All Forum Posts by: Eric Fernwood

Hello @Suneet Dewan,

To keep this post at a (somewhat) reasonable length, I will be brief on each topic. Post if you or anyone has questions.

Location Selection

The most important investment decision you will make is the location. The location determines all the long-term income characteristics, which is critical because financial freedom is a long-term proposition.

Financial freedom goes beyond merely replacing your current income; it entails maintaining your current lifestyle for life. To achieve lifelong financial freedom, you need a passive income that fulfills two requirements:

• Rents must keep pace with or exceed inflation: Inflation consistently erodes the purchasing power of a fixed amount of money.
• Persistent: Your rental income must last a long time, ensuring that you do not outlive your income.

What are the consequences of buying in a city where rental rates do not outpace inflation? An example will illustrate the consequence.

Suppose you purchase a property with an initial cash flow of $1,000 per month. The rent growth rate is 2%, and the inflation rate is 5%. In five and ten years, what will be the buying power adjusted for inflation? I will use the following formula to calculate the future rent at 5 and 10 years.

Calculating:

• Five years: $1,000 x (1 + 2%)^5 / (1 + 5%)^5 ≈ $865
• Ten years: $1,000 x (1 + 2%)^10 / (1 + 5%)^10 ≈ $748

So, in five years, $1,000 will be worth the same as $865 today. In ten years, it will be worth the same as $748 today.

The takeaway is that no matter how many properties you own in a city where rents do not outpace inflation, sooner or later you will be forced to get a job to supplement your declining rental income buying power.

How do you select the city?

An Elimination Process

You cannot evaluate every city in the US practically. So, I recommend using an elimination process. Start with cities with a sufficient population, and evaluate each city against additional criteria. If a city fails to meet any of the criteria, remove it from the list.

✅ Sufficient population: cities with a metro population greater than 1M. Small towns may rely too much on a single business or market segment. Wikipedia

✅ Significant and sustained population growth: Never invest in any location with a static or declining population. Wikipedia

✅ Low crime rate: Never invest in any city on Neighborhood Scout’s 100 most dangerous cities list.

✅ Low operating costs: Good indicators of a pro-business climate include:

• Property taxes: State Property Tax Rates - Rocket Mortgage.
• State average insurance cost: Insurance - ValuePenguin
• State income taxes: Tax Foundation

✅ Low risk of a natural disaster: The cost of homeowners insurance is the best indicator of the likelihood of a natural disaster in an area. Choose a location with low-cost homeowners insurance because they have the lowest risk of natural: Insurance - ValuePenguin

Reliable Income

The goal of real estate investing is a reliable income. This can only happen if the property is consistently occupied by a reliable tenant. A reliable tenant is someone who:

• Has stable employment in a market segment that is stable and likely to improve over time
• Pays all the rent on schedule
• Takes care of the property
• Does not cause problems with neighbors
• Does not engage in illegal activities while on the property
• Stays for many years

Over the years you will own the property, you will need multiple reliable tenants. To increase your chances of always having a reliable tenant, purchase a property that attracts a tenant segment with a high concentration of reliable tenants.

How do you find a tenant segment with a high concentration of reliable tenants? By interviewing multiple property managers. If anyone would like sample interview questions, DM me.

How to Attract a Specific Tenant Segment

All people who rent are not homogeneous. There are many segments and each segment has different behavioral characteristics and different housing requirements. People will only rent a property that meets all their housing requirements. Therefore, if you purchase a property that matches a specific segment's housing requirements, you can expect most applicants to come from that segment.

How do you determine the housing requirements of a segment?

When you identify a tenant segment with a high concentration of reliable tenants, you also learn what and where they are currently renting. Based on the properties they are currently renting, you can define the four components of a property profile.

• Location - The locations where significant percentages of the target segment are renting today.
• Property type - What type(s) of properties are they renting today? Condo, high rise, multi-family, single family?
• Rent range - What the segment is willing and able to pay.
• Configuration - Two bedrooms, three-car garage, large back yard, single-story, two stories?

Once you have a property profile, you can give it to any realtor, and they can find conforming properties. This process eliminates all the guesswork.

In summary, the process for finding properties that will provide a reliable income is as follows:

1. Identify a tenant segment with a high concentration of reliable tenants through property manager interviews
2. Create a property profile based on where and what the target segment is currently renting.
3. Provide the property profile to a realtor who will find conforming properties
4. Evaluate each property based on the additional considerations

Suneet, I hope this helps. Reach out if you have questions.

