Rental Profits Without Pain (Module 3)- Part 2

by | Jan 19, 2019

What is usually a little bit easier than short sales but sometimes frustrating is an estate sale.

Estate sales come about as the result of the homeowner dying and leaving real property to their heirs. If there isn’t a spouse still alive then ownership usually passes to sibling children. More often than not the children at first see dollar signs and are hopeful for a windfall. The reality is that the home they inherited is usually old and in need of a variety of repairs, systems upgrades and just downright remodeling.

The siblings get discouraged because the house didn’t sell at their unrealistic high-priced expectations and they are now suffering through repeated price drops. They begin to argue and no one wants to cooperate by forking over money to improve their childhood home.

Then all of a sudden they get hit with a tax bill, a water bill, a sewage bill, and they get tired of fighting over who’s going to pay it. So, here comes the investor dressed in shiny amour and galloping onto the scene on a handsome white horse. Yeah, right. The sons and daughters of the deceased parent have been forewarned about us. Trust me. Most realtors don’t understand us (even though they say they do) and so they have painted a not-too-appealing picture of us to their clients. All this does is hinder progress.

To an investor, this is a business transaction, nothing personal. The bottom line is that the current owners have a problem and the investor has the solution. If the projected return on investment isn’t suitable to the investor he/she will move on. He/she is taking on a lot of risk and requires a profit that compensates for spending time, energy and money on the project—and of course assuming the risks that go along with this type of investment.

At the end of the day, if you as the investor can put up with a lot of emotional baggage from the grown children who are tasked with liquidating their parents’ home, you can usually make a tidy profit on these properties. These people are “don’t wanter’s” and we are helping them offload what they don’t want.

Another type of “don’t wanter” is the retiring real estate investor. At the end of every real estate investing career—successful or not—is a property owner who wants to liquidate.

I’ve bought lots of properties from retiring investors. I actually like working with them, even though you might think, “I’m not going to get a grand slam deal with these guys because they’re investors. They know what’s going on.” Well, guess what? Because they’re investors, usually they will price their properties more reasonably. They understand what they’re worth.

They know what good investors—investors who’ve been trained and educated—are looking for. They know we’re not looking to be fooled or misled or misguided, and given a bunch of hypothetical projections. We want actual data. We’ll make our own projections. Give us the data, and we’ll tell you what we think the building is going to do in the future.

But in any case, these investors are liquidating properties because they’re retiring, some through divorce, others because they’ve owned them so long, they depreciated them, and now they’re selling. Maybe they’ve become ill.

One of them, Mr. Pflugfelder, taught me there’s basically a seven-year rule with investors. That is, on average, every seven years you’re going to hit a slump with your properties. Maybe not all at the same time, of course, but sometime you’ll have slew of major upgrades that have to be done: roofing, furnaces, plumbing, electrical. Maybe your properties haven’t been renovated in so long, or you’re far behind on your rental rates, and you need to get people out to remodel and raise your rates.

That can be a painful process because while you’re doing that, you’re typically not bringing in income. You’ve got money going out but not coming in. One of the biggest things is to learn to stick it out through the tough times, if you’ve invested properly, if you have the right ratios. Remember you should maintain a two-thirds to one-third debt ratio. If you own a million dollars in real estate, you should not owe more than $666,000.

Now, that’s an average. While you’re actively and aggressively growing your portfolio, it’s okay to be leveraged up to 75%, even 80% in a market like we have today. Eventually, you will get it to 65% just by paying down mortgages and raising your rents. By increasing the value of your buildings by making improvements, you should be able to do that in short order. On the income/expense side, you don’t want to owe (the principal and interest of all loans) more than one-third of the rental income that you bring in.

That doesn’t include taxes and insurance, though. Taxes and insurance are an expense. Interest, of course, is an expense, too. But in any case, if you’re making $10,000 in rent per month, your debt service—your principal interest portion of your debt service—on your mortgages, should not be more than $3,300.

If you follow and abide by these two guidelines, you will always be successful. I promise you, you’ll make it through the thick and thin times. You’ll make it through the tough times, if you follow those guidelines.

An example of tough times is what happened in Western Pennsylvania after the massive flooding in 2004, when a couple of hurricanes decided to get together and throw a party. It flooded a lot of properties, including some of mine. I had 12 units out of service, about one-fifth of my portfolio at the time, literally under water.

But you know what? I was still okay. I made it through because I had managed my ratios. I had managed my income/expense ratio, and I managed my asset/liability ratio, and I was able to make it through those tough couple of weeks to couple of months. In fact, I got most of my tenants back because I worked hard to get the units back up and running. I helped those people personally, and as a result I had friends for life.

It was a very trying and taxing experience, but that was in year six of my investing—that was my time that Mr. Pflugfelder was telling me about. It didn’t happen in year seven. Sometimes it even happens in year one.

I know investors, who bought a bunch of properties, and the first year out of the gate, they suffered a lot of hardship—but because they bought them properly, they made it through. I was lucky I didn’t have any great hardships until about six years in.

I was lucky. For some people it happens right away, for others its three years, five years. But on average, every seven years, you’re going to have to stick it through some tough times. Don’t worry. Better days are ahead, including economic recessions.

When you go through a recession, you tough it out and make it through to the other side. What you’re going to notice is all of a sudden, you will start having waiting lists of renters looking for good units like yours. Rents will also be on the increase.

This is a human relations business, though. You’re providing housing for people, and stuff happens. Life events happen like death and divorce, and when they do… those people who are living in your house will be strapped for cash and you’re usually not going to be the first person in their pecking order to take care of. You might be second, if you’re lucky. A lot of times, you’ll be third or worse, so you have to know what to do when those events occur. And I’ll give you a hint…

It’s okay to be charitable with yourself, personally. I advocate that, but what else I advocate is—in your business—you must think and act like a businessperson. If your business is not profitable, you will not be able to be charitable, personally.

Remember this: If your business is not profitable, you will have no way to be charitable, personally. I’ve experienced this myself, when I had to learn lessons the hard way multiple times. So if this happens to you in cases of divorce, you will find out very quickly who your friends and allies are.

Sometimes other investors sell so they can get the most capital possible to buy a larger building. You know, I bought quite a large building a couple years ago with 78 units, and I was able to leverage what I owned. I didn’t have to sell anything.

Since then, I actually have sold a lot of the smaller properties because now that I’m buying bigger properties, (my threshold is 50 units), I won’t buy anything smaller. That’s why I’m teaching this course.

Now that I’ve reached a certain level of mastery at the smaller levels, I have a lot of inventory out there. I was selling for a couple years. I know a lot of investors, and a lot of guys have a good head start because of me liquidating inventory.

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