Guide to Real Estate Investing: Buy & Hold

This is the second edition to the Trisha Allen’s Guide to Real Estate Investing.

As a reference, the Active/Passive measure is a five star scale with one-star being the most active and five-stars being the most passive.

Buy-And-Hold Investments

Congratulations, you’re a landlord! There are tenants to be found; leases to negotiate and sign; regular property maintenance issues and emergencies to be handled; possible evictions to be filed; then taxes and insurance to be paid. A property manager will charge a percentage of the monthly rents to perform many of these tasks. Finding a good property manager falls on your shoulders, however. Then, you’ll manage the property manager, receive the monthly rent, and verify the math on the monthly statements. The idea behind this type of investing is to benefit from cashflow (when a property produces profits above and beyond the mortgage payments, insurance, taxes, property management fees, repairs, HOA fees, and other expenses). Bare land can even be leased out for cashflow, although it doesn’t provide tax benefits like improved property. Overall, landlording’s not a bad gig when everything goes well!

Residential Rentals – Residential rentals can be single-family homes, mobile homes, duplexes, triplexes, or quadplexes. Anything larger is considered commercial where financing is concerned. Residential rentals tend to be predominantly the beginner’s choice investment type due to the affordability of the property and downpayment, the availability of financing, and abundance of educational resources.
Entrance Difficulty Level: Moderate
Active/Passive: ***

Commercial Rentals – Commercial rentals can be apartments with five units or more, shopping centers, retail, offices, industrial/warehouses, even mobile home parks. Believe it or not, commercial rentals tend to be more passive investments than residential rentals! Property managers are easier to find and manage. Your property may be the ONLY property they manage, or at least make up a significant portion of their inventory. Other professionals and vendors tend to find your business more valuable and may be willing to bend over backwards to keep you. Conversely, contractors may think you’re loaded since you own a big property, and may charge you exorbitant rates for upgrades and repairs. Of course, you can have your property manager collect multiple bids to keep costs low. It probably goes without saying that commercial properties tend to be much more expensive to purchase than residential. Also, “how-to” resources are much harder to find, which makes it sometimes necessary to rely strictly on what a commercial mortgage broker, commercial Realtor, attorney, or CPA is telling you. In other words, you may find that you’re re-inventing the wheel at times!
Entrance Difficulty Level: Difficult
Active/Passive: ****

Next Edition: Buy and Sell Investments

Trisha AllenI’ve done real estate investing successfully since 2003 and have blogged about it since 2005. A word to the wise: before you invest, check with an attorney and a CPA to evaluate your goals, investing options, and the laws in your state.

 Personal Finance, Taxes 

Guide to Real Estate Investing: Introduction

I know very little about real estate investing and I’ve always wanted to learn, so I had the brilliant idea to ask fellow blogger Trisha Allen to write a guest post on the topic and she agreed! What Trisha sent me was a very comprehensive article that I’ve broken out into several parts based on their topics and will be introducing them over the next few days.

I asked her for an intro and here’s how she described herself and her experience:

Leave it to me to start a real estate career at the beginning of a real estate bust! But, like a red-headed bumblebee who doesn’t know she shouldn’t be able to fly, I’ve forged ahead to purchase/remodel/lease/flip seventeen houses and one quadplex for profit. Believe me, it’s certainly been no bed of roses! Each deal has been its own unique struggle and learning experience, and I’ve been blogging about it for the world to see since 2005… all the good, the bad, and the ugly!

In early 2006, I decided to bite the bullet, volunteer for layoff from my day job, and get my real estate license in order to open up new avenues for our investing. I’m currently working for one of the largest local real estate offices as a sales/leasing agent, and juggling that with investing, remodeling, flipping, sleep, and very little sanity!


Brace yourself. I’m about to utter the two dirtiest words in investing lately: Real Estate!

Everyone can agree that making money is the fun part of any investment. Late-night infomercials and real estate guru books feature lots of cheese-eating grins with captions that say things like, “I made five million dollars in five days using these techniques. And, you can, too!” They’ll tell you it’s easy to make money once you buy their program. Some of them even offer money-back guarantees if you’re not satisfied. But, are you guaranteed to succeed investing in real estate? No. In fact, it’s easy to get yourself into trouble. As with anything worth doing, there is an element of risk.

Real estate investments are a great way to add another stream of income. But, contrary to what the gurus may tell you, real estate income is hardly ever truly passive. Some lucky investors do experience periods of “passive income” — which implies that checks arrive in the mail with no effort invested. It seems the majority of real estate investors find that they spend many more hours than they originally intended with finding and closing deals, managerial tasks, bookkeeping, and tax preparation. While an investor with deep pockets can afford to outsource these tasks to professionals, most beginning investors probably will have to shoulder some of the work themselves. Even investors with a team of professionals will find that they still have to manage those managers. After all, no one cares about your business more than you!

