Lose Your Competitive Edge With Debt

[Tom Goans]

Lose Your Competitive Edge With Debt

The more debt you have, the larger the loan on the property, the less competitive you are.

Is your goal to have as little money tied up in an investment property as possible? He who has the least debt is the most competitive.

Consider this:

In 2006, you buy a similar house next door to mine. We both own the properties as rental investments. I own mine free and clear. You aggressively sought a loan with the least down payment. Because the properties are the same, we both attract the same target market. Both houses rent for $1,000 per month.

Now, it is 2008. The target market is no willing or able to pay $1,000 per month. There are fewer people who qualify to rent your house because you rely on credit checks and I do not.

I lower my rental price to $850 per month and my property remains occupied. You cannot lower your rental price because you still have mortgage payments, overhead, and other debt payments. Your property will not cash flow below a rental payment of $1,000 per month. When you bought the house, you hoped to raise the rent the second year.

While my house has a tenant and is cash flowing at the $850, your house sits empty for more than a month. You are struggling to make the mortgage payment. You cannot find a buyer for the house. Finally, your savings are gone and you give up. The property goes into foreclosure, as many investors’ properties did 2008 and beyond.

Yes, my comments are completely contrary to the many books on the subject. They are based upon decades of experience and observation. My goal is to make deposits. I spend less time massaging numbers and never borrow money. It is very difficult to compete against me.

Just consider the options to determine what works best for you.

Your comments are welcomed and encouraged. We all learn from others ideas.

[J Scott]

Originally posted by Tom Goans:

The more debt you have, the larger the loan on the property, the less competitive you are.

Is your goal to have as little money tied up in an investment property as possible? He who has the least debt is the most competitive.

Personally, I disagree with these statements...at least in some circumstances...

The first statement is mathematically incorrect. I can have more debt today than yesterday, but have it spread out across many more properties, each with a lower LTV. More overall debt, less overall risk.

In general, the absolute value of debt is meaningless without more information.

As for the second statement, I know some very competitive investors who are 100% debt laden. Many of the institutional investors who are buying up Atlanta (and other cities) right now are working off 100% debt and are tremendously competitive (if you define competitive to mean they have an acquisition advantage). While I'm not going to comment on their business models (they often make bad investments), they are extremely competitive because they have the ability to leverage large amounts of (borrowed) capital.

Donald Trump is another good example. Back in the early 90s at one point, he was $900M in personal debt. He borrowed about $3B at that time and was able to use it to dig himself out of debt and today he's doing okay for himself.

I'm not advocating large amounts of debt by any means (many people are bad with money and more debt equals more problems)...I'm just pointing out that blanket statements like "He who has the least debt is the most competitive" make absolutely no sense to me.

The bigger questions are how that debt affects your overall financial picture, how you use your debt, how you manage your debt, and what the risk associated with that debt is.