…Eric

Hello @Sabah Shah,

A little background: In 2004, I lived in NYC and decided to change professions and create a real estate investor services business based on data science and processes. I knew New Jersey and New York were not good investment locations due to high direct and indirect operating costs and other factors.

I started by reading all the popular investment books and found that they primarily contained opinions from self-proclaimed experts rather than processes. As an engineer, I put little value in opinions.

I turned to commercial real estate practices. In particular, I focused on how companies choose locations for their retail stores and repurposed these methods to fit my requirements. I also changed my overall approach. Evaluating every city and selecting the best would be difficult and time-consuming. Instead, I decided to use a process of elimination based on the criteria necessary to achieve financial freedom.

Financial Freedom

Financial freedom goes beyond simply replacing your current income; it requires maintaining your current lifestyle for the rest of your life. To attain lifelong financial freedom, you need a passive income that meets three requirements:

• Rents must outpace inflation.
• Persistent: You will not outlive the income.
• Dependable: The rental comes every month, even during bad economic times.

Rents outpacing inflation and income persistence depend on the city where you invest. Income dependability is determined by the tenants who occupy your property.

Rents Must Outpace Inflation

Prices and rents are driven by the imbalance between buyers and sellers. Prices go up if more people want to buy than sell. When there are more sellers than buyers, prices go down.

Rental rates follow prices. When prices are high, demand for rental properties increases because fewer people can afford to buy, so rents rise. When prices are low, more people can buy, so demand for rental properties decreases, and rents fall.

The imbalance between buyers and sellers is caused by population change. Property prices will be low in cities with stagnant or declining populations. Low prices indicate limited demand over a prolonged period of time. Rents also follow this trend, so they will increase slowly. On the other hand, higher prices indicate a prolonged period of more buyers than sellers. If the population increases rapidly enough, prices and rents will outpace inflation. So, we have one of the city selection criteria.

✅ Significant and sustained population growth. Wikipedia

Income Persistence

Income persistence depends on your tenants remaining employed at similar wages for as long as you own the property. However, all non-government jobs are short-lived.

The average lifespan of a company is about 10 years. Even S&P 500 companies only have an average lifespan of about 18 years. Every non-government job your tenants have today will vanish in the foreseeable future. Income persistence is more about about future jobs than current jobs.

The only way for there to be future replacement jobs is if new companies are moving into the city and creating replacement jobs. What conditions are necessary to attract new companies? Based on my commercial real estate research:

✅ Economic stability. This requires a metro population >1M. Smaller cities tend to be dependent on a single company or market sector. Wikipedia

✅ Low operating costs: Property taxes and insurance are investors' most significant recurring costs. Insurance - ValuePenguin, State Property Tax Rates - Rocket Mortgage. See the overhead comparison below.

✅ Low crime rate: Companies do not set up new locations in cities with high crime rates. Do not invest in any city on Neighborhood Scouts’ list of the 100 most dangerous US cities.

✅ Low risk of a natural disaster. The best indicator I found is the relative cost of homeowner's insurance. Where insurance costs are low, there is a reduced probability of a natural disaster. Do not invest in cities with high homeowner insurance rates. Insurance - ValuePenguin

✅ Pro-business environment. Google search.

✅ No rent control of any kind. Rent control is a strong indicator of an intrusive government. Google search.

I listed the criteria below in the order I would use them.

• Population >1M: Wikipedia
• Significant and sustained population growth. Wikipedia
• Low crime rate: Neighborhood Scouts list the 100 most dangerous US cities.
• Low risk of a natural disaster: Insurance - ValuePenguin
• Low operating costs: Insurance - ValuePenguin, State Property Tax Rates - Rocket Mortgage.
• No rent control of any kind. Google search.
• Pro-business environment. Google search.

Overhead Costs

Overhead costs are available at the state level, which is a good first pass. Getting to the city/property level is more complex, and I will not cover that in this post. To demonstrate the process, I will compare the overhead costs of Texas, Florida, Arkansas, and Nevada. The sources for this information are Insurance - ValuePenguin, State Property Tax Rates - Rocket Mortgage.

The main recurring costs for investors are insurance and property taxes. I won't include state income taxes in this comparison because they only apply to the rental income after expenses, which will be relatively small.

I will calculate the state's average annual overhead cost for a $400,000 investment property to put these overhead costs into perspective.

