that these investors would not be as successful at doing these investments in this manner and making this incredible amount of cash flow possible if they didn't have the right guidance, because it's really all about your strategy. Going back to that first one that we talked about - that 14 unit - knowing that the rents were really about $400 below market value would make most investors want to immediately increase the income. Because the thought is, “if I increase income, I can make money quickly.” But what sometimes we fail to think about is that every move you make is a chain reaction to other moves or other things that are going to happen. So yes, I could have thrown everybody out of that property. I could have increased the rents immediately. But that would have set off a chain reaction that I needed to consider ahead of time. The chain reaction would have looked like this: So let's just say for the sake of argument, we took seven of the 14 units and we gave seven of those units an increase immediately. Okay, out of those seven units, five of them left that means that I had five apartments to renovate immediately. So it no longer was a $755,000 purchase. It was a $755,000 purchase, plus, let's just say a $10,000 renovation for each apartment. So we're $50,000 into a renovation, and now I have vacancy that is now costing me additional money. Not to mention, I need to pay for utilities in these apartments until they're re rented. So because I thought that the right move was to go ahead and be aggressive and get the rents right away to market rent, I set off a chain reaction of, you know, having to do renovations and have carrying costs and paying utilities and having vacancies that were costly. So, that is exactly why I never suggested to this investor to take that path. And this is why you need guidance, because most investors would have taken the lack of rents being at market rate as an indication that that was the first move that they needed to make. And in this case, I was certain that that was not the right move to make. And it turns out that this investor has been super successful with this investment, still is holding it today, and has really no thought of selling it, even though it's substantially improved, because it cash flows and cash flows well. And the decisions to make calculated, purposeful changes to the property allowed us to focus on the entire aspect of the cash flow and not just the immediate response of well, ‘if I just increase the market, I'm going to make more money.’ And while that will be true over time, when you make an impact to your income, you impact your expenses in a lot of occasions. So keep in mind, that sometimes it is right to increase the income, because you're not at market, but know that you're going to set off a chain reaction of potential improvements to the property that are going to take away from that cash flow and your bottom line over a period of time.
14:24
The other strategy where you're doing all the renovations, it's really costly up front, and it's something that you've got to be well leveraged for. You have to know or have the assets to be able to go into a renovation project with enough equity or enough assets that you can complete the project timely. You would never want to get yourself involved in a full blown renovation and be worried about the final dollar. Meaning that, you still want to obviously have a budget in place and you want to try to adhere to the budget. But in a lot of renovations, there are things that happen that are outside the scope of what you expected. And I would never want somebody to be involved in a renovation where they have to say to me, “Look, I don't have any more money to spend right now we have to stop the renovations. And when I can gather the money that we need, we can complete the renovations,” because that is going to literally destroy your cash flow and your profitability for the next you know, period of time. So if you're going to get yourself into a renovation project, my advice would be to make sure that you are well capitalized, make sure that you have a lot of assets, make sure that those assets can be spent, and you will absolutely make it up on the backside. But know that sometimes renovations are extensive. In this particular case that I shared with you about the eight units, it was 10 months of rehab. Okay, so if the rehab took 10 months, and then it took us another maybe two months to get occupancy, that's 12 months. So for an entire year, this investor did not make profit. Now, on the backside of that, or on the flip side, once he was able to make profit, it was substantial. So if you're in a position where you can take a little bit more risk, and you can wait for the profit to happen, I assure you that going into the properties where really nobody wants them, right, it's the rehab properties, those can really cash flow the best for you and are the properties that I have found to have the most substantial equity growth from beginning to end. No matter what, makes sure that you're well advised. Make sure that you're well leveraged and make sure that you are paying close attention to the impact of your decisions post acquisition on how your cash flow is going to be affected.
16:30
Whether it be in the Lehigh Valley or anywhere else, I'm always happy to share my insight and experience with anybody that needs it. Until next time, take care.
16:41
For more information about how Jennifer can help you plan, develop and manage a strong real estate investment portfolio, visit growingempires.com