All Forum Posts by: Marcus Auerbach

Well said @Seth McGathey.

@Mark Morosky you are NOT buying your first investment property for cash flow. You are buying it to have one. Learn from it and let it do its thing for a decade or two. You don't need to make all your money on your first one, but you want to be low risk, which means quality building in a good location. If you make a little cash flow, leave it in the biz. 

Real estate is about equity, cash flow is just to cover your expenses while you grow a portfolio. If you want cash flow, buy a business. That is literally designed for cash flow.

Friends who don't understand REI will ask you: you spent all that money and worked your butt off for 6 months nights and weekends for $200 in cash flow?? They are right, and that's why I am telling you cash flow can't be the reason.

For a MF I would check with Robertson Ryan, talk to Matt Frank. 

What level of insurance is right for you is a risk profile question. I am fine with market value, because I am not really expecting a building to burn to the ground and if it happens, so be it. But if that concerns you, go with replacement cost. You can even include lost income.

If you are looking for professional networking, consider joining the RPA (Rental Property Association of Wisconsin, a 51-year-old nonprofit) - next in person meeting is May 19 in Tosa, there are usually 100+ people there, mostly MF investors. RPAWI.org

Quote from @Henry Clark:

@Marcus Auerbach. All of our time and money should be going to scaling. Not retirement. Don't use your REI cash to enjoy life. Especially at a Michelin restaurant in Italy.  

Si!! Il dolce far niente. Especially in the context of REI!

Quote from @Todd Dexheimer:

@Marcus Auerbach how long have you been investing using this strategy? 

While I can understand your theory, it just doesn't work long term without solid cash flow or exiting properties. Buying properties that you can add value to and cash flow in good neighborhoods with a high DSCR is the most tried and true investment strategy.

Why does it not work to "build an equity portfolio, stabilize it and then start doing annual cash-out-refis in an amount that matches your annual equity appreciation?"

1. This is expensive. Each year, you'll spend thousands on refi fees. 

2. Interest rates can go up, which makes doing this annually impossible

3. Values can go down

4. No or little cash flow will cause issues with paying the bills. Eventually, the chickens will come home to roost!

If you want to directly own rental real estate, then buy in solid locations and purchase something you can add value to. Then put on debt that is fixed and provides you with a high DSCR (1.5+). This allows you to own a cash-flowing property that you have equity in. Over the course of 2-10+ years, strategically refinance it or sell and exchange into something bigger.

Todd, not what I am saying: you do need cash flow and you can't avoid it, it's a byproduct of the equity. If you have a mature portfolio in quality locations and your leverage should be under 50%, maybe even under 30%, your DSCR is probably well over 2.

We are talking about phase 3 of your portfolio, when you're drawing from it, after you've been growing it (phase 1) and then coasting (phase 2), at some point you should enjoy the fruits of your labor - and a lot of that is equity.

To answer your question, I've been buying for 15 years now and it looks like we are more coasting now. Here and there we buy another property and do a cost seg.

Maybe my 1 unit example to Henry was confusing. Let's say someone has 20 fourplexes after a career of investing, 500k each. That is $10 million portfolio value, $7 million equity, 100k rent roll, 30k debt coverage. Annual rent increase 3%, annual appreciation 3%.  

1.) Yes it does cost money; a 300,000 refi will cost you probably 1% of that
2.) If rates go up, the amount you can support with 3% rent increase goes down a little
3.) Yes values can go down, but if you start with a 30% leverage, it only affects your LTV temporarily. But also, you are right, nothing in life is guaranteed
4.) Agreed, but lack of cash flow is not an issue on a mature, quality portfolio.

I totally agree with your summary at the end. My message to a noobie is, equity will dwarf cash flow over time, so it is a critical mistake to only invest forcash flow.

And to the seasoned landlord: stop pinching pennies to pay down your last 30% LTV. Start living, do something now, buy a house for your kids - stop delaying everything into the future. You can either maintain your leverage and cash flow (as long as you match your annual rent increases) or you can even start to re-leverage your portfolio and go back up to 50-60% LTV.

