Why is it that most people find investing in the stock market so secure? Is it because we are programmed to believe that is the safe thing to do? I think that’s probably the case for most people. Others, who have thought about it more might be thinking that investing in businesses that are publicly traded suggests a level of stability of the businesses involved. I can see that point as well. After all, we know that just over a half of business start-ups go out of business by year number five.
However, if you think about it, the most stable businesses in the country are all in the same industry yet we never really think about them as businesses. These businesses are frequently 100 years old or more depending on your neighborhood. What am I talking about? I am talking about Multifamily residential real estate–apartment buildings. For some reason, most people don’t see apartment buildings as businesses. Yet, they are managed exactly the same way as any other business. You have employees taking care of the business, you have clients who are your tenants, you have income in the form of rent and you have expenses. You even have depreciation of your assets which is the building itself!
Apartment buildings don’t really go out of business. They do change hands once in a while and occasionally they are mismanaged resulting in foreclosure and new ownership. However, fundamentally, the businesses themselves almost always survive. Why? People need to live somewhere. That’s not optional in any economy. In fact, right now, much of the country is seeing very high rental costs because fewer people can afford to buy a home and those who got foreclosed on are renting as well. This has resulted in a decrease in supply of rentals and, subsequently, an increase in demand which equates to higher rent. With the recent discussion of minimizing or even eliminating the home mortgage interest deduction, there will be an even greater demand for rental units as people find buying a house to live in less and less practical.
Put all of this together with the fact that interest rates for borrowing money are at the lowest they will ever be, and you really should be considering investing your money in real estate now.
The biggest reason my friends cite for not owning real estate is the fear that it will result in a lot of work–calls in the middle of the night about toilets, etc. Let me just emphasize that this assumption is incorrect. Most real estate investors use property management companies to take care of it. They do repairs, they rent the place out, they collect the rent. All you do is get a report at the end of the month telling you how much money you made. Since most management companies work on commission based on rental income, they have a vested interest in your property performing well.
Real Estate is an asset that produces perpetual wealth. It is extremely stable and predictable if you do it correctly. Just remember a few things:
1) If you are using a mortgage to purchase a building, your rental income minus your expenses MUST be positive. Never continuously pay to own your asset.
2) Stay away from all loans except those that are fixed. Remember, what got people into trouble in the recent real estate crisis was not bad real estate–it was bad loans. People bought homes they could not afford by using mortgages that were structured in ways other than a fixed 15 or 30 year term. People who owned apartment buildings on fixed loans did not, for the most part, have any trouble during the recent housing crisis. In fact, most of them benefited by the increase demand for rental units.
3) More units is better. Certainly renting a home or condo out is ok but remember that you will need to factor in time where your property is not occupied. This is not a big issue if you are not using a loan to buy your property, but it is if you have a mortgage payment to pay every month. If you have a building with at least 3-4 units, you can decrease the impact of occupancy on your month to month cash flow.
4) Do not rely on proformas to determine the usual rental income and expenses for a property. If you are interested, request “actuals” which means tax returns for the previous 2-3 years. Your offer should be based on actual numbers rather than the proforma which is just a theoretical document listed by the owner.
5) Do not get emotional when buying real estate. It is an investment. It doesn’t matter if it’s pretty. Look at the numbers and keep your own numbers in mind. For example, I will not consider buying any property where ROI based on actual numbers is less than 10 percent (including fees paid for property management).
If all this sounds complicated, it’s really not. In fact, if you want to discuss a specific property with me sometime, I would be happy to do so!
Finally, consider buying real estate with your IRA. Contrary to popular belief, this is perfectly legal and acceptable. Few people do it because, frankly, the banks and government have brainwashed us into believing that we must buy stocks or bonds with our retirement funds. This is simply not true. Ask your tax professional about this. If he or she doesn’t know about it, get another tax professional. Why not consider investing in apartment buildings with your retirement fund if they are businesses that often exceed a hundred years in business? Sounds pretty safe to me…certainly safer than the stock market!
I would love to hear your thoughts or questions about anything in this post!