All Forum Posts by: Erik Kubec

@Mark Nolan, thank you.  It seems that this would not be considered a 'flipping business' because:

• The same property has been held in the 401k for 5 years--there has been no 'flipping' business activity
• If I were to sit on cash  after selling (or something non-real estate) for 2 years, this would give more evidence to this not being a 'flipping' business
• If I were to buy another property in 2 years, again, not much of a flipping business.

@Dmitriy Fomichenko, thank you. The property in question is held in a solo 401k. Yes, it wouldn't make sense to sell an SFR in Denver and then buy another SFR in Denver with in 30 days. The property is a townhome. Let's say my crystal ball tells me that, over the next 2 years:

• all the apartment building will depress rents for attached dwellings (like the one in my solo 401k).  
• Interest rates go up a point, depressing purchase prices
• Colorado figures out the construction defects challenges, and either condos are built again, or those apartment are converted to condos, flooding the market with supply, and depressing prices.
• China, in a trade war with the US, goes beyond the new, light capital controls and implements something with real teeth:  Let's say they give their citizens a 'tax holiday' for a year or two if their citizens sell their real estate held else where and repatriate the funds.  If they don't, after the window, they will be subject to jail and penalties.  

All of the above things would cause the value of the townhome to drop.  If I were certain of the accuracy of my crystal ball, I should sell now, not pay any capital gains, and sit on cash.  After the market has dropped a bunch, I could buy back in at lower prices.  No capital gains taxes.  

Of course, all real estate is local.  But all debt is national.  There absolutely is a national market for real estate.  Somebody in Columbus is looking at the same interest rates as I am, and possibly also competing with the same buyers (Chinese, Blackstone, Waypoint) as I am.  Currently, multiple cities are setting records for apartment building.    I think the way to look at it if I were to sell 'Denver / buy Columbus' (or another city) is to understand how much 'decoupling' from national trends there is.  Waypoint, Chinese nationals, Blackstone may not be in Columbus, but interest rates will be similar to what I pay in Denver

Are you looking to refi and ADD CASH so that you are financing less, and thus would get a better cash flow?  Usually folks that are refinancing investment properties are looking to make their cash flow worse so as to get capital out and go buy another property.  It seems that sub 5% price appreciation (from 220k to 230k) does not justify the cost of the refi.

I believe--but correct me if I am wrong--that there is one potentially huge advantage of holding real estate in a tax deferred retirement account (SDIRA or solo 401k):

The elimination of immediate capital gains taxes and the opportunity for market-timing arbitrage. 

So here goes.

If I own real estate in my name and sell it, I must pay capital gains taxes unless I use 1031 exchange to buy more real estate.  The window for this is 180 days.   If I think that prices are maxed out, and are likely to drop in the future, I can't sell the property and wait without paying capital gains taxes.  180 days is not enough for a meaningful shift in prices.   If I sell now and buy now, I am essentially paying the same price level.

If I own real estate in a tax deferred account--SDIRA, solo 401k (these are not identical, obviously).  I can sell the property today and pay no taxes, as it is in a tax deferred account.  I could invest in some other asset, or sit on cash for a long period of time--until the forced-withdrawal rules of retirement accounts require that I start pulling money out.    If property values drop, I can buy again.  I believe the downside is that ultimately, I must pay a (hopefully) tax rate of income taxes on withdrawals, versus paying 15% capital gains tax.  And of course, there is no guarantee that the market will behave the way I want to

@Mark Nolan,  Thank you, yes.  The math on those calcs is fairly thick with the employer and employee contributions + the Self Employment tax.  The amount I will contribute will be way under $18k, so I only have to use the employee contribution component.  Turbo Tax seems to do a good job on the math with the SE tax.

@Jeff B.  I am referring to the Safe Habor de Minimis for expensing certain capital improvements.  

Hey Folks,

Here is the strategy I am using.  It seems pretty complex.

My wife and I have rental properties.

My LLC, taxed as a sole prop, has a 401k with another property in it.

For the 3 rental properties my wife and I own, I can take rent/cash/flow/income from that and pay my LLC to do work on it. Then I can defer payment to myself from the LLC by contributing to the solo 401k. Thus, I can defer taxes.

I believe as long as the LLC invoices under $2500 per UOP (for example, insulating the crawl space) and the charges are market based, reasonable, and are not abusive, I can use de minimis to expense.

So rentals pay LLC with an invoice that is under $2500 per UOP, employee of LLC defers taxes by making contribution to solo 401k. Note, this LLC does not do any work on the property held by the solo 401k. Nor do I personally.

Thanks Christopher, I am not certain paying down a note is better than increasing leverage and properties. The math does get pretty complex. I do feel that there is way too much 'positive bias' toward BRRR without considering the negatives. Imagine if we were trading stocks or currency and all we did was talk about the magic and positives of margin trading, without ever talking about the negatives. Mostly, I think folks like yourself and others with experience are savvy.