• Arkansas: $1,531 + $400,000 x 0.62% ≈ $4,011
• Texas: $2,536 + $400,000 x 1.80% ≈ $9,736
• Florida: $2,207 + $400,000 x 0.89% ≈ $5,767
• Nevada: $1,144 + $400,000 x 0.60% ≈ $3,544

Every dollar you lose to overhead is less for you to live on.

What Property Type?

The type that will bring you dependable income, good times or bad.

The only way to have a dependable income is if your property is continuously occupied by a dependable tenant. A dependable tenant stays many years, pays the rent on schedule, and cares for the property. Dependable tenants are the exception, not the norm. Also, you will need multiple dependable tenants over the years you will own the property.

The way to increase the odds of always having a dependable tenant is to buy properties that attract a tenant segment with a high concentration of dependable people. Once you identify this segment, determine what and where they rent today and buy similar properties. This method is similar to how a retail store chooses its location. I found my "customer," the segment with a high concentration of dependable tenants, and identified the segment's housing requirements and bought similar properties.

Each tenant segment has specific housing requirements and is unlikely to rent any property that does not match all their requirements. Based on what they currently rent, I created a property profile. Below are the basic components and descriptions of each.

• Location - The locations where significant percentages of the target segment are renting today.
• Property type - What type of properties are they renting today? Condo, high rise, multi-family, single family?
• Rent range - What the segment is willing and able to pay.
• Configuration - Two bedrooms, three-car garage, large back yard, single-story, two stories?

Once you have a property profile, you can give it to any realtor, and they can find conforming properties.

How to analyze a property is another topic that I can explain if anyone is interested.

Recapping

City selection: Choosing an investment city based on analytics is not practical. There are too many cities. A better approach is to define your financial goals and determine the criteria necessary to meet these goals. Start with a list of cities that match one of the criteria and eliminate cities that fail any additional criteria.

Property selection: The goal is not to buy a specific type of property; the goal is financial freedom, which requires a dependable tenant. Find a tenant segment with a high concentration of dependable people and buy properties similar to what and where they rent today.

Hello Kiersten,

The goal of real estate investing is not to own a specific property type. The goal is to have a property that consistently generates a reliable income. This can only happen if the property is consistently occupied by a reliable tenant. A reliable tenant is someone who:

• Has stable employment in a market segment that is stable and likely to improve over time
• Pays all the rent on schedule
• Takes care of the property
• Does not cause problems with neighbors
• Does not engage in illegal activities while on the property
• Stays for many years

And, over the years you will own the property, you will need multiple reliable tenants. To increase your chances of always having a reliable tenant, purchase a property that attracts a tenant segment with a high concentration of reliable tenants.

How do you find a tenant segment with a high concentration of reliable tenants? By interviewing multiple property managers. If you or anyone would like sample interview questions, DM me.

Attracting a Specific Tenant Segment

All people who rent are not homogeneous. There are many segments and each segment has different behavioral characteristics and different housing requirements. People will only rent a property that meets all their housing requirements. Therefore, if you purchase a property that matches a specific segment's housing requirements, you can expect most applicants to come from that segment.

How do you determine the housing requirements of a segment?

When you identified a tenant segment with a high concentration of reliable tenants, you also learned what and where they are currently renting. You can then define the four components of a property profile.

• Location - The locations where significant percentages of the target segment are renting today.
• Property type - What are the type(s) of properties are they renting today? Condo, high rise, multi-family, single family?
• Rent range - What the segment is willing and able to pay.
• Configuration - Two bedrooms, three-car garage, large back yard, single-story, two stories?

Once you have a property profile, you can give it to any realtor and they can find conforming properties. However, there are additional considerations for any property under consideration:

• Time to rent
• Renovation Cost & Risk
• Initial ROI and cash flow
• Purchase Price
• Maintenance Cost
• Acceptable area rental restrictions

Summary

If you follow the process of:

1. Identify a tenant segment with a high concentration of reliable tenants through property manager interviews
2. Create a property profile based on where and what the target segment is currently renting.
3. Provide the property profile to a realtor who will find conforming properties
4. Evaluate each property based on the additional considerations

You eliminate all guessing and your odds of buying a performing property are high.

Kiersten, I hope this helps.

…Eric

It’s October and time for another Las Vegas update. For a more in-depth view of the Las Vegas investment market, DM me for a link to our blog site which contains more information on investing in general, analytics, and investing in Las Vegas in particular.

