As part of my ideology that education should be free, I will be making a monthly post (if not more often) related to real estate, because a better educated society results in better social and economic opportunities for those members of that society. I would gladly pay more in taxes to allow everyone an opportunity for free education. With that being said, I do NOT believe in loan forgiveness. That doesn't solve the problem with our education system, which is the astronomical cost of education nowadays. The topic may be a short definition, quick walk-through of a transaction, or an in-depth discussion on a technique or principal.

DISCLAIMER: For every question in the world - other than math - the answer is “it depends”. It depends on you and the facts/circumstances of your situation. I will provide as much information as possible to help you understand the topic in order for you to make an informed decision. In some posts, I will refer to books, articles, and studies. I DO NOT receive any commissions for those referrals. I will explicitly call out any instances that I receive a referral commission including the amount, so that you can evaluate for any bias.

TODAY'S POST - You are an Investor

Before I get started, here are some books that I think discuss various principles of investing succinctly, effectively, and in layman's terms:

The Psychology of Money: Timeless Lessons on Wealth, Greed, and Happiness https://g.co/kgs/CYYdDN

Market Wizards https://g.co/kgs/Zea8oW

Trading in the Zone: Master the Market with Confidence, Discipline, and a Winning Attitude https://g.co/kgs/dfnZcm

The Psychology of Investing https://g.co/kgs/a4mXqU

Yes, some of those are geared more towards traditional investing - stocks, bonds, futures - but the underlying concepts are still applicable to real estate (RE) investing.

Being the owner of rental properties makes you an investor; therefore, you need to ensure you understand the principles of investing. I refer to them as the 4 P's: Patience, Preservation of capital, imPerfection, and Paying yourself.

Patience: Warren Buffett has a great analogy for discussing the importance of patience. He compares investing to being a batter in the batter’s box but the difference is that investors have an unlimited pitch count. You, as the investor, can stand in the batter’s box waiting for ‘your pitch’ – such as, an investment property that meets all or most of your requirements: property size, location, single vs. multi-family, crime rate, school quality, dilapidated and needing to be remodeled, or fully remodeled. Once you get, ‘your pitch’ don’t be afraid to ‘turn on it’ and send it over the wall. With that being said, every single investment does not have to be a home run that doubles or triples your money (see what I did there?) in a day, month, or a year. We are coming out of an economic period defined by quantitative easing (QE) and low interest rates making money cheap and readily available. This environment has resulted in an unrealistic expectation that every investment can’t lose and should make at least 50% overnight.

Before we move on to the next ‘P’ we are going to do a little math.

Let’s assume you have $1,000 that you invest in the stock market. If you are able to earn just 1% every day the stock market is open in a year – around 250 days – then you will have $12,032.16 after 1 year. The math equation behind that black box is:

1.01^250 * $1,000 = $12,032.16

After the second year, you would have $144,772.82. More math:

1.01^250 * $12,032.16 = $144,772.82

And one more time to hammer home the concept – known as compounding interest:

1.01^250 * 144,772.82 = $1,741,929.12

Patience is powerful! Now, in the above scenario I ignored the real-world concept of income taxes, which erodes your capital. Leading into our next P – Preservation of Capital.

Preservation of Capital: Pretty basic premise, in theory, but hard for many people to follow in practice. This topic is discussed in all 4 of the books listed above and frankly they all discuss the psychology behind self-sabotage better than I can. But, let’s transition to a topic that is more in my realm - taxes! Yaaay…. There are many tax planning strategies available to RE Investors allowing you to mitigate your tax liability until a future period or potentially forever depending on the strategy. Some of those strategies include: 1031 exchange, cost segregation studies, buy and flip vs. hold and rent, sale of primary residence, minimal rental use of a primary residence (sometimes referred to as the ‘Master’s Exception). I promise I will write a post on each of those strategies; however, what I can’t promise is that those posts will be just as entertaining, but I will try. In my experience, the investors that are best at preserving their capital do the following: develop a plan, understand their risk appetite, and aren’t afraid to admit a mistake. Throwing good money after bad isn’t a good idea and ‘Diamond Hands’ – in my opinion – is not a viable investment strategy. Don’t get me wrong, I am not abdicating that you cut bait and run at the first sign of trouble, but if the facts and circumstances change then you need to re-evaluate, without emotion, whether the RE investment is still viable.

imPerfection: We have all made mistakes in our lifetime. The key is to learn from those mistakes and get better. How does that relate to being an investor and particularly a RE investor? If your initial analysis of a deal was wrong, then don’t be afraid to walk away from the deal before you sink more money into it. Yes, it hurts to lose a down-payment on an investment property, but the initial loss will not be as detrimental compared to if you poured all of your capital into a property that continues to have issues: mold, foundation issues, lead paint, lead pipes. Appraisals and inspections are important, and now that we are entering a buyer’s market, you should be able to ask for them before closing on a deal. There is a term in traditional investing called revenge trading. ”When you engage in revenge trading, you take on one or more trades in an attempt to recoup a reasonably large loss from a previous trade. When we lose money on a deal, our natural tendency is to try to recover it. Sometimes the desire becomes so strong that we act irrationally.” (AUTHOR, https://www.angelone.in/) Don’t be afraid to walk away from a deal if the ‘numbers’ don’t make sense.

Pay yourself: Most of us got into RE investing because we wanted to ditch the W2 job and become our own boss. I have seen success stories and failures, and the main reason people succeed – in addition to following the above P’s – is they keep track of their time in order to calculate their hourly wage. This hourly wage is important when evaluating if the deal was a success or not. Yes, many entrepreneurs do go an extended period of time without collecting a paycheck when they first start their business, but at some point, they make a profit and pay themselves or else they are moving backwards (eroding capital).

I know this first article doesn’t fit the traditional mold for Bigger Pockets but I felt it is necessary for everyone to realize that they are investors and to act accordingly. Investing attracts the best and brightest along with the ruthless so make sure you educate yourself in order to give yourself the best chance to succeed!

@Andrew McGuire

Phoenix, Arizona

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