Quote from @Luka Milicevic:

Quote from @Marcus Auerbach:

If you are investing primarily for cash flow you are barking up the wrong tree. Once you have aggregated a small cash flow portfolio, you'll be so busy landlording that you wish you kept your W2. 

Instead, build an equity portfolio, stabilize it and then start doing annual cash-out-refis in an amount that matches your annual equity appreciation. It's 100% tax-free income forever and you never have to increase leverage or even touch your cash flow.

People who primarily "invest for cash flow" don't have a very deep understanding of REI principles. Tell me I'm wrong!

 Valid points. 

My plan is different, though.

I don't invest for cash flow at all. I buy for equity, refinance and buy more. I have done this for years now and my ultimate plan is sell everything and invest in paper assets. 

My paper assets have not done anywhere near as well as my RE returns, but when I am ready to be done with the "trouble" that comes with real estate I'll be happy to take a lower return for less headache. 

You are in the growth phase, which makes sense. While I am personally not a big fan of re-leveraging to buy more, because it keeps your LTV high and close to 75%, in the end growth matters.

And pace. When you look back at your first ten years it makes a difference if you acquired every year 10% of your assets evenly spread out or if you were able to "frontload" and buy more early on - you have more horses in the race for longer, which is key. When you move from RE to paper assets, you have a lot of taxes to catch up. Except if you 1031 into something like a DST.

We invest in single-family homes, which is probably the most passive form of active REI. The resident takes care of everything, including garbage, snow and lawn, there are no common areas to clean and they usually stay for many years.

What we have done systematically over the last years is 1031 exchanged properties in lower-quality neighborhoods into higher-priced suburbs. And systematically taken on capex items like driveways - we have a ranked list and replace a few every summer. So, obviously we are committed for the long term. And tax optimized.

Quote from @James Hamling:

Quote from @Marcus Auerbach:

If you are investing primarily for cash flow you are barking up the wrong tree. Once you have aggregated a small cash flow portfolio, you'll be so busy landlording that you wish you kept your W2. 

Instead, build an equity portfolio, stabilize it and then start doing annual cash-out-refis in an amount that matches your annual equity appreciation. It's 100% tax-free income forever and you never have to increase leverage or even touch your cash flow.

People who primarily "invest for cash flow" don't have a very deep understanding of REI principles. Tell me I'm wrong!

Not saying your wrong, but that how it's all conceptualized needs adjusting. 

Cash-Flow is NOT a thing in and of itself. So buying 4 cash-flow will always 100% of the time betray a person. ALWAYS. 

Buy for/on APPRECIATION & EQUITY. 

Appreciation & Equity = cash-flow. 

Cash-flow is a RESULT of Equity and Appreciation. 

Appreciation 7 Equity is the catalyst of cash-flow. 

Cash-flow is the catalyst of nothing except maybe deferred maintenance, cap-X, which are catalysts too cash-flow and equity DESTRUCTION. 

The #1 most repetitive failing investors make is to buy for, or based upon, cash-flow. I have seen it play out literally more times than I can recount. 

When you BUY for/on Equity and Appreciation, a spread is created/present and that SPREAD, that is how investors make $. 

Investing in Real Estate is not unlike virtually any other investment in existence that the profit is in the spread. So all focus and weight need be given on the spread. 

This is why price truly does not matter. It doesn't. The spread is all that matters. And in real estate we call the spread equity, and the growth of that spread appreciation. The result of a profitable spread cash-flow. 

So if your goal is a cash-flow to replace your W2, you are seeking to buy for Equity & Appreciation. 

Because reality is nobody is dumb enough to just give away big spreads for free. The market has priced the spread to a razor thin level. The stock market has done the exact same. Nobody is getting Tesla stock of $50 anymore. That is the reality of the market.  