Before proceeding, note that the charts only include properties that fit the following criteria, unless stated otherwise.

• Type: Single-family
• Configuration: 1,000 SF to 3,000 SF, 2+ bedrooms, 2+ baths, 2+ garages, minimum lot size is 3,000 SF.
• Price range: $320,000 to $475,000
• Location: All zip codes marked in green below have one or more of our client’s investment properties.

Regarding the overall Las Vegas real estate market inventory:

The chart below, provided by the MLS, includes all property types and price ranges. As of today, the inventory is at 2.5 months. In Las Vegas, a balanced market is characterized by six months of inventory, where the number of sellers is roughly equal to the number of buyers. We are in a seller's market.

Rental Market Trends

The charts below are only relevant to the property profile that we target.

Rentals - Median $/SF by Month

YoY is up 2.6%, though rents dropped slightly in September compared to August, conforming to pre-Covid seasonal trends.

Rentals - Availability by Month

The number of homes for rent continued the downward trend.

Rentals - Median Time to Rent

Median time to rent maintained at ~20 days, indicating steady demand.

Rentals - Months of Supply

Only about 1 month of supply for our target rental property profile. Demand is greater than supply.

We saw a similar tight supply in sales as well. Now only about 1 month of supply. This will continue to pressure up the prices.

Sales - Months of Supply

Sales - Median $/SF by Month

Despite increasing interest rates, $/SF is climbing up. YoY is now up 2%. Compared to January 2023, September prices are up 9.5%.

Why invest in Las Vegas?

In short, to achieve financial freedom. However, financial freedom is not simply replacing your current income; it requires maintaining your current lifestyle for life. To attain lifelong financial freedom, you need a city where rents and appreciation outpace inflation.

What causes rents (and prices) to increase?

Supply & Demand

Unlike financial markets, real estate prices and rents are driven by supply and demand. In this post, I will briefly discuss the unique supply and demand situation in Las Vegas.

Supply

Las Vegas is unique in that it is a tiny island of privately owned land in an ocean of federal land. See the 2020 aerial view below.

Very little undeveloped private land is left in the Las Vegas Valley, and desirable areas cost more than $1 million per acre. Consequently, new homes in these locations start at $550,000. Homes that appeal to our target tenant segment range from $320,000 to $475,000, so the supply of housing we target remains almost the same regardless of how many new homes are built.

Demand

The driver for housing demand is population growth.

The average Las Vegas annual population growth is between 2% and 3%. What is bringing people to Las Vegas are jobs. At the spring job fair, there were over 20,000 open positions. The annual average wage was $65,000, which is our target tenant segment.

Las Vegas has $30 billion in new developments either under construction or planned. This will create thousands of additional jobs, bringing more people to the city and increasing housing demand.

In Conclusion

With a fixed supply of properties in the range of $320,000 to $475,000, a rapidly growing population, and a growing number of jobs, it is almost certain that rents and prices will increase in the foreseeable future.

Thanks for reading my post. Reach out if you have questions or would like to discuss investing in Las Vegas.

Hello @Carly Peterman,

Flipping can be a great way to make or lose money. It all depends on selling the renovated property at the expected price, within the expected time frame, completing the renovation on time and on budget, and buying the property at the right price.

In this post, I will cover some considerations for profitable flipping and demonstrate how to calculate the maximum price you can pay.

Profit/Loss Considerations

I often come across posts about how profitable flipping can be. However, I personally see flipping success as being similar to gambling in Las Vegas. You rarely hear about someone losing everything in Las Vegas. Instead, you only hear about the people who made money. I believe the same principle applies to flipping. Individuals without experience are almost certain to lose money.

Some important considerations.

• Renovation cost: You want to spend the least amount of money necessary to bring the property to the condition of similar properties that recently sold. For example, if recent sales had vinyl flooring in the kitchen, that is what you should install. Installing tile may make the property sell faster, but it is unlikely to increase the sale price significantly. If similar properties have tile and you install vinyl, the property may take longer to sell and could sell for less than those with tile. Therefore, do your research and be aware of what is considered market-ready for the price range and location you are considering. The basic process for determining what to renovate is illustrated below.

