will owning lots of rentals bring future wealth?

Question

I have had this debate on another board with investors as well as my hubby. What do you guys think about someone wanting to stack up lots of rentals as an investment so that in 10 to 15 years they can sell or continue collecting rent as long as feasible? My husband wants to buy lots of rentals because he says in 10 to 15 years he can sell them all and set up an annuity with the money he gets on the resale to live off of if he buys all the properties at fifty cents on the dollar cash and then refis to get his money out and keep repeating over and over again. Some other boards have said owning rentals will not lead to any kind of future wealth. What do you guys think?

Mike McKinzie · Answer

Lots of good answers here and even better questions.  Saying you need 40 pieces of property is like saying you need 40 shares of stock.  It could be Citigroup, $3.97 a share or it could be Berkshire/Hathaway, $118,900.00 a share.

There are some investors on BP that do not get $1,000 for any rental they own.  There are some on BP who get over $2,000 a rental, including me.  I have 30 properties, that surprisingly, bring me $30,000 a month in rent.  Only 4 of the properties have a mortgage.  My lowest rental is $595.00 (Fresno, California) and my highest is $2,100 (Corona, California).  Does this make me wealthy?  Not by a long shot.  Is this better than retiring on just Social Security?  You bet!!  But my goal is to get that monthly gross income to $100,000, and then I can retire.

Also, since my wife and I work full time, we don't use any of the rental money to live on.  It is all reinvested.  That $30,000 was only $20,000 2 years ago.  We've bought 7 properties in the last 2 years.

Yes, you can get wealthy on rentals, but it takes time, research, work and a lot of time.

Bryan Hancock · Answer

It really is impossible to answer this question without a ton more detail about your situation.  You can make any solid investment at a discount to intrinsic value, sit on it for 15 years, monetize, and buy an annuity.
          
          Real estate has a number of quality features when held long-term.  Tax treatment is favorable, you are getting a tenant to pay for your debt (if done correctly), the asset appreciates, and it also throws off cash flow if bought properly.
          
          The big problem is that most newbies don't account for all of the real costs of ownership and end up paying too much for properties.  They multiply this mistake over a number of units and end up being overleveraged.  The overleverage ends up forcing them to sell at an inopportune time in the future and realize a loss over the life of the project(s).  
          
          If you are a big believer in inflation AND you don't plan to sell the property later on then being a net debtor is a great inflation hedge for you too.  Note that this argument doesn't hold water if you plan to sell the properties later on because the inflation will lead to higher interest rates, which will decrease the value of your property when sold.  In theory rents will partially keep pace with inflation so they will escalate while your fixed-rate note (P&I portion...not TI portion) will remain level.
          
          I think that everyone that plans to be a real estate investor should have two separate entities.  The first entity buys and sells for profit inside of a s-corp.  The other entity (or entities) hold rentals that are leveraged properly and spit off a sustainable cash flow that increases over time.  This portfolio also provides a nice tax shelter, amortizes debt, and MIGHT appreciate in real (after inflation) terms.  
          
          REITs, securities, notes, commodities, derivatives, futures contracts, etc. are all other investments that can be purchased at a discount to intrinsic value.  The devil is in finding out what intrinsic value really is and buying right.  If you aren't hedging you are speculating and all investments bear risk.  Real estate is no different...It just carries some features that make it more appealing than other forms of investment for many.  
          
          An experienced investor can really write an entire book about your question.  If you give everyone more detail it may prove helpful in describing our opinions on your specific situation.  Absent these details I don't think anyone will be able to help much.

Dale Osborn · Answer

Whether it makes you wealthy or puts you in the poor house all depends on what you put into your properties. There are some slumlords that buy and rent as is without putting money into their properties. Others turn their property over to a mismanagement company who runs it into the ground and you end up selling it to an investor for less than what you bought it for. Then you have the Mom & Pops - sounds like you fit this category. They take care of their property - prescreen their applicants so they do not waste lots of money on repairing tenant caused damages and then become wealthy. You have to decide for yourselves which route works best for you!

Bill Gulley · Answer

Hi, you're probably doing alot of reading by now, but I can tell you that real estate is unique. It is different than all other financial assets that you might invest in. RE requires attention, like a garden. To yield anything over time, you need to keep weeding it, watering it and taking care that you plant the right seed in it.