New investors don't get that. Josh Dorkin was banging the cashflow drum long before Brandon Turner came on board. And the reason Josh did that is because he personally got burned investing for appreciation - without equity or cash flow. 

So now BP has been chanting CASH-FLOW CASH-FLOWfor over a decade and the next time a noob calls me and tells me all he cares about is cash flow I'm going to jump out the window :-)

Quote from @Henry Clark:

Quote from @Marcus Auerbach:

@Henry Clark, happy to see I am not the only person to order red with fish :-)

Let me run with your numbers: $300,000 valuation, 65% LTV, $200/mo cash flow, rent $2,600, 7.5% interest, 5% appreciation.

Your PITI is about $1,800 monthly, 5% appreciation comes out to $15,000 per year, a 3% rent increase comes out to $78 per month.

If you take out $10,000 as a cash-out refi, principal and interest are $69, cash-flow still increases by $9 and your LTV is still slightly improving (You took out 10k and had 15k of appreciation). Compared to $200x12=$2,400 in cash flow, that's peanuts compared.

To take out $100,000 annually, you need 10 of those properties. The cash-out is not a taxable event.

In my mind, this is a retirement strategy for a mature portfolio. Typically, your LTV at that point is below 50%, maybe down to 30% or less. If your LTV is very low, you could even increase leverage 1 or 2% per year - basically like a reverse mortgage.

Traditional retirement advice is to take 4% out of your 401k every year so your stock portfolio should last you indefinitely. This is the same idea, but in real estate: your portfolio leverage does not increase, your cash flow does not degrade, you just maintain them both at a stable level. 

Here is my point to new investors: equity really matters, keep that in mind when you buy property!

OP change my summary as needed.  To use this approach for $100,000 after tax lifestyle:
1.  LTV should be lower than say 55%.   To cover bank loan LTV of 65%.
2.  10 properties or equivalents at $300,000, 5% annual appreciation, PITI using 7.5%. $200 after tax monthly cashflow.  

Somewhere in the above area REI should be able say this will or won’t work generally speaking.  

Nice 2CV on the right! And then a Puch500? 

France or Italy?

Quote from @Henry Clark:

OP to get around the refinancing costs and work.  Are you doing a working line of credit?  With a little higher Interest rate than a 5 year balloon or a 30 year amort fixed?  

You could do this with a business line of credit and then refi a property periodically to pay off the BLOC. This would actually be more cost-effective as you only pay interest on what you have taken out.

You are in a different model with stortage units, I am thinking about the guy who has accumulated 30 duplxes over 30 years and is still trying to pay off the last 5. 

Quote from @Peter W.:

Quote from @Marcus Auerbach:

If you are investing primarily for cash flow you are barking up the wrong tree. Once you have aggregated a small cash flow portfolio, you'll be so busy landlording that you wish you kept your W2. 

Instead, build an equity portfolio, stabilize it and then start doing annual cash-out-refis in an amount that matches your annual equity appreciation. It's 100% tax-free income forever and you never have to increase leverage or even touch your cash flow.

People who primarily "invest for cash flow" don't have a very deep understanding of REI principles. Tell me I'm wrong!

Ultimately, you are borrowing against the future cash flow of your property, so I think it is hard to argue that you aren't investing for cash flow, you're just bringing the cash flow forward (at a cost of 7-8%) with the loan.

 Are you actually doing this? I can think of several snags 

1.) your interest on the cash out portion is no longer a business expense. So your cash flow after taxes should decrease.   Which is more of a headache than anything else.

2.) The cost of refinancing seems like it would be prohibitive. I can't remember the details of my last cash out refinance, but it seems to me it was 3-5k + .4% of cash out value. If you have a 1 million dollar property at 3% growth, that's a significant chunk. I suppose this works well if you have an apartment complex, but if you have say 10 properties, that's ten refinances. There are several ways to work around it, but you would need a lender who is okay with giving you cash out at a higher value than the last appraisal without an appraisal. I suppose DSCR loans could work I just expect the fees on yearly cash out refinances to be significant. (If you have 10 properties you could just stagger one refinance every 10 years so there are clearly workarounds).