• Realistic sale price: People often overestimate the value of their property. The value of a property is determined by what someone is willing to pay for it, which is based on the competition (or lack of it). Don't be overly optimistic; be realistic. An accurate sale price is critical.
• Getting work done: We've renovated more than 500 properties, and finding reliable tradespeople has been a struggle. Initially, we used licensed contractors, but they were expensive and the quality of work was often subpar. On top of that, they rarely adhered to the timeline agreed upon in the contract. Fortunately, we found a handyman of great integrity and helped him build his own handyman business. We still use licensed contractors when necessary, but the handyman's team does most of the renovation work for about a third of the cost, and with excellent quality.
• Project manager: We have a dedicated team member who manages all renovations. She visits sites every other day and records a progress video for the client. She has had years of training and verifies that the work is done correctly. Without an experienced manager, the project would cost more, take longer, and the quality would be lower.
• Time frames: Every day you keep the property costs money. You need to estimate how long each step of the process will take, including the time it takes to sell. Be realistic and expect some delays.
• Renovation risk: Renovation items such as foundation issues, mold, water damage, termites, etc., can make it difficult to determine the actual cost until you own the property and address the problem. It is important to be mindful of renovation risks.

Maximum You Can Pay

Below is the basic formula for determining the maximum price you can pay:

• Maximum Purchase Price < Sale Price - Closing Cost - Renovation Cost - Project Management Cost - Hold Period x Monthly Hold Cost - Cost to Sell - Profit - Pad

Below is an example showing how you would determine the maximum price you can pay for a property.

Cost/price components :

• Sales price and time: You’ve determined you can sell the property when it is in market-ready condition for $200,000. Also, it will take 3 months to go under contract and it will take one month to close. So, the hold period for selling the property is 4 months. I will assume that the cost of sales is 6%. So, 6% x $200,000 = $12,000.
• Renovation cost and time: You’ve done the necessary research and are confident that the renovation will cost less than $50,000 and will require less than 3 months.
• Project Management Cost: You found a person who will manage the renovation, schedule all work, go onsite every other day, and send progress videos for $5,000.
• Profit: Profit is also an expense. I will assume a profit goal of 10%. So, 10% x $200,000 = $20,000.
• Cost pad: There are always surprises, so you need to include a pad. The amount of the pad depends on the odds of significant additional costs. For example, if the renovation consists of well-defined costs like carpet, paint, appliances, and light fixtures, the pad can be small. If the renovation includes foundation issues, mold, water damage, etc., you need a larger pad. I will assume a $5,000 pad.
• Time pad: In the real world, little goes according to schedule. I will add a 1-month pad to cover unexpected delays.

Next, collect the costs and hold times.

If the probable sale price after renovation is $200,000 and the costs, not including carrying costs, are $94,000, I will assume that the maximum purchase price must be less than $100,000 for estimating carrying costs.

Carrying Cost

Many flip properties are not financeable so I will assume the property was purchased with cash so there is no monthly debt service. And, I will assume the closing costs on a cash purchase were $2,000.

We can now estimate the monthly hold cost:

• Taxes: $1,400/Yr or $117/Mo
• Insurance: $800/Yr or $67/Mo.
• Utilities: $200/Mo
• HOA: $25/Mo
• Total: $409/Mo.

I estimated 8 months total hold time so my carrying cost is 8 x $409 ≈ $3,272.

Updating the cost list:

Based on our assumptions, we now know the maximum price we can pay for the property: $200,000 - $97,272 = $102,728. If you pay any more, you are likely to lose money.

Summary

Take the time to thoroughly understand the property, the renovation required, and the resources you'll need before making an offer. Do not assume that bidding low guarantees profitability. Some properties may cost more to renovate than their post-renovation market value.

When evaluating potential investment properties, it is crucial to have an accurate estimate of the rent that the property is likely to generate. Rentometer and other online sites (Zillow, Redfin, etc.) are not accurate enough for evaluating specific properties. In this post, I will explain why and show you how to obtain the accuracy you require.

How Online Sites Estimate Rent

Online sites like Rentometer and Zillow calculate the average rent per square foot ($/SF) for a specific area based on the number of bedrooms. When you enter the address of a property and the number of bedrooms and baths, Rentometer calculates the rent by multiplying the average area $/SF by the square footage of the subject property.

For example, if the average $/SF for 3-bedroom homes in an area is $1.10/SF, and the subject property has an area of 1,500 SF, then the estimated rent would be:

• 1,500 SF x $1.10/SF = $1,650/Mo

The problem is that Rentometer, et. al., does not take into account the specifics of a property.

Property Specific Examples

Proximity to nuisances - Property A, which is located next to Interstate 15, will have a lower rental price compared to Property B, even if the physical attributes of the properties are the same. This is because of the noise generated by I15.

