Personal Finance - What should Bob do?

Question

Bob is an excited 30 year old wanting to buy his first apartment building, and found a smokin' hot deal.

Bob wants to sell his two SFH to generate 140k so he can buy a $70k Apt building and fix it up with $50-$70k. ARV=$250k with $3000/mo positive cash flow.

NEGATIVE

Bob has $50k in consumer debt. Bob has no emergency fund. Bob has no equity in his house. Bob has minimal documentation on his SFH rentals and doesn't know anything about taxes. Bob's been listening to the BP podcast (super motivated).

POSITIVE

Bob has experience fixing up his last two rental SFHs. Bob earns great money and can save $4k a month. Bob's been listening to the BP podcast (and learned stuff). Bob is just a darn nice guy.

What should Bob do?

Steve Vaughan · Answer

If the $50k in consumer debt involves vehicles, boats, motorcycles or sellable 'assets', I want to see Bob amputate these by selling them first to  prove he is serious.  Bob needs to drive a functional beater.

Lots of Bobs out there.  I agree with Scott, Brent, JD and Adam.  Lots of risk with this 'all-in' proposition.

Not knowing about taxes or finances is not an excuse.  Bob needs to educate himself.

If Bob sells the car(s) and cuts up the credit cards, Bob may have a chance!

Adam V. · Answer

Bob should sell both SFH, pay off his bad debt(50k), put 20k aside for emergency funds.  Take the 50k-70k he was GOING to use to fix up the Apt complex and buy a rental or 2 to start generating cash flow.

Ultimately Bob needs more education on Taxes and financial planning before he should jump in.  Bob can get burned bad.

Scott Trench · Answer

Personally, I think that most Bobs are ready when the following are true:

- Bob has no bad debt.

- Bob has a strong personal financial position consisting of enough cash to comfortably cover the downpayment PLUS estimated rehab costs PLUS $10,000 or so for unforseen trouble, strong monthly savings of at least $1,000 or so per month, and a good credit score. Bob is in pretty good position currently with that savings rate, which will rapidly help him build wealth.

- Bob has educated himself to the point where he is extremely comfortable with real estate in his area and understands the steps he needs to take to purchase, rehab, and manage a property. He has a clear plan of action or is confident that he can pull it off.

- Bob has a decent network in place and has people to call when he needs a contractor, agent, lender, attorney, CPA, or other professional to help his business.

Does Bob need to have all of these things PERFECTLY in place? Certainly not. But, the closer he gets, the lower risk his investment becomes.

Matt Wills · Answer

There seems to be alot of risk on what Bob is proposing. He could easily underestimate something and without a reserve fund will lose everything.  Also, taxes will cut deeply into the $140k if he were to sell...

Has Bob explored other options instead of selling?  Namely refinancing  the two current rentals in order to get the the funds and repair  costs?

What is the cashflow per month if Bob were to rent out the two SFH right now instead of selling them?  Bob may not be gaining that more a month in cashflow from the apartment building which seems to have vast amounts more of risk.

Ben Leybovich · Answer

You only pay off debt of one or both of the following are true:

1. You are in a market cycle whereby the money cannot be deployed for higher rates of return than paying off debt,

2. You have so much money and cash flow laying around that paying off debt is an afterthought.

Unless either one or both of the above are true - buy assets. Period!

Raymond McGill · Answer

I like the wise responses! I am very impressed with the wisdom and suggestions of emergency savings / Reserve fund. This is so different than the "Borrow on 0% credit cards to buy houses" advice I was seeing around.

James Triano · Answer

Oh Bob, you crazy debt-driven-American-made-maniac. We love your ambitions.

Unfortunately, it sounds like Bob needs to get his 'own house' in order before he needs to venture into buying apartment complexes.

As @Steve Vaughan mentions, if he can kill that debt with the sale of some of the underlying "assets" (liabilities) and can stuff some cash under his mattress for a rainy day, then that's a start.  Only with a solid emergency fund (even ~$10k), would I suggest he take on this deal.  The consumer debt needs to go and he needs to get serious about getting a solid plan in order to make sure he has a safety net.  He's running very close to the ragged edge.

A smoking hot deal only comes around once in a while, sure, but going all in and getting close to insolvency is not the position to be in.  Why not sit on the sidelines for a few more months, Bob, and let that $4k a month pile up while learning more about taxes, accounting, listening to all of the BP podcasts and reading a few more books?  A little patience will go a long way.

JD Martin · Answer

If he earns that much money free, why does he have $50k in consumer debt? Is that debt financed at 0%? How much equity does he have in the rental homes?

What should Bob do? Give us more information. And probably get rid of that consumer debt. And no one cares if he's a nice guy :)

Andrew Hall · Answer

Bob has a lot of debt, but a hot deal is a hot deal. With all the info collected from Bob are the numbers accurate? Selling the only 2 properties to go in to one deal and risking everything with no emergency fund is risky. If there is one misjudgment on repair Bob could be in a bad position.

I agree with @Scott Trench on when Bobs are ready. Sometimes getting all your ducks in a row before risking it all is a safe bet.

James Triano · Answer

@Raymond McGill

I agree!  I do think that "0% credit cards" can actually deployed effectively (I do it with my Home Depot card where any purchase over $300-$500 is 0% for 12 months depending on the special they're running).  The difference between using 0% interest cards effectively or some other means of high interest financing, is having the capital foundation laid if you run into issues where you can't get your asset sold or re-financed to cover the impending interest payments.

On another note I find @Ben Leybovich point interesting.  If Bob has $50k in consumer debt (i.e. credit cards), he might be in position #1 Ben is describing.  The interest on consumer debt is likely (due to Bob's financial position and short credit history) nearing the 18-24% range.  By repaying that debt, he is guaranteeing himself a 18-24% return by paying down the debt.  I know 24%+ deals can certainly be had in REI but that's not without serious work and some risk - neither of which are involved in repaying the debt. Just my $0.02.

Personal Finance - What should Bob do?

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