Why so much leverage?

Question

A theme I heard several times at the conference was the notion that some very successful landlords did not ever wish to pay off their mortgages on their rental properties. 
Rich Weese also touched on his strategy of buying 20 homes in 20 years and utilizing leverage as well.

What are the major reasons as to why this is a favored approach? 
Is it to buy as many properties as possible? 
Is it to reduce income taxes? 
Is it to limit liability by having mortgages attached to every rental?

Michael Zuber also took a strong position on this as well.

To any investors out there with this approach, can you offer more light on why you take this position. Also, I'd suspect investors in this position would be likely to carry massive reserves, as bad months aren't as easily offset with cashflow from units that may otherwise be paid off.

Thanks in advance!

Rich Weese · Answer

ED O- there have been some really good replies on this thread from various investors. I do carry adaquate reserves, but also have many properties free and clear.
      In my Book I have a chapter by that name-20 homes in 20 years. It was a method that was not a get rich quick scheme and really was a pretty easy method to understand as a basis, that everyone could accomplish. It does help your investment pool because the cash flow is low and the write offs are high, especially if you're buying newer properties.

James Park- There is no one single answer to your question. Cash reserves will differ greatly depending on many things.
1. Other free and clear properties.
2. Security of job.
3. Income from all other sources.
4. Risk tolerance level.
5. Age.
6. Overall strategies and desires from your real estate.
7. Tax status.

Those are just some of the variables.

Nathan- Not everyone on here is as experienced as you, or as knowledgeable.... The original poster has a VERY small # of posts. Your comment, as stupid as it was, might make him think twice about posting again... No one forced you to post any reply or push any "reply" button. Condesending comments is one of the reasons MANY don't post on here anymore, or why they post less. It doesn't need to be on BP, imo. There are ALWAYS new members that don't understand the site well, and wouldn't go hunt down previous threads or don't even know how. Cut them some slack. Rich

Account Closed · Answer

Ed,  It is very rare when I buy property all cash. I leverage properties so that I can utilize my cash for other investments.  I'm very careful not to overleverage though.  My reason for leveraging is not really about the tax deduction (though it is a consideration) but more about letting someone else pay for the property and freeing up cash for other investments.

Leverage is a tool that can be both good or bad.  Good leverage can let your money / assets grow more quickly.

Account Closed · Answer

Ed O. For me free and clear properties are not a necessary part in my strategy.  I tend to prefer to make better use of my money.  I'm also balancing the fact that I may want to retire in 5 - 10 years a decision that I haven't finalized yet.

If I choose to work another 20 years, then I will pull this cash out for other investments.  I'd rather not let the money set idle when it can create greater wealth.  Besides if I'm going to be working that much longer I would be looking at shielding more of my current income.

Bill Gulley · Answer

Ya all need to read between the lines as to  what Cahrles has said. The amount of leverage is totally irrelevant. If you are investing in rentals for tax advantages, you're in the wrong investment as an active owner/manager. I'd buy at 100% all day long if I can have 3% over the loan amount plus 10% management and cover taxes and maintenance. That's a property that doesn't eat any hay. It pays for itself, has a positive cash flow and builds equity. 7 to 10 dump it, the depreciation begins to weasel out, cash flow for that aged property begins to be stagnet, and you're 10 % down on the mortgage at whatever % you borrowed. If the dollars are behind the door each month for the effort and appreciation it's generally worth fooling with.

Your down should earn 3% over your cost of capial, just for inflation and maybe a bit more, if your cost is 10% you should be getting 13% on your money.

So the degree of leverage goes with the property, it's ability to cash flow, if you get a good property, low maintenance and uprising rents for the area, keep it, if it starts to mature and become stagnet, dump it.

That's my 3% rule, it puts you in the black in the short term or the long term!

Account Closed · Answer

Probably if I was a newer investor I would be more conservative than I am.  I would also probably look at my overall portfolio more closely.

Your approach to leverage may change over time with the market, your proximity to retirement, your experience and a host of other factors.

Account Closed · Answer

I don't have a set amount of leverage that I work with.  I look at every deal on its merits.  I have leveraged as much 90% though that is rare now.  I generally like to be able to leverage about 80%.  The key is the underlying deal.

If I have to lower my leverage significantly that usually is a strong sign that the property is not a good investment anyway.

You have to know the market your investing in though.

Account Closed · Answer

Time value of money is an important point.

Your investments goals are often an important factor.  I invest in buy and hold primarily to build a retirement.  As long as the underlying investment property produces enough cash flow to insure adequate reserves and all costs of holding the property are paid for, I'm quite happy.  This is a property that will not add to my current income tax situation but will provide the return I'm looking for down the road.

Jeff S. · Answer

You also hear that you pay back today's debt with tomorrow's cheaper dollars.

Bryan Hancock · Answer

You should definitely carry more liquidity if you have more long-term debt to service.  The proper amount is hard to quantify, but 10% of long-term debt generally allows you to keep raising debt from traditional lenders.

James Park · Answer

Ed,
I am interested to hear what others have to say about this as well. Here is my opinion.

If you have a million dollars in cash and you have five investment properties with $200,000 mortgages on them, it is the same as owning 5 properties free and clear. Your total $1,000,000 mortgage will be fixed at 4% for 30 years. Rates will not stay this low forever and I believe there will be a time when you can make 5-7% in CDs and money market in the future and arbritrage the bank's money.

If you can make more than 4% in other investments whether it be in your own business, or the stock market you are arbritraging the bank's money. When the rates are this low, you want to leverage as much as possible and when rates are high like they were in the 1980's, you want as little leverage as possible.

You make money in real estate in four ways: 1) cash flow 2) appreciation 3) amortization 4) Tax savings. Over the course of 30 years, your million dollar morgage is fixed at 4% while #1,2,3,4 continues to rise building upon your networth over time.

Everyone has their own risk tolerance but for me I would not want to leverage beyond $2.5M on my investment properties if I am holding $1,000,000 in cash.

Why so much leverage?

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