Property condition - Would you expect this property to rent for the same amount as a similar property in good condition?

Age - These two properties have similar sizes and the same number of beds and baths. Would they have the same rent?

I could continue but I believe you see some of the problems with a site like Rentometer for estimating rent.

Rentometer vs. Actual

As an example of the problem of Rentometer data, I looked up four recently rented properties on the MLS and compared the Rentometer prediction to the actual rental rate. As you can see below, the information provided by Rentometer is nowhere near the actual rent.

To show what a difference the broad range of Rentometer predictions has on return calculations, I used Rentometer to estimate the rent for another property. Rentometer provided a rent range of $1,852 to $2,258, which is a very wide range.

Below is the cash flow for this property based on the low, median, and high Rentometer rent projections.

Depending on the Rentometer rent estimate you choose, you will either incur a loss of $94 per month or make a profit of $312 per month. Would you be willing to purchase a property with this sort of information? I would not.

What is the most effective method to determine the rental rate for a property? Experienced property managers.

How Property Managers Estimate Rent

Property managers do not solely rely on recent similar rentals when estimating rent. Instead, they base rent estimates on the current competition. For example, if similar properties were leased for $2,300/Mo, but there are multiple comparable properties currently available for rent between $1,950/Mo and $2,000/Mo, then it is likely that the property will rent for around $2,000/Mo. Past data is not that relevant when it comes to rental rates. Tools like Rentometer only use past data for making rental estimates.

Important rent considerations:

• The current competition compared to the condition of your property is what determines the monthly rent, not prior rentals.
• Your competition is not necessarily the property down the street. It could also be a property located across town, as illustrated below. Prospective tenants who work in the "main job area" consider all properties in acceptable areas with similar commute times.

• Property specifics matter. For example, what if you decided to paint the interior dark green, which is largely unacceptable to the tenant segment normally attracted to your property? You could probably only rent it if you decreased the rent sufficiently below market.

Rentometer, like all online sites, provides only an estimated rent for an "average" property. However, every property is unique, and the actual rent for a specific property depends on various subjective factors, which online rent estimate sites cannot consider.

Summary

Rentometer does not provide the level of rent accuracy required for making investment decisions. The most dependable source for accurate rent information is an experienced property manager. Despite having delivered over 480 investment properties, we always seek the opinion of a property manager for each property before considering it.

Hello Thuy,

Thank you and @Andrew Romano for your kind remarks. When I began investing in real estate many years ago, I made numerous mistakes. However, I was fortunate enough to receive help from others, and now I aim to repay their kindness by assisting others on their own journeys.

Data science and the study of demographics formed the foundation of our investor services business. The software and processes we have today are the result of many years of mistakes. One of the most important lessons I learned from my mistakes is that correctly interpreting raw data for real-world applications is very difficult. The combination of incomplete and unnormalized data, unpredictable human behaviors, and the necessity to make assumptions based on insufficient information makes accurate predictions challenging. An example may help.

Suppose your job is to determine whether Country A or Country B is the more desirable place to live for the citizens of the two countries. Assume every type of data you could want is available for both countries. The problem is that you will have to make assumptions about the data concerning what is desirable to the people of countries A and B. The odds of getting this right with only data are low. However, there is another way.

Suppose you stationed observers on the border between the two countries and they keep count for an extended period of time which way people were moving. If significantly more people moved from country A to Country B, you know that in the eyes of the people of these countries, Country B is more desirable. This is the advantage of observations over raw data.

Another example. When I moved to Las Vegas in 2005 to start an investor services business, I wanted to find a tenant segment with a high concentration of reliable tenants. These tenants stay many years, pay rent on schedule, and take care of the property. Despite spending over a month analyzing data, I couldn't draw any useful conclusions and eventually gave up on this approach.

I downloaded approximately 10 years of MLS rental data and analyzed historical tenant behaviors. I discovered several subdivisions where the average tenant stay was longer than five years and ran correlations between them.

From the rental rates of these properties, I estimated the tenants' income range. I then used this range to determine the types of jobs they held. I found that those at the lower end of the income range largely relied on tourism-related employment, so I raised the lower threshold. I also noticed a decrease in tenant tenure for properties with rent at the upper end of the income range, so I lowered the upper threshold. This research enabled me to identify the tenant segment we have been targeting for 15+ years with great success.

