Sunday, January 27, 2013

A little background...(Part 2)

It's the Summer of 2003.  I've been looking for a test subject to begin my foray into real estate investing.  The whole concept of buying a house in need of some light renovations on the cheap and transforming the "ugly duckling" into a "beautiful swan" for a profit was intriguing.  As a result of my intense self-education and reading real estate investing books and Internet sites, I learned what now seems an obvious lesson: A good neighborhood is an important factor.  Therefore, I searched relatively desirable locations coupled with a relatively desirable houses that theoretically wouldn't sit long on the market thus increasing my carrying costs.  My turn around time was 3 months:  One month to purchase and close.  One month to renovate.  One month to sell and close on the property.

Financing and "Fixing" the project

I intended to use the HELOC on my personal residence to self-finance in order to avoid all the hassles and expenses of a real estate loan.  I had $55,100 HELOC and credit cards that I could use.  Using this method would save on appraisal, inspection, loan fees and closing costs thus reducing the amount of my initial investment by thousands.

I found a 1900 sq ft. 4 bed 2 bath 1 1/2 story VA repo in a decent neighborhood.  Since it was a VA house, I would have to bid against other RE investors.  Sure enough, while I was looking through the windows another investor showed up and looked it over.  I decided to bid 59k.   I won!  I purchased the house with cash using my HELOC and cash withdrawals from my credit card.  I invested another 7k into renovations.  Fortunately, the house was in very decent shape and needed mostly cosmetics.  It needed bathroom and kitchen counters, sinks, fixtures, ceramic bathroom floors, ceramic tiled back splashes throughout, new wood laminate kitchen & dining area, lighting fixtures, new paint in/out and new appliances, etc... The roof was in "fair" condition and I was able to clean and restore the carpets to almost new condition (remember I have a commercial cleaning company).

I didn't have time to do all the work, and that wasn't my plan anyway.  So, I interviewed 2 handymen:  Handyman #1 came to the house smelling like a brewery at 10:00 a.m.  Not going there.  Handyman #2 was knowledgeable, respectful (always "yes, Sir...etc...) and sober.  I liked him and he was hungry.  His work turned out to be affordable, of excellent quality and he was expedient.  I was fortunate to find him even though I knew it wouldn't last.  "Vick" was TOO good and would be sought after by a construction industry with a powerful vacuum for knowledgeable and talented people.

The "Flip"

The realtor who helped me transact the purchase estimated the house would sell in the high 70s to low 80s. Another realtor I interviewed put the price between $87,500 and $89,500. I started doing my homework on the comparables and used a fairly simple method to arrive at the future asking price:  I took the last 3 years of comparables and divided by the total square footage.  As a result I came up with an avg. price of between $48.00 - $52.00 per sq ft.   When I applied this standard to my house (which was bigger than most of the surrounding houses due to a garage converted to a 2nd living area), I arrived at a value of high 80s to low 90s.  The numbers worked and I proceeded to transform this homely duckling into a beautiful and desirable swan.

Everything went well and I had a lot of fun with this real estate investing "experiment".  I still had much to learn.  I was worried about the appraisal process which would ultimately make or break my deal.  Would it appraise for my asking price?

In the meantime, I had a realtor ask if I was offering a "Seller's fee" to Realtors bringing buyers in.  "Yes".  That would be worth 3% to me.  The really cool and amazing thing was that I learned that the "woman buys the house".  In other words, if she loved it, her husband will often acquiesce to the purchase.  Therefore, all other considerations aside, kitchens and bathrooms must be immaculate.  Mine were. 

The first couple that surveyed the house just had to have it.  Sold!  $89,500.  The catch:  It was a military couple and they asked me to pay ALL closing costs.  I ran the numbers and decided that my "I-just-want-to-not-lose-money" project would net me around $14k in profit.  The whole experiment took 2 1/2 months from closing on the property to arrive at an acceptable contract. The property showed so well I never even had to list it.  The experiment was a success and a real estate investor was born.

However, I decided that Fix and Flips were not to make up the bulk of my future real estate ventures.  I would become a Landlord. 

To be continued...

Saturday, January 26, 2013

It has begun...


My Pay Off My Rentals Wall Chart (The back of my 2012 desk calendar)
We're off and running!  We were able to take a special distribution from our Commercial Janitorial Business this month for $9,666.00, and as a result we've applied $9,000.00 of that to the lowest balance of our three rental houses.  The mortgage balance before that special payment was $49,123.  After applying this payment, the current balance is now $40,123.  In one fell swoop, the balance was cut down by 18.3%! 

What an invigorating and unexpected start to the new Pay Off My Rentals program.  The total balance of all rental property mortgaged has dropped to $168,650 from $177,650.

The bank did attempt to apply the additional principal payment to my regular February mortgage payment crediting a portion to interest and escrow.  However a quick phone call to customer service resolved the issue and the entire portion has been properly applied to the principal.  When making extra payments always be sure to verify that it was properly credited.  Usually a memo line or even an accompanying letter will suffice, but in this case I used my banks free online BillPay service and overlooked the memo line.

I doubt we'll be able to make too many large, one-time extra payments like this going forward.  The current combined monthly mortgage payments are $1,865.50.  We then add an additional $3,400 monthly principal payment.  Of course, the tenants take care of the first $1,865.50, but we're responsible for scraping together the $3,400 payment to principal each month.  We've certainly challenged ourselves here, and while there's no guarantee we'll be consistently successful going forward, it sure feels good to see the balance drop by such a significant percentage so soon.  I feel like a thoroughbred racehorse who got the jump coming out of the gate, but how will we fare until the finish line in 42 months???

