Real Estate Investing

Andrew Carnegie, a founder of U.S. Steel, said that 90% of millionaires are created through simply owning real estate. This is still a very relevant statement in today’s day and age as well. If you were to have bought almost any property 10 years ago before this boom in the housing market you would probably be up a significant amount of money. I know plenty of people who don’t even look at themselves as real estate investors that simply bought a home years ago and are up over $100,000 on their property. I used to think $100,000 was a massive amount of money but when looking at it in terms of real estate that can be just one good investment on a house. In this section we will go over the basics of real estate and the different ways to invest in it as well as some creative ways of acquiring properties that can require little or no money down.

I know not everybody has $10,000 or more to put down on a new house starting out. Because of this I would love to go over a real estate practice that you may have heard of called wholesaling. Wholesaling is the practice of getting a property under contract with a clause that allows you to reassign the contract to someone else if you choose to. Essentially you agree to buy the house and sign paperwork for it so that no one else can come in and buy it and then you sell that contract for a profit without ever even getting to closing. For example you may find a great deal on a property for $200,000 but you know that you could turn around and sell it as is for $250,000. You would get that property under contract and then assign the contract to an investor you find while taking the $50,000 difference as a finder’s fee. There are really two main steps of wholesaling that we will go over here, which are finding properties to wholesale or buy in general and finding investors that you can sell the contract to for a profit.

In order to find property to buy or wholesale you can of course make use of some of the online tools like Zillow.com, realtor.com, trulia.com, or loopnet.com for commercial properties. I have personally found most of my deals on these websites so definitely check them frequently and don’t rule them out as ways to find good deals. You can also do what people call driving for dollars, which means driving around a city that you want to buy in and looking for houses that are in disarray. The lawn might be unkempt, the roof might be falling apart, there might be moss growing on the side of the house. Just look for houses that look like they are not being maintained and write down the addresses of these homes. Once you have a list of homes you will go on your phone or computer and go to a skip tracing site like batchleads.io which is very cheap or you can try finding the homeowners number on a free site like whitepages.com, spokio.com or beenverified.com. Another great way to get in contact with a homeowner is to simply find out the homeowner’s name with a quick search of the address and reach out to that person on Facebook messenger.

The last method we will go over for finding homes to wholesale or buy is by pulling all of the homes in your area that are in pre-foreclosure. A home that is in pre-foreclosure has had multiple missed mortgage payments on it and is about to be foreclosed on and taken back by the bank. These people are typically very motivated to sell because they are usually about to lose their house anyway if they don’t. You can go online and pay to get these lists but you can also go to your county recorder’s office and get a list of homes that are in pre-foreclosure for free. Once you have a list of pre-foreclosures you can go to their house when they are home and simply knock on their door. It is important to be sympathetic to their situation because of course they may be a bit embarrassed of it. I like to say, “Hey, I am an investor in the area and I noticed that this house has been defaulted on. I know what you guys are going through because my dad has gone through the same thing before as well and I know how hard it can be in today’s economy. Rather than let you be kicked out of your home with nothing to show for it I would love to find a way that we can get you caught up on your payments and even left with some money in your pocket if possible. How much do you have left on the mortgage if you don’t mind me asking?” This is just an example of how you can start the conversation and from there you can navigate it based on whether you are planning on purchasing the property or wholesaling it to someone else. I have a friend that likes to offer people in this situation a fully paid 6 month lease on a house or apartment so they can get back on their feet. If you or an investor you have has the money to do this, it is an amazing way to gain the homeowner’s trust and get an even better deal on the property. Now that you know some ways to acquire real estate we will go over some of the basic principles and strategies that I like to follow while investing in properties.

The first rule I want to talk about when buying any piece of real estate, whether it is to live in or as strictly an investment property is to fall in love with the deal and not necessarily the property itself. The worst mistake someone can make when trying to get into real estate is buying a property that is overpriced or even simply market price in a sellers’ market and ending up being in the hole on the property. If this happens it will make it much harder to build a real estate portfolio because instead of being able to cash out refinance or sell the property to buy another one you will have to make more money somewhere else in order to obtain another property. I personally do not like buying properties that do not have any value to add to it. That does not mean that I will only buy a property if it is in shambles, in fact I will usually stay away from properties that are in too bad of shape. What I do like buying though are properties that simply need updating in general cosmetic work like new countertops, a bathroom makeover, new cabinets in the kitchen, new floors and paintjobs. Think about maybe the house that your grandparents lived in or just older people in general. Their house probably wasn’t falling apart but it probably looked older in terms of the aesthetic. This is the type of house I like to buy because I can get it for a deal, put a little bit of work into it and then it is immediately worth more money than I paid and put into it.