Thuy, based on my experience, I recommend focusing on observations and indicators as opposed to raw data. Raw data, although abundant, is challenging to use for drawing reliable conclusions.

I wish you success,

…Eric

Hello Tammy,

The old adage applies, “Live where you like but invest where you can make money.” Just because you would like to retire in the Chattanooga area, does not mean that Chattanooga is where you should invest today. Chattanooga may not have the characteristics necessary for financial freedom.

Financial freedom is more than replacing your current income; it requires maintaining your current lifestyle for life. To attain lifelong financial freedom, you need a passive income that meets two requirements:

• Rents must outpace inflation: Inflation consistently erodes the purchasing power of a fixed amount of money. For instance, if the inflation rate is 5%, what you can buy today for $100 will cost $155 in 10 years. If rents fail to pace with the cost of living, your financial independence will be short-lived.
• Persistent: Your rental income must last a long time, ensuring that you do not outlive your income.

The conditions necessary for rent to outpace inflation and last a long time:

• Cities with metro populations of over one million are usually less dependent on a single market sector or major employer compared to those with smaller populations. This leads to greater economic stability. Wikipedia
• Significant and sustained population growth. Wikipedia
• Low crime rate - Never invest in any city on Neighborhood Scout’s 100 most dangerous cities list.
• Low risk of a natural disaster - Homeowners insurance rates are a good indicator of the potential for a natural disaster to occur. The higher the rate, the higher the probability of a natural disaster. Never invest in cities with high-cost homeowners insurance. Insurance - ValuePenguin
• Low operating costs - The two most significant operating costs are typically property taxes and insurance.
  • Property tax rates: State Property Tax Rates - Rocket Mortgage
  • Insurance rates: Insurance - ValuePenguin
• No rent control of any kind: Google search
• Pro-business legislative environment: Google search

So, if Chattanooga does not meet these goals, I recommend investing in a city that does. And, as you approach retirement, you may consider using a 1031 exchange to purchase a rental property in Chattanooga. Later on, you can convert it into a residence.

One other criterion I would have for an investment location is an experienced local investment team. The problem is that everything you learn from podcasts, books, seminars, and websites is general knowledge. But you will buy a specific property, in a specific location, subject to local rules and regulations. The only source for the local knowledge you need is an investment team. If you are unable to find a competent local team, look in another city.

Working with an investment team usually does not cost more. For instance, we have delivered over 480 properties and charged our clients a fee on only four or five of them, and only in exceptional circumstances. In all other cases, the fees were paid by the listing agent of the seller, not by our client. Also, by working with an investment team, you also receive real-world investment training at no cost to you.

If you would like info on what to look for in an investment realtor or a PM, DM me.

…Eric

Hello @Anthony Freeman,

We have completed over eighty 1031 exchanges to date, and our largest number of replacement properties in one exchange was five. It was a bit of a scramble, but it worked. In this post, I will discuss some potential pitfalls that can result in you losing your tax deferment.

Before I continue…

The exchange process is illustrated below:

The 45-Day Identification Period

The 45-day replacement property identification period starts when the relinquished property closes. Identifying the replacement properties is the first potential pitfall.

Although you are only required to identify replacement properties during the 45-day window, you may lose your tax deferment if you are unable to or choose not to close on them. This could occur if you are outbid or if a serious issue is identified during the due diligence process, making it not worthwhile to complete the purchase.

Our Process

Our goal is to put replacement properties under contract immediately after all contingencies are complete on the relinquished property. We then aim to close on the replacement properties as soon as possible after the relinquished property closes. Typically, cash purchases close about two weeks after the relinquished property, while financed purchases close four weeks later. The steps are illustrated below.

By utilizing this method, if something does not pan out with one or more of the replacement properties, we still have ample time to locate, put under contract, and validate (due diligence) another property within the 45-day identification period.

Movement of Funds

A regular question I receive is if a 1031 exchange agent is required. The simple answer is yes. If the funds touch your accounts, you lose your tax deferment.

Below is an illustration of the flow of funds during a 1031 exchange. The funds must move from the closing escrow agent to the 1031 exchange agent. When you close on the replacement property, the funds go from the 1031 exchange agent to the escrow company handling the closing. The funds must never be in your hands, or the 1031 exchange may be void.