In the long run, real estate has created more wealth in this country than any other commodity. Why, because they ain't mak'n the stuff anymore. Unlike other investements real estate is a limited  commodity. From an investment point of view, it is not as volitile as other investments, like stocks, bonds or any other financial instrument. While you can invest in pools of real estate represented by financial contracts or other instruments, such vehicles can fluctuate in price rather quickly depending on market conditions. But dirt does not. For example, as interest rates rise, investors may leave investments in a real estate investment trust for a higher return in another market. But owning dirt, prices do not change quickly and are not directly related to interest rate fluctuations. Just because it might cost more to buy a home due to a higher interest rate, the value of that home does not drop by the present value of that interest rate change. Real estate has an intrinsic value, it's a place to live, it represents security for a family and can be improved to meet various needs by its owner. Property can be developed, commercialized or used in many ways to derive income. These aspects make real estate unique and prices reflect these attributes as well.

So long as people desire to live in a well built, functional and desirable home, over time, values will increase. It's the scarcity of real estate that makes it valuable.

So, if you keep your garden tended to, you should enjoy long term gains from your properties. Uncle Sam recognized this long ago and as an incentive to promote ownership of real estate, he provided tax advantages for those who hold properties and dispose of it too.

Your husband is on a valid course, the questions should be what properties, located where, what kind of properties and how to leverage the acquisition and how to maintain the portfolio as an earning asset.

We just can't get specific unless we have alot of information, but I doubt, for your purpose, you really need to go much further. As mentioned, there are books on the subject and how real estate out performs the stock market or was the downfall of the American dream.  Good luck, Bill

Steve Babiak · Answer

Often this is to keep the IRS "dealer status" limited to the entity that is flipping property, so that the tax treatment for "dealers" is not brought upon all the income produced (passively) by the rental portfolio.  I am not a CPA or tax advisor, but that is what I have encountered when looking into this.

Joshua Dorkin · Answer

Trcey (or is it Tracey - I can fix it - let me know) - 
I'd suggest you'.your hubby read all the blog articles from Jeff Brown here on BP, as he goes into depth on the subject, and helps folks build their portfolio for retirement.

I think you guys will find the info extremely helpful!

Vikram C. · Answer

Tracy, there are many profitable businesses that go bust because they expand too fast and run out of cash.  So you want to make sure you expand your portfolio at a sustainable rate so that you are always comfortable from a cash-flow standpoint.

You may also wish to share your numbers here for your current rentals so that we can examine it more closely and give you better feedback.

Bryan Hancock · Answer

Why 40 properties?  Why not specify how much cash flow or whatever you are looking for instead?

With 40 properties you will likely need a mountain of cash reserves.

I realize that your question was a general one, but the devil is in the details.  If everyone's situation was the same there would be no need for attorneys, CPAs, advisors, etc.  I suspect that you should read some material on asset allocation and spreading your bets across asset classes.

40 properties will almost certainly be accompanied by a mountain of debt if you acquire them in the next 2 years unless you are very wealthy to begin with.  IMO a prudent strategy is to acquire properties gradually and see how the overall portfolio operates.  As you gain an understanding about how the portfolio functions in different economic situations (temporal experience) you can add some more and do so at prudent leverage ratios.

Everything really depends on your tolerance for risk and how much downside risk you can tolerate.  Keep in mind that several non-performing properties that are leveraged can sink you quickly.  Leverage cuts both ways.

You may consider working with a financial advisor that understands real estate so that they can help you plan for everything in a holistic sense.

Tracey B. · Answer

Bryan, my question is more of a general one but as far as I am concerned, I am 30 years old. Since 2004 I used to flip houses; i made a ton of money doing that until 2008 when i decided that i should keep some of these properties as I was buying at very low prices in nice neighborhoods. I have 7 rentals, 4 are duplexes, 3 are single family. My husband insists that we must acquire 40 rentals over the next few years so that in 10 to 15 years we can live off of cash flow and/or sell the properties and live off an annuity.

Account Closed · Answer

a great thread. Cheers everyone

will owning lots of rentals bring future wealth?

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