The easiest and most basic way to buy your first property is to use what is called an FHA or first time homebuyer loan. This is a program created by the government that can make it easier to get into a house without having to have amazing credit or a ton of money to put down. With an FHA loan anybody with a stable history of income and a 580 credit score can buy a property with 4 or less units with only 3.5% down! This means if you are using an FHA loan to buy a $200,000 house then you may only need to put down $7,000 to acquire the property. FHA loans can be an amazing way for anyone to get into their first home and if you are looking to do this focus on keeping a job with a steady income for 2 years or more and getting your credit score up so you can secure the best interest rate and low down payment as possible. If you simply do this and save up a few thousand dollars you will be able to buy your first property in no time and start building an amazing real estate portfolio. The one thing to keep in mind though with an FHA loan is that you will have to live in it as a primary residence for at least a year, so if you are buying a home as an investment property and don’t need FHA then it may not always be the best option. In general, FHA loans can be great ways to obtain a house and work well with house hacking which we will talk about in the next paragraph.

If you have been renting your entire life, then I am sure you may have thought about the fact that although you are dumping all of this money into the place you live, you are not building equity in anything. Obviously when you own a house and are paying a mortgage you are covering your shelter expenses while also building equity in your home that you will get back if you ever decide to sell. Taking this basic principle a step further we can buy a property that has multiple units or sections so that we can not only build equity with our mortgage payments but also help cover our mortgage cost by renting out the other units. Any property that is 4 units or less is considered a residential property and can still be bought with conventional and FHA loans easily as long as you qualify with your income and credit. If you are able to buy a 4 unit building for $350,000 for example with an FHA loan, you may only have to put $12,250 down. Your mortgage payment with Private Mortgage Insurance (required when putting less than 20% down on a property to ensure the bank does not lose money if you default on the loan) will be around $2,400 a month with 5% interest. There is also homeowners insurance and property taxes that may bring that monthly payment to around $2,800 depending on the area you live. If you live in one of these 4 units and rent the other 3 out for $1,000 a month you will essentially live for free and profit $200 a month while also building equity in your property every month on top of it! These numbers are just made up really but they are definitely possible and it should give you a good idea of how house hacking can work.

Another one of my favorite real estate principles I like to follow is buying the ugliest house in a nice neighborhood. For example, I just bought a property in a town called Medford, NJ. It has one of the nicest school systems (a great indicator of a high-end area) and highest median home values in the state. In fact the median home value in Medford, NJ is around $500,000. I was able to acquire a 1,900 square foot, 4 bed 1 bath house on 2 acres in this town for only $270,000! I was able to get this price for the house because it is simply outdated. It was occupied by an older couple that had not renovated the house in all their years there. However, the bones and functions of the house have been maintained just fine as we found out for sure with an inspection. I am already planning on putting around $60,000 into it and have budgeted out $80,000 just to be safe. It is always better to overestimate expenses than underestimate of course. Let’s say I do put the entire $80,000 into it in rehab cost, then I am $350,000 all in on the property. Since it is all cosmetic fixes being done, I should be able to flip this property within 6 months and once the renovation is done it will be worth $450,000 making me $100,000 in profit! The awesome part of these numbers is I have already quoted out everything I will need to get done with the property and I have gotten an After Repair Value appraisal from a real estate appraiser based on the work that I will do. Most likely I will end up keeping and renting out this property because of the high rents in the area and cash out refinancing to get my money back and put it into another property where I will do the same. We will talk about this strategy in more detail in the next paragraph.

There are almost an infinite amount of strategies to make money in real estate but my favorite way is by using what is called the BRRRR strategy. BRRRR is actually an acronym that stands for the steps in this strategy which are Buy, Rehab, Rent, Refinance, and Repeat. Just like we talked about in the last example this strategy starts with buying a house that you can update and add value to and then rehabbing it with new floors, paint, windows, bathrooms and kitchen updates in order to make it gain value. Let’s use the home I just bought as an example for this as well. Once I am done rehabbing that house and I have increased the value from$270,000 to $450,000 I will then have $180,000 in equity in the house as well as a property that will rent for around $3,500 a month. After the rehab I will begin renting the house out for $3,500 a month which will cover my mortgage and profit me about $1,000 a month. Then I will do what is called a cash out refinance on the property which means I will go back to the bank and they will give me 80% of my equity back in cash ($144,000). At this point I will essentially be paying a mortgage of $450,000 - my down payment, which will bring my mortgage up to about $3,200 a month. This mortgage payment will completely be covered by the $3,500 a month in rent I am receiving and I will have already profited from my investment with the cash out amount of $144,000 which is now in my bank account. I will then use this money to go put a down payment on another house while the rent on this one continues to pay off the mortgage. So in summary by using this strategy I have gotten all of my investment money back and then some, I have a house that is essentially free because it is being paid for by the tenants and the cash out is allowing me to buy another house that I can repeat this process with. Using this strategy and repeating it many times over a couple of decades can leave you with dozens of properties being paid off with rents and millions of dollars in equity that belongs to you! This is one of the best ways to become a millionaire in my opinion and can even make you billions if done for long enough.