3.) Interest rate and appreciation risk-- I invest in real estate primarily as a hedge against inflation, but if interest rates rise 1% you might end up reducing your cash flow from the cash out or if you have lower than expected appreciation you might end up not being able to pull cash out.  This might be a once in 10 year type situation but for those living in the sunbelt for instance, they have seen rates go from 4-5% to 7%+ and stagnant home values from 2024- probably into 2026 or 2027. I know where I live, we saw limited appreciation (< 1%YoY) from about 2004 when xerox and Kodak started having issues until the pandemic--even in the class A areas of the city and suburbs.  

You run into similar issues with drawdowns of stock investing, if you had pulled out 4% of initial value of your stock portfolio from 2000 to 2020, you would have lost it all despite the stock market being up like 10x or something ridiculous. 

In both cases you need to have sufficient cash flow and reserves so that you don't have to sell or don't have to refinance to live if the market hits a rough couple of years. 

With that said, you are touching important points,
• Cash flow isn't everything, it's important, but so is total return and your risk profile. 
• The unstated assumption in your post is that a "cash flow portfolio" means investing in high risk areas as those have higher cash flow returns on paper.  
• Having and keeping a high LTV keeps your returns much higher.
• Tapping into your equity to pull cash flow forward can be worthwhile for your quality of life (or to boost investment returns).

You are absolutely right, the assumption is that a "cash flow portfolio" scenario, as the anti-example is investing in cheap areas, ultimately a low equity, low appreciation. And yes high cash flow - ON PAPER.

We had a long-time Milwaukee landlord at one of the RPA-workshops and at the end he basically told me he is doing this for 30 years, has been his own handyman, did some cash-out refi along the way to pay for large capex items that come with a portfolio of 100 year old properties and now he is 65 and is caught in this treadmill with not much to show for after a life of landlording. That was a pretty sobering conversation.

Of course you would not do that with ONE unit; a 10k refi is certainly cost-prohibitive! That was just to illustrate the math conceptually. 

After a life of investing, you should have hopefully grown to several dozen properties, some of them free and clear. You refi one (or multiple) properties every year, then the cost of re-fi becomes marginal. If you want to preserve your cash flow, you have to stay on top of annual rent increases, otherwise, you are eating into cash flow.

Interest expenses are not tax-deductible anymore if you use the funds for lifestyle, but you are not subject to income tax, that's the main point.

And if you want to play it conservative you just keep your rate of refi lower than the rate of appreciation. I just see too many investors in the 70s still trying to pay off their last 5 properties and I ask them - why? What's the end goal?

We all got into REI for a better life, but many of us get stuck in the grind phase, at some point you have to switch gears.

@Henry Clark, happy to see I am not the only person to order red with fish :-)

Let me run with your numbers: $300,000 valuation, 65% LTV, $200/mo cash flow, rent $2,600, 7.5% interest, 5% appreciation.

Your PITI is about $1,800 monthly, 5% appreciation comes out to $15,000 per year, a 3% rent increase comes out to $78 per month.

If you take out $10,000 as a cash-out refi, principal and interest are $69, cash-flow still increases by $9 and your LTV is still slightly improving (You took out 10k and had 15k of appreciation). Compared to $200x12=$2,400 in cash flow, that's peanuts compared.

To take out $100,000 annually, you need 10 of those properties. The cash-out is not a taxable event.

In my mind, this is a retirement strategy for a mature portfolio. Typically, your LTV at that point is below 50%, maybe down to 30% or less. If your LTV is very low, you could even increase leverage 1 or 2% per year - basically like a reverse mortgage.

Traditional retirement advice is to take 4% out of your 401k every year so your stock portfolio should last you indefinitely. This is the same idea, but in real estate: your portfolio leverage does not increase, your cash flow does not degrade, you just maintain them both at a stable level. 

Here is my point to new investors: equity really matters, keep that in mind when you buy property!