Using other people's money...?

Question

I've just graduated from college, and don't start my new engineering job for another week. In the mean time, I've been reading a bunch of books and attending seminars on how to manage my finances. One of the first authors I turned to was Dave Ramsey, who's extremely opposed to debt. At the same time, my ultimate goal is to achieve financial freedom by the time I'm 40, and real estate is the way I've chosen to get there. Many people on bigger pockets are advocates of using "other people's money", which is basically debt (right?) and conflicts with what I've read from Dave Ramsey's material.

My question is: How risky is it to use other people's money? I posted this in the Starting Out section because, well, I'm just starting out with EVERYTHING... Handling my money, real estate investing, etc. Because of this lack of experience, I realize that it could be easy for me to make a mistake. I have an open mind, I just need some help reconciling these two philosophies.

Tom Goans · Answer

@Tim Pommett,

If memory serves me correctly, XTO is a pretty big outfit. Best of luck to you. It is my understanding Texas has been enjoying another great oil and gas boom for a number of years. Money is once again flowing freely. I have some oil and gas mineral rights I would like to sell in the Lubbock, Texas area some day.

I never was much of a borrower - not because I did not have the available funds, but because I always found ways to invest without having to borrow money. The beauty of the real estate business is it embraces and rewards those are best at structuring deals. The number of ways to structure and finance a real estate opportunity is almost limitless. Each opportunity is unique and requires unique and creative thinking.

I will give you a couple of examples:

1.1,200 acres were for sale. Here is where it is critical to know the history of the seller extremely well prior to beginning any negotiations. In this case, the seller was a successful gambler. He did not need cash, especially all in one year.

·The land was purchased without a down payment.

·The owner provided the financing - terms were no payments for 2 years.

·In about 30 days, I began selling the now subdivided land in 40-acre tracts.

·In about 18 months, all 30 tracts were sold.

·The purchase money was already in the bank before the first payment was due to the seller.

2.This is one a mentor did - his very first real estate venture. The mentor located a large cattle ranch that had great development potential. He did not have any money. He struck a deal with the seller and several investors where they provided the funds to buy and develop the ranch. His only compensation was the profit from running cattle on the ranch during the process. He made thousands and the project was a terrific success.

3.Developers will sometimes sell “orphans” to investors. Orphans are the few remaining lots in a subdivision the developer is completing. Many times, the developer wants to turn his/her attention to new projects and stop fiddling around with the remaining few lots at the old subdivision. An investor can negotiate to buy the lots with no money down and at a discount. The reason for working with an investor vs. a real estate agent is the investor is generally more motivated. Everyone wins.

Something to consider, let’s say the seller is firm on the asking price. With good terms, you can afford to pay the higher price. Let the seller be a part of the deal and share in the profits. As I mentioned, the ways to invest in real estate are limitless. Each situation offers new opportunities for the creative thinkers.

I highly recommend acquiring material from Jimmy Napier in Chipley, Florida - www.jimmynapier.com. The “70 Cash Flow Ideas by Jimmy Napier” is an excellent investment that can make you thousands - if not millions. His specific ideas may not work for you, but they will help you with the creative thinking process.

Best of luck.

Jerry W. · Answer

@Tim Pommett , congratulations on graduating and your new job.  First let me say I am in favor of debt to make more money.  In your case do not spend money from a career you don't have yet.  If you borrow money and buy a rental, then hate your job or coworker, or location where you live you are in trouble.  If any recession happens you are newest hired and first layed off.  Get settled in, read and learn about real estate, study the market you are interested in, get your car payed off, etc.  After holding your job for at least 1 year then look at buying.  Having a job for less than 1 year will probably impact your ability to borrow.

Jeff Greenberg · Answer

What I am hearing here is that OPM means only debt.  This is not the case.  OPM can also be used as equity.  Depending on the networth of your network of family, friends and business acqaintances, you may be able to invest with those funds.  A fraction of a good deal is better than 100% of nothing.

@Tom Goans mentions deals that were done without debt and that is great if you can find them.  He was very fortunate that his land deal went his way, it could have just as easily gone south.

@Nicole Williamson is correct with the good debt and bad debt.  Be aware of over leveraging and you will be able to ride out the rough times.  If buy and hold is your stradegy, a low leveraged fixed loan, keeps your risk down.  Even more important is to learn the market patterns and be ahead of the game and buy right.

I don't understand the blame going to flippers on causing the bubble.  The flippers I know buy a property that a typical home owner wouldn't know what to do with, and turn it around, at or below market.  The fact that mortgage companies seduced non qualified borrowers into terrible loans, causing a feeding frenzy, was not the fault of the flipper. I have never been a flipper, but I see an important role they play.

Back to OPM, use it wisely and get to financial freedom more quickly.  Move to fast and risk getting burned.

Michael B. · Answer

For most people real answer is finding really good places that they can use some combination of their assets and borrowed money to invest.

However for you right now -- think Ramsey.

