Then the cash buyer said, “Yeah, but I get immediate cash flow, no debt service, and no worries. Top that!” “But” I retort, “There are at least a couple major, built-in flaws to that strategy for many using it to acquire income property.” “This oughta be rich” he came back, sarcastically. He was dodgin’ my special brand of smack after comparing results using my tactical modification to his strategy. To his horror, I was makin’ sense. (A fleeting smile crosses his wife’s face, mostly in her eyes, and is gone as quickly as it came.)
Let’s take a look at a common scenario — and build a profile based upon my experience with these kinds of buyers. We’ll purposefully remain in the middle of the road with all financial factors describing him.
Age — 51
Job — Earns $190,000 a year plus the occasional bonus.
Lifestyle — Lives almost up to their kneecaps. Owes a bit over $100,000 on the home in which they’ve lived the last 18 years — has a market value of roughly $500,000 these days.
Bank info — Has $250,000 burnin’ a hole in their pockets and can’t wait to write checks for distressed properties. They have more, of course, but their comfort level stops at that figure.
Savings/Retirement Plan(s) — $500,000 and change in CDs. $25,000 in checking. $700,000+ in a self-directed IRA. A free and clear BassKiller on which he wants his Viking Funeral when he’s gone.
What he wanted to do
He’s been researching a few markets, especially those allowing him to buy homes for $80-125,000 apiece. Location is important of course, but he knows he can’t require anything approaching ‘A’ for those prices. Most of the rents he’s seeing in that price range are about $750-1,150 monthly. The price/rent ratios vary, but he’s not been surprised — either way. He’s found a couple SFRs (single family residence) he can buy — $105,000 and $100,000 — both in what he calls ‘upper blue collar’ neighborhoods. That’s a new one on me.
They rent for $925 and $900 a month respectively. His analysis says his cash flow after all expenses/vacancies should total about $1,200 monthly, a figure with which I disagree, but nonetheless accept. Both homes were built in the middle 80′s and are in good condition. Together they cost him about $208-210,000 to close, including all costs. He’d of liked to have found three, but he refuses to spend more than $250,000 — AND doesn’t feel comfortable with cheaper homes.
Since he’s gonna retire in nine years, he knows these properties will be contributing roughly $14-15,000 a year to his retirement income. 35-50% of that, give or take, will be tax sheltered about 15 years into his retirement. Between his job’s pension, Social Security (:)), and the income his IRA will generate (he hopes), he feels fairly comfortable. I don’t.
The budget allocates $250,000 spent to generate a basket of income from income property. However, since I have a fairly well defined timeline in which to work, about nine years, I’ve devised a plan that will far exceed the results his plan provides.
Location Applying the BawldGuy MomRule — If I wouldn’t put my soon to be 80 year old mom into the property to live alone, don’t call me about puttin’ my clients into it. — automatically means the properties he’d acquire in my plan would be way better located than are his. It’s not close.
The key modification
I’d have him acquire three, not two income properties which would require him to take on some debt. In this case, they’d be putting about 30% down payments while borrowing the balance at a 30 year fixed rate of 5.75%. Even using more punitive operating expenses/vacancy rates relative to what he used in his scenario, my cash flow is still about 17% higher than his — $1,200 vs $1,405 monthly. And no, that’s isn’t a big deal, but it’s better. He tried to appear unamused. Furthermore, I rounded down quite a bit on my properties’ cash flow even after inflicting higher holding costs.
He’s made it clear that during those nine years they can easily and painlessly add not only all the cash flow from these three properties, but contribute an additional $2,500 monthly towards the elimination of all three loans. He’ll be applying the BawldGuy Domino Strategy.
All cash flow, plus his monthly $2,500 contribution will be applied to just one property’s loan. That one gets paid of in 40 short months. The cash flow rises magnificently. They then turn their sights on the second property in the same manner, but this time they’re adding even more to the loan payment due to the freshly debt free first property. The second property is rendered debt free in just 31 months. The third property has no chance. In a mere 25 months it’s also added to the free ‘n clear ranks. All three dominoes are down.
They will have done this in eight years, leaving them a year’s cushion. It’s methodical in nature, and vanilla simple by design.
His plan yields an annual income of about $14-15,000.
Mine? The annual income from those properties will be approximately $54-56,000 yearly.
Gee . . . I dunno. Should they flip a coin to decide which plan to choose?
BawldGuy Takeaway: Even if his plan had allowed him to buy SEVEN of those homes for cash, they’d STILL arrive at retirement with less cash flow than my plan generates. ‘Course, we’ll ignore the reality that it woulda taken almost triple the capital he’d allotted in his plan. We’ll also ignore the fact that he didn’t have that option anyway, as he didn’t have the over $700,000 in cash it woulda required.
Let’s pile on — why not?
His net worth (only the properties) using his approach will be just over $200,000 when he retires.
If he opts for my strategy? His net worth will be a tad over $3/4 Million.
Is he screamin’ Uncle! yet? No? OK, he asked for it.
If the economy goes to hell in a hand basket, cutting my suggested properties’ cash flow in half, but (go with me here) miraculously leaving his homes untouched? My way STILL crushes his cash flow by over 80%. AND, if simultaneously my properties’ value are cut in half? His net worth going my way REMAINS barely under 85% greater than his — even if his didn’t lose a dime in value.
What was that? Did I just hear an Uncle!? I think I did.
Paying all cash for properties — if there’s a viable alternative allowing the use my strategy — isn’t always the be all end all it’s touted to be.
Just sayin’ . . . The above was another example of what genuine Purposeful Planning can accomplish. There’s no substitute for having an intelligent plan and executing it on purpose.
I need a freakin’ fix — which you can provide by simply calling me at 619 889-7100. We’ll figure out together where you are now, and what’s possible for you down the road. Have a good one.