Once you have bought and sold or BRRRRed a few properties the next step to reaching the next level in real estate may be getting into commercial real estate. Commercial real estate is any property that is either over 4 residential units or zoned specifically to be used by businesses. We won’t go over every type of commercial real estate right now but rather the basic differences between commercial and residential real estate that can make it worth investing in once you are ready.

Residential real estate is given value based on the comparable homes of similar square footage, bathroom and bedroom amounts in the same area. A great way to tell the value of a home is by looking at what properties have sold recently that are of the same size in that exact neighborhood. You can find this information easily with online tools like Zillow. Commercial properties on the other hand are valued based on what is called an NOI valuation. NOI stands for net operating income and it is a valuation based on how much money a property is bringing in versus what it is costing to operate. The beauty of this fact is that with this type of valuation we can increase the value of a commercial property significantly by increasing the income of the property and decreasing the expenses. The exact formula we use to determine value with NOI on a commercial property is Value= Net Operating Income (NOI)/ Cap Rate. Becoming very familiar with this formula will give you the basics on evaluating the potential profitability of a commercial property.

We already know what value means so let’s go over in detail what NOI and cap rate means and how to find it. A property’s NOI is calculated by subtracting all of a property’s expenses (not including any mortgage payments) from the property’s annual revenue. So, if a commercial property brings in $100,000 a year and costs $50,000 to operate then the NOI is $50,000. A property’s cap rate is calculated by dividing the NOI by the value of the property and so it is the ratio between a property’s income and it’s current market value. Cap rates tend to vary based on the type of area you are in. Typically cap rates are higher in rougher areas and lower in nicer areas. When trying to find a property’s value I will typically ask my realtor or google the cap rate for properties in that area. Then I can type that number into the Value= NOI/ Cap Rate formula.

Now that we understand what these terms mean and how we use them to determine commercial property values let’s go over an example and how we can make big money in commercial real estate investing. In this example we are looking at a 10-unit apartment building. They are asking $1,500,000 for this property and our realtor has told us that the standard cap rate in this area is 6%. Each of the 10 units rent for $1,000 on average currently and there is a small laundromat downstairs that brings in $2,000 a month. The first thing we would do is note that based on these numbers the revenue for this property is (10 units*$1,000 per month*12 months)+($2,000 per month for laundry*12 months)= $144,000 per year in revenue.

Now let’s look at the property’s expenses. The building has a property management company that costs $1,000 per month, a front desk employee that costs $2,500 per month, materials for maintenance cost on average $10,000 per year, and the insurance is $15,000 per year. If we add up these expenses, the property is costing us $67,000 per year. If we take the $144,000 in revenue and subtract the $67,000 in expenses we are left with an NOI of $77,000 per year. If  we plugin the areas’ cap rate of 6% and our NOI of $77,000 to our formula for value we get value=77,000/.06. This shows us that the real value of this property is $1,283,333.

The awesome thing about this NOI valuation is that based on the numbers we have found we can now focus on lowering our expenses and raising our income to improve the overall value of the property. Let’s say that we realize that we do not need a front desk employee for this property and that we have our own property management company we can use that is only $800 per month. This would lower our expenses by $32,400, bringing our expenses to just $44,600! Also we have decided that with a little bit of renovation we can increase our rents to $1,300 based on rents of other similar apartments in the area and we can add a vending machine to our laundromat that will bring in an extra $1,000 a month. This will increase our profits by $48,000, bringing us to a total revenue of $192,000. If we take our new revenue of $192,000 and subtract our new expense total of $44,600 we are left with a new NOI of $147,400. Now when we plug our numbers back in to our value formula we get $147,400/.06=$2,456,666 in value. Of course this is just an example but with these changes to our imaginary apartment building we were able to increase the value of our property by $1,173,333 and this my friend is the benefit of investing in commercial real estate.