Other Potential Pitfalls

• You are not allowed to use the proceeds from the relinquished property to pay for renovations. Some of our clients have opted to pay capital gains tax on a portion of the proceeds and use that money for the renovation.
• Not all purchase contracts include the 1031 exchange language. Make sure to have your listing agent obtain the correct language from your exchange agent for your state. The agent should include it in the agent-to-agent remarks, specifying that the 1031 text must be included in offers. If this does not happen, you can counteroffer specifying the required 1031 language.
• To fully defer the capital gains tax, you must reinvest all the proceeds from the sale into the replacement property. Any cash or other non-like-kind property received during the exchange will be subject to capital gains tax.
• To accurately determine the cost of the replacement property for tax purposes, it is important not to make any assumptions. Instead, obtain the required replacement cost from a 1031 exchange agent. We once had a client who assumed that their replacement property had to cost $300,000 or more, only to discover through the exchange agent that they actually had to spend over $500,000. There is no room for error in this process, so it is crucial to work closely with an exchange agent. If anyone would like a referral to a good 1031 exchange agent, DM me. We can provide you with the contact information for three exchange agents who are known for being easy to work with and highly knowledgeable.
• If there is an existing mortgage debt on the relinquished property, it's important to consider how it will be handled during the exchange. Any reduction in debt or cash received may be treated as taxable boot, resulting in potential tax liabilities. Do not assume, ask your 1031 exchange agent.
• Qualified Use Requirement - Both the relinquished and replacement properties must meet the requirement of being held for investment or used in a trade or business. Personal residences or properties primarily held for personal use do not qualify for a 1031 exchange.
• State Tax Considerations - While 1031 exchange tax deferments are allowed under federal tax law, not all states conform to these rules. It's crucial to understand the state-specific regulations regarding like-kind exchanges, as some states may not recognize or fully conform to the federal provisions. Consult with a tax professional familiar with your state's laws.
• The Biden Administration's proposed FY 2024 budget includes the creation of “capped deferral” for 1031 exchanges. In this proposed change to 1031 exchange laws, taxpayers in FY2024 would only be able to defer capital gains up to an aggregated amount of $500,000 for each taxpayer ($1 million for joint filers). Source. If you are considering a 1031 Exchange, 2023 may be the last year to do it.

Hope this helps,

…Eric

Hello @Travis Horstman,

What you should do depends on future rent and price growth in the city where your homes are located.

For most people, the goal of real estate investing is financial freedom. However, financial freedom goes beyond simply replacing your current income; it requires maintaining your current lifestyle for life. To attain lifelong financial freedom, you need a passive income that meets two requirements:

• Rents must keep pace with inflation: Inflation consistently erodes the purchasing power of a fixed amount of money. For instance, if the inflation rate is 5%, what you can buy today for $100 will cost $155 in 10 years. If rents fail to pace with the cost of living, your financial independence will be short-lived.
• Persistent: Your rental income must last a long time, ensuring that you do not outlive your income.

What are the requirements that a city must meet in order to likely achieve financial freedom?

• A metro population >1M. Smaller cities tend to be dependent on a single company or market sector.
• Significant and sustained population growth causes increasing demand for housing. When there are significantly more buyers than sellers, rents and prices tend to rise, enabling them to outpace inflation.
• Low crime rate - Never invest in any city on Neighborhood Scout’s 100 most dangerous cities list.
• Low risk of a natural disaster - Disasters like tornadoes can completely decimate communities. Those affected will relocate to a place where they can live and work today. Once settled, there is no incentive to return to the rebuilt community. This means that even if your insurance company rebuilds your property, there may not be anyone available to rent it. However, you will still be responsible for paying your mortgage, taxes, insurance, and utilities. A good way to gauge the risk of natural disasters in a particular community is by considering the cost of homeowners insurance. It is advisable to avoid purchasing property in cities with high insurance rates. Insurance - ValuePenguin
• No rent control of any kind: Google search
• Pro-business legislative environment: Google search

What if your city does not meet these criteria? In this case, you may have a unique option available. If you have owned and used your home as your primary residence for at least two out of the past five years, you may qualify to exclude up to $250,000 of the gain from your income, or up to $500,000 if filing a joint return with your spouse. This presents a special opportunity to use the net proceeds to purchase a property in a city that meets the requirements for financial freedom.

So, it comes down to the following:

• If your city meets the requirements for financial freedom, converting the properties to rentals is an excellent idea.
• If your city does not meet the requirements for financial freedom, you may have the option to sell your properties without having to pay capital gains tax. With the proceeds from the sale, you can purchase a rental property in a city that meets the requirements for financial freedom.

Travis, I hope this helps,

…Eric