I plan on updating the blog monthly following each mortgage payment along with the adventures that each respective month brings--for better or worse. 

Sunday, January 20, 2013

A little background...(Part 1)

I never intended to become a real estate investor.  But I got caught up in the real estate investing mania sweeping the world following the Dot Com bust of 2001.  You could say I was late to the game.  My real estate experience up to 2003 was limited--to say the least.

Around 1997 we had purchased our first home--a single-wide mobile home in California, which resided in a mobile home park. It cost us somewhere in the neighborhood of $18k and we had to put 25% down to purchase. I remember sitting in the banker's office where he stated that it was worth a good deal more. I was pleased to have some equity in something resembling real estate even if it was a generally depreciating asset. Mobile homes aren't like houses, especially if they are parked in a mobile home park where someone else owns the land they sit upon. But it was ours! We paid it off in a few short years.

Little did we realize that even in the case of mobile homes, in an escalating real estate market, ALL boats rise with the tide. We had subsequently moved to Oklahoma and decided to sell it a couple of years later.  At best, we expected to sell for somewhere around $27,000.  This was closer to the real value of our 60' long x 14' single-wide mobile home on rented land.  We were pleasantly surprised--no...shocked--when the realtor told us that the market value justified an asking price of $55,000. Within a relatively few weeks we found a buyer and settled for $52,500. Wow! That was unexpected. We ultimately added that to our savings and both cashed out our IRA's for the lifetime $10,000 penalty free withdrawal (Total $20,000.00) and subsequently bought a 3 bedroom 2 bath brick house with a nice family room including a fireplace in SW Oklahoma for 77k cash. I can tell you that it was an awesome feeling to own our house outright.

A few years later (2006), we decided to move to Costa Rica. While living in Costa Rica we sold that house for $105k just before the housing market crashed in 2007.  However, I'm getting ahead myself...

Back to the beginning of our real estate investing adventure...

With our personal residence fully owned, we easily qualified for an ING HELOC of $51,500.00 This turned out to be a useful tool for our first real estate investing venture in 2003--a "fix and flip" project.

I had done a lot of reading and though a little late to the real estate party, I decided that a "flip" house could be both fun and interesting, (if not a little scary). Having owned several small, successful janitorial businesses since high school, I had some financial acumen, but was modestly aware of my limitations. Therefore, this first investment had a very simple stated goal, "I'll be happy to just break even". I'm not a construction guy, per se, but I can do minor repairs of the handyman type fairly well. I can construct spreadsheets, and I was debt-free. These were all advantages to venturing off into the real estate investing universe.

Soooo....I bought real estate books and I read, and read and read some more. I read online, I talked with other RE investors and I looked for my first test property. vacant property.

To be continued....

Sunday, January 13, 2013

Pay off my rental real estate = Financial Independence

Welcome to my "Payoff  My Rentals" Blog!

I have been a small-time real estate investor since 2003 (Arguably right in the middle of the formation of the largest real estate bubble in the history of the world.) 

Where we are now vs. where we want to be by July, 2016 (42 months or 3 1/2 years)...

We live in SW Oklahoma and currently own our home.  Three years ago we paid $74,700.00 for a small, remodeled 2 bedroom house.  We put 20% down on a 30 yr. FRM and proceeded to pay it off in 19 months because we couldn't stomach having a mortgage on our home.

In addition to our home, we have 6 rental properties ranging in value from $105,000 down to about $20,000 for a small studio house for which we paid $10,000 cash several years ago. 

List of Real Estate Assests (Excluding personal residence):

              Property                   Approx Value                    Owing         Rents
  • House 1:  3 bed/2 bath        105,000                         57,619          850.00
  • House 2:  3 bed/2 bath          90,000                         70,908          895.00
  • House 3:  3 bed/2 bath          80,000                         49,123          850.00
  • House 4:  2 bed/1 bath          56,400                                  0          585.00
  • House 5:  2 bed/1bath           40,800                                  0          595.00
  • House 6:  Studio House        20,000                                   0          400.00 
Total owing on mortgages:       $177,650   (as of 1/13/2012)

Notes:  All mortgages are currently 15 yr. FRM's averaging 4.375% 
             (Be sure to read the latest monthly update to see how we're progressing since this initial post.) 

The Goal:  Pay them off in 3 1/2 years by adding an additional $3,400 per month toward the lowest mortgage and snowball the prepayments until the last one is paid off.  The net result will be the savings of P&I (Payment and Interest) totalling $1,476.46 per month.  When added to the current free cash flow (after subtracting Rental Management, Maintenance & Vacancy allowances) of $985.00 per month, that will give us a free cash flow of $1,476.46 + $985.00 = $2,461.46 per month.

This is our early retirement fund.  You could compare it to an inflation adjusted annuity, or to living off the dividends of a stock portfolio.  For example: A portfolio totalling $590,750 invested in dividend-paying stocks averaging 5% will throw off the same income of $2,461.00 per month or just under $30,000 p/yr.   If you choose to compare it to a portfolio with a 4% withdrawal rate, you would need the equivalent of $738,428 invested.

With frugal living and a paid off house, this is a very livable income.  It should essentially adjust with inflation as rents rise to cover expenses.  The principle (the houses themselves) is safe and untouched.   There is no drawdown or 4% rule.  The income is perpetual.

The money is safely invested in paying down the loans and the return is guaranteed at greater than 4%.  While I'm a big believer in Dividend Growth Investing, that still carries a higher degree of risk.  Therefore, my choice after much soul searching, reading and taking into consideration my personality and character, is to de-leverage while taking the >4% guaranteed return.