In this economy, an investor can build a portfolio with foreclosures and pre-foreclosures. They’re a great way to purchase property for less. After all, lenders aren’t in the real estate business—or, at least, they don’t want to be. They’re in the “collecting interest” business. When they have a supply of properties, they’re forced to be in the property management and real estate sales business. It’s very costly for a lender to have to foreclose on a property—not to mention, it’s not what their investors want to see on the books. Foreclosures can usually be found on the MLS with the help of a qualified Realtor. Pre-foreclosures can be purchased by “short-sale”, which means that they’re purchased from the owner prior to the completion of the foreclosure process with the permission of the foreclosing lender(s). The owner is forced, sometimes reluctantly (sometimes happily), to abandon their equity stake to the investor-buyer. But, they may be able to walk away without a foreclosure on their credit record. In that case, the investor has performed a service for the both the owner and the lender.

OK, let’s say you’ve finally sold your herd of goats to get your downpayment for your first property. Where do you start? Well, first you’ll need to figure out what type of real estate investing is right for you. I’ll go through the usual types of real estate investments and tell you the general entrance difficulty level for each. In addition, I’ll score them each from one star for “Active” investments to five stars for “Passive” investments (Totally Active = *, Totally Passive = *****).

Next Edition: Buy and Hold Investments

Trisha AllenI’ve done real estate investing successfully since 2003 and have blogged about it since 2005. A word to the wise: before you invest, check with an attorney and a CPA to evaluate your goals, investing options, and the laws in your state.

 Your Take 

Your Take: What Are You Clueless About?

Risk!I’m clueless about a lot of things but the number one thing on my mind lately has been risk in investing. I don’t mean stock market investing or real estate investing, I meant the concept of investing and risk (specifically, determining and being paid for taking risk).

Most people associate investing with the stock market because that’s the easiest way to invest. The stock market is the perfect investment system in that your assets are pretty liquid and the barriers to entry are low. It’s absolutely free to open a brokerage account and trades are dirt cheap (cheapest is $0 a trade at Zecco, but that has gotten mixed reviews; second cheapest reputable brokerage is TradeKing). You can buy and sell stocks pretty easily as there is never a scramble to find interested parties, though the price you get may not be to your liking. You hope for good equity appreciation (increase in stock price) and perhaps take some cash flow along the way (dividends). The rate of return on the S&P has been around 10% for the last 80+ years.

Now take the second thing people associate with investing – real estate. In real estate, the assets aren’t as liquid (especially now!) and the barriers to entry are much higher. At best you have to come up with a downpayment and transaction costs (Realtor fees, lender fees) are high, fewer people get involved in real estate investing. (Over the next two weeks I’ll have four guest posts going over real estate written by Trisha Allen, a seasoned real estate investor, so if this is up your alley keep your ear to the grindstone) With real estate, again you hope for good equity appreciation (increase in home value) and perhaps some cash flow (rent) along the way. The rate of return on this has generally been about inflation (surprisingly) according to some experts (they could be wrong).

There are other means of investing (such as owning your own Rita’s Italian Ice!) but the gist is to put your hard earned money to work for you. However, how do you analyze risk?

Every risk analysis class I’ve taken, be in undergrad or for the MBA, has always explained the same thing. You take the severity of a bad event times the probability and that’s your risk. They never talk about how to guesstimate the severity or the probability, just that you multiply and some magic number comes out. Also, they never talk about how much of a payoff you should get for shouldering how much risk. Real estate seems riskier to me than the stock market (higher barriers, more money involved, more headache), yet the stock market has greater returns. One expects riskier investments to yield greater returns.

Anyway, that’s what I’m clueless about, how about you?

(Photo by Patrick Haney)

 The Home 

Is A Realtor Worth The Commission?

Home sellers in Madison, Wisconsin, in the period between 1998 and 2004, that sold their home using a real estate agent did not consistently get higher prices than those who didn’t. When you factor in the commission, for sale by owner sellers did better. How about them apples?

What stinks is that its likely not representative of the average because the Madison, Wisconsin for sale by owner websites are more popular than others in the nation, but it certainly points to a direction that the National Association of Realtors doesn’t want to go. The primary benefit that real estate agents offer is exposure – specifically a listing in the MLS database. As fewer prospective homebuyers rely on real estate agents and begin scouring for sale by owner, or other sources of homes for sale listing, the less value a realtor can provide.

What can a real estate agent do nowadays that will get you more for your home that you can’t do yourself? If you don’t know how to stage a home and need tips, watch some home flipping or home selling show on A&E. If you don’t know how to play people off each other and getting them to overpay, read a book by Machiavelli. Short of having the legal document templates handy, I honestly don’t think there’s much to offer outside of the exposure/MLS listing and this study backs that up.