The key to financial independence is to live on less than you make and invest the rest wisely. You're just starting a career that should spin a comfortable living for a long while. Don't screw things up by taking your eye off that ball. There will be time to invest later. But spend the next few years getting ready to invest.

First get a good budget in place. Figure what you need to live on and invest the rest in a good mutual fund (after paying off debt, see next paragraph). Get good financial habits like tracking every dollar that comes through your fingers. Manage the dollars wisely and let the savings accumulate.

Next-- Pay off any debt you've accumulated in Gainesville, including student debt, credit cards, and any auto loans.

Make the beginning of your career a success. This will make a lot more important to your financial well being at age 40 than real estate investing.

After all of these are in place, then start looking at the real estate market. Maybe a home first, investments later. Or maybe skip to the investments if you wish. But for the first investment you should be debt free and have at least a 40% down payment in place. Even more would be better. You can borrow more for later investments, but learn the market with less risk than maximum borrowing.

You have a long working life in front of you. And you probably won't retire at 40, few do. But you can have a very good foundation in place to eventually get there. But now is about preparation and getting the foundation right, including paying off debt, getting good financial habits, and making yourself a really good engineer. The investments will happen in their time. Don't force them before that time.

Nicole A. · Answer

I think having no debt is the best way for some people because they are happy with working the 9-5 job and such. I think that message is mostly for a different mindset of people.

"Good" debt helps you reach goals and reach them much faster than trying to save up the cash for each property. "Bad" debt is using your card to buy sneakers or something.

If you have to borrow say $20K to buy a property, but you run the numbers and find the rental income on that property could make you $300/month AFTER paying mortgage, taxes, insurance, that $20K monthly payback, etc....I think it wouldn't make sense to NOT go in debt for it.

Do you have credit cards? Build your credit up. Have credit cards. Don't have much revolving debt though. Pay it off monthly. Watch them send you 0% checks for those cards that you have like $20K limits on. Use that money to purchase properties.

I used one to pay the downpayment for a property. The bank did not require vested funds, so I wrote myself a check about 2 weeks before closing.

Another property, I borrowed downpayment from a friend and pay him $100/month for 3 years. Then the balloon payment of $20k is due back.

Tim Pommett · Answer

@Brandon Turner It's funny that you mention Kiyosaki, I'm a HUGE fan of "Rich Dad, Poor Dad", and I noticed he disagrees on a few points with Ramsey. Great link, thank you!
	 
	 @Tom Goans Thanks for the reply! I'm actually a Mechanical Engineering grad from the University of Florida. I'm moving to Fort Worth to work for XTO Energy, I start on Tuesday. So when you invest in properties, you wait until you can buy the property entirely from cash savings? What would you suggest for someone like me who is starting a job and trying to establish themself in their first year fully financially independent? It seems like I'd have to wait for almost two years before I could buy my first tiny property

Tom Goans · Answer

@Tim Pommett,

Graduated from college and live in Fort Worth ... TCU?

It is the opinion of this seasoned investor of almost 50 years under his belt that debt can destroy you financially, spiritually, and your goals. I strongly disagree with what many members of this blog believe. My opinion is just another viewpoint to consider.

I can give a long list of reasons why debt can be a death trap to personal and business success. Moreover, I can provide many examples based upon actual occurrences.

Debt may be attractive today, but not tomorrow. Many variables are constantly changing. The future cannot be accurately predicted. Have you heard some real estate is now worth less than the loan balance?

Here is one example that goes contrary from what many members of this blog want to acknowledge:

July 19, 2013 Article

re: Research Firm RealtyTrac recently issued its mid-year flipping report:

• "Flippers make housing experts uneasy because they are speculators who can distort normal supply and demand dynamics. They contributed to the housing bubble from 2004 to 2006 by helping generate a frenzy of demand in some areas, one reason prices rose well above fundamental levels. Many flippers lost a bundle when the housing market crashed."

• "Many individuals who may have been able to get financing for flips during the bubble cannot get a loan these days, since banks are still very reluctant to finance speculation."

Every investor is unique, every investment is unique. What works for one person may not for another. There is no one correct answer or one correct method in the real estate business. Some people thrive on high risk, others do not. The same is true for any type of investment consideration, including the stock market.

You will find many opinions and variations - about like politics. What is important is for you to determine what is comfortable and believable to you.

Best of luck with your future endeavors.

John Thedford · Answer

OPM makes sense if the deal makes sense. I am not fond of debt but it helps me achieve my goals. If you can make a great return with little risk then I would say do it!

Brandon Turner · Answer

Hey @Tim Pommett  that's a tough question that each investor kinda needs to answer for themselves. I tend to fall in the middle. I believe Dave Ramsey is very smart and is all about security - hence the no debt thing. Which is a really smart thing. However, I tend to run my personal life like that but not business. I know it's splitting hairs, but I like the "game" too much to wait 20 years to be able to pay cash.  
	
	Check out this debate about Ramsey vs. Kiyosaki  also - there are a lot of good points.

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