For me, I have learned a bit to understand my emotional drivers. When we received our first rent check from our first rental property--which the tenant paid in cash--I put the $500 after-PITI net in my pocket and carried it around for a month, celebrating an early milestone, and contemplating what that $500 meant. Both how much money and work it took to create that, and also the power and potential to have that stream forever.

Paying off a note for the first time will be a similarly emotional event worthy of celebration, plus it will add 'guaranteed' $350 a month.  If I can add $500 per month per year (e.g., each year we add an additional cash flow of $500) for 10 years in addition to existing cash flow, I will hit my goal of $100k cash flow per year from rental properties.  This also gives me flexibility to achieve this goal through either leverage and acquisition or note pay down.  Likely, the next move will be to acquire a property and take on more leverage.  But the leverage taken on needs to support this cash flow goal.  It doesn't excite me to take on another property just to eke out a $100/mo cash flow.  So likely, I will need to put much more down than 20%, and use less leverage.  Essentially, I am looking to buy immediate cash flow

I have been considering two options: pay down mortgage or leverage up and buy more. For the last two years, I have been paying down the mortgage on the smallest note, and should have it paid off in about a month. My cash flow will improve. It will be a major milestone to have paid off one note on a rental property. Should I have BRRRd two years ago? Possibly. I certainly have less properties than I would have had it I had been aggressively BRRRing. This property that is almost paid off I bought for $90k in 2012, with the PI debt services being about $360 / month. It comps out today at about 190k. If I were to BRRR it at 75% = about 142k, the PI debt service would be about $740 at 4.75 %.

If I were to BRRR this property, I would have enough equity to buy two properties (at $190k, with $20k rehab, closing costs). However, I would lose the $742 cash flow. Would the cash flow from the two new properties cover this? In the market I am in, it is getting hard to find deals that make SFR buy and hold work, with 20% down.

One of my goals for my buy and hold strategy has been to make them pretty 'bullet proof.'  If my wife and I both lost jobs, we had an eviction, and we had to replace a sewer line and roof all in the same quarter, what kind of stress would this place on everything?  Most of the people I know who had to exit real estate during the last crash had a bunch of things happen at once, so they sold.  

Something I am realizing now is that price appreciation is not without it's down side:  taxes and insurance also go up!  This is something I didn't calculate comprehensively.  Prices doubled.  Wooo Whooo!  Two years later, taxes have doubled.  Boo Whoo.  

Lastly, there is the opportunity cost.  Let's say that in the next 5 years, there are two years where real estate prices drop 5% a year, 10% drop over two years.  If I am fully levered up before that drop, I won't have any equity to be able to refinance to take advantage of the lower prices.  There is no certainty that prices will drop, but this is still an opportunity cost.  

If my crystal ball were bulletproof, the choice would be easy. Prices are going to continue to go up 10% every year for the next 10 years? Lever up, BRRR !!! Prices going to drop? Save cash or pay down debt.

There are several things different about this real estate boom than the last one. One is rent prices. Last time, rents were flat or going down while sales prices were going up. This was a red flag. This time, rents have gone up incredibly, thus they support the sales prices. However, rents are so expensive relative to income, how much more upside is there? Additionally, there has been a boom in apartment building, but not so much for SFR. Two new characteristics of the market that for me seem to be wild cards are 1) REITS that buy and hold SFRS, and 2) Foreign (mostly Chinese) money buying properties. The capital flow has been a huge tail wind on property prices. What happens if these reverse? These SFR REITS can't make the kind of returns they made 3 years ago--property values are too high. Will they actualize their paper gains by selling some properties and thus begin to bring supply back onto the market? Will Chinese money stop or reverse?

It's seems since you have zero leverage now, you could afford to borrow a bit more.  But why multi families?  Every major city in the US is setting records when it comes to the building of luxury apartments.  Vacancies are increasing, rents flattening.  Your multi will be competing with this supply. 

Isn't BRRR about the same as OPM in the 'aughts' ?

The core to both 'is not using your own money.'.  It seemed one was considered stupid or naive in 2005 if one didn't know about or didn't want to 'max out' on OPM.

On BP this week, I have read 10 posts on the wonders of BRRR.  There are serious downsides to a 'max BRRR' strategy, and there are serious upsides.  OPM, BRRR are fundamentally leverage/margin plays.

If the future is an inflationary one, BRRR works fantastic.  A deflationary future could be ruinous.

12 years ago when people were maxing out their leverage on RE, the refrain was 'housing prices nationally have never gone down.'. We know better now.  

Here is the potential wealth destroyer:

By definition, BRRR can only really work in an environment where prices go up.  Let's say I bought a house for $90k 5 years ago and it is worth $180k today.  I take out as much equity the bank lets me, and I buy another house.  Essentially, I have just agreed to pay twice as much for the first house.  The value of having gotten in when the getting was good is gone.  The cash flow decreases on the first.  The second property is also bought at a higher price.  If you do this every year and always max out leverage, you increase the number chances that one of those years could be the start of a down year or trend of years.

Thanks Cameron.

Yes, my question is whether or not I can use the $2500 de minimise harbor for the insulation since it is under $2500