What’s funny is that the National Association of Realtors claim that houses sold through MLS get a 16% premium over those not sold through MLS, which is really as fair a measure as the Madison, Wisconsin results when you think about it. Unless they sold identical homes at identical times, some with MLS and some without, there are so many disparate factors that the claim is meaningless. Plus, 16% is before the 6% commission, and 10% is probably getting close to how much error they had on that self-serving study.

If you want to read more, Freakonomics has a great writeup with additional reading material and the original article appeared on the New York Times.

Any real estate agents out there want to defend their commissions? 🙂

 The Home 

Real Estate Cashback Transactions Are Illegal?

Two weekends ago a friend of mine in Baltimore was telling a group of us that a rowhome in Federal Hill, two houses down from his, had sold for a mind-boggling four hundred thousand dollars. (My mind actually boggled) He didn’t say that it was listed at four hundred, he said that it actually sold for four hundred, signed, sealed, delivered. Now, without context (other than the boggling), $400k doesn’t mean anything but in that area I think that’s easily an $80k-$100k premium over comparable home prices. Well my friend, always one to talk things up just a couple steps more than they really should be, let that stew before dropping that the sale included a $100k cashback offer. So, it was $400k with $100k cashback… which apparently, according to Stephen Dubner, is illegal.

It seems like a great deal for the buyer, you get an interest deductible loan of $100k from the lender, who doesn’t realize they’re offering an interest deductible loan, as long as the home appraises for the selling price. Neighbors may or may not be excited, depending on their plans, because it boosts the price of their home; and the seller sells the home (though they pay significantly more in tax, 25% more, but whatever). Win-win-win-lose (poor bank!).

The problem is that while the cashback transaction may seem illegal, how is it different than sellers kicking in for closing costs? Or a new plasma television? Or any number of various little kickbacks that happen every single day? In the comments, there’s debate about the legality since it happens all the time, but I’d imagine that banks would frown upon this if they knew.

Personally, I don’t think it should be illegal because the bank has to write the check. If the home isn’t worth $400k, don’t get a trigger happy appraiser and don’t writ the $400k check. If the buyer can get the extra $100k and the seller is willing to offer it, so be it.

Some more Freakonomics goodies about real estate stuff.

 The Home 

How To Reduce Real Estate Taxes

Now that everyone has overpaid for their homes, it’s time to learn how to combat the recurring reminder that you’ve overpaid: real estate tax time! They estimated that real estate tax collections are up like 35% the last four years and there’s little chance that those taxes will be rolled back, so the only two weapons left in your arsenal are to:

  • Contest potential errors, and,
  • Argue your case.

Unfortunately, I believe the artificial floor of your valuation is the price you paid for your home so you can never get it lower than that (it can’t possibly be worth less than what you paid for it, since you likely had a home appraiser come and value the home for a mortgage lender).

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 The Home 

Forbes’ Best Home Renovations List

Forbes produced another list of the best home renovations/improvements in terms of their resale value and I thought it would be interesting to compare this list to lists I’ve seen, and blogged about, in the past. With all of these I looked only at the National Average values, since that’s what I’ve always looked at, and tried to pair them up with comparable renovations in past lists. The data they used is from Remodeling magazine’s yearly assessment/survey/magic but one of the lists I used was from a handyman-type site and not a magazine about remodeling.

Overall, Remodeling Magazine makes it sound like a lot of the renovations you make hold a lot of its material and labor value whereas the handyman site doesn’t paint as rosy of a picture. I’m inclined to believe that Remodeling magazine is at least somewhat biased, knowing nothing about it except that it likely sells advertising space to businesses in the remodeling industry, so I’d mark down their resale values a little bit. From a buyer’s perspective, which I was a year ago, I do know that more bedrooms and bathrooms the better (to a point, I’m only one person… I don’t need 8 bathrooms, I don’t even have 8 friends) but a renovated home office means nothing to me. So again, as I approached the other list, I believe the relative rankings of renovation value retention is likely correct though the actual values are subject to a multitude of factors a simple study can’t capture.

The comparative table is available after the jump. (oh, and if you’re going to replace your windows, you might be able to get a tax credit for it because of the latest energy bill)

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 Personal Finance, The Home 

A Case Against Owning Rental Property

This is a guest blogging post by Julie Ali.

It makes me laugh at all the articles in magazines, newspapers and on the Internet regarding how to make money on that last financial frontier – the ordinary citizen’s entry into rental house investment. These articles and the books that joyfully proclaim the good news about money for nothing (or almost nothing), suggest that anyone can make money by going out, buying a house, renovating it and renting it out to the multitudes of renters that are scouring the market for affordable housing. Who writes these articles anyway? And if they have made such a surplus of money and secured their own financial freedom, in this way, then why are they writing articles and books to make yet more money? In addition, if profiting from the rental house market were that easy, sort of like collecting eggs from quiescent broody chickens on a farm, then why isn’t every intelligent citizen putting all their financial eggs in the rental house basket?

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