Value is an extremely subjective term. The “worth” of something to one person could be nothing, while another might consider that same thing to be very valuable or useful. Our goal when dealing with a property seller would be to determine what holds the highest value to them, and what their ULTIMATE goal is when selling a home or property.

Ultimate is emphasized here for a reason. That’s because most people would say their goal when selling a property is to get it sold for the highest price possible. In reality there is almost always at least one thing other than price that is more important (holds more value) to the seller.

Consider an example of someone who inherited a home with a lot of deferred maintenance that’s in a great location. They’ve been living in the home with their now deceased relative while they took care of them full time. So they have no income and no assets to speak of other than this house. With about a $50,000 budget the house could be renovated to sell for $400,000. It’s possible to sell the home in it’s current condition for around $300,000 but it would probably take a while, and this person can just barely afford the utilities, upkeep, taxes, and insurance on this old drafty house. So carrying costs are a real issue. To get it sold quickly in as is condition you’d be selling at about $250,000 and netting out roughly $220,000.

Is the sales price their primary concern? If selling the home using traditional means was their only option what is the likely outcome? My guess is that they would have to fire sell the house to get it sold immediately because they simply cannot afford to “float it” while they work on getting the best price. But what is their ultimate goal here? I’d say ultimately they’re most concerned about being able to live somewhat comfortably while they figure out the next steps of getting a job, home, and getting to a new normal. If you could offer to trade them a smaller house in a less desirable part of town that was turn key move in ready and worth about $100,000 do you think that would be valuable to them? How concerned would they be about the comparative value of the two homes? What if you could not only trade them homes but also offer them your 5 year old Toyota that’s in great shape and you were considering trading in on a new car this year anyway? In addition to these you could also offer to provide them with $1500 per month for the next 2 years. The cost of these things for you would be your basis in the house, the trade value of your used car, and the time value of the $1500 cash flow for 2 years. I’d argue it’s probably far less than the $220,000 that they would receive by selling the home outright, but it requires no effort, no decision making, and a sense of security that they’re receiving a home, transportation, and monthly income for long enough to get their living situation stabilized. Uncertainty can be extremely stressful, and there is substantial value in helping people avoid that uncertainty.

That is just one example of how deals don’t just come down to dollars and cents. Develop rapport, have a genuine interest in helping people, and find out what concerns they have or what problems they’re trying to solve by selling the property in question. If you can skip the money and go directly to solving the problem the price won’t matter as much to them, and that becomes a win-win.

If there’s one question that I hear more than any other, it’s how much money do I need? I’ll attempt to answer that question in this article.  There are several factors that might affect how much you’ll need, or potentially how much you’d want to invest in private lending or passive investing.

What’s your preferred strategy?

You might not have a preference yet, but ask yourself whether you are happy to forego the potentially bigger win for steady and more certain returns?  If you prefer the riskier strategy with the largest potential upside passive investing is your way to go.  If you prefer to play it safe and have a more certain and known return then lending is probably the way you should go.

If you’re a passive investor it’s unlikely you’ll be able to invest if you’re wanting to place less than $20,000.  It’s very common for operators to have minimum investments set at $50,000 or $100,000.  My typical minimum is $25-50,000 depending on the deal, but I may make an exception down as low as $10,000 for an investor that has the capability to invest on a larger scale but doesn’t want to jump in with both feet on our first deal together (which is totally understandable).  So if the minimum is set higher than your comfort level make sure to have a conversation with the operator about a smaller initial investment.

What’s your investment horizon?

How long are you willing to tie up your capital?  First thing I would say about this is that operators don’t typically offer much flexibility when it comes to the return of your capital, so in reality when you get your money back likely has more to do with market conditions and the other investor’s preferences than it does with your wants or needs.  Unless there is a specified and guaranteed timeline to the investment I would make sure you’re not investing money you’ll need back at a particular time.  Even if a guaranteed timeline is provided I’d recommend some “wiggle room” in your timing in case things don’t go exactly to plan.

Usually debt investments have a more specific timeline, but that’s not necessarily always the case.  Super short term loans, transactional, or bridge capital usually comes with a higher interest rate, but also generally requires a larger amount.  It would be unusual to be able to place $25,000 in a situation like this unless you’re loaning someone a down payment, which would make you second position and a very risky loan.

For longer term private loans some operators may be willing to accept multiple smaller loans to get to the total amount they need.  The additional effort required to do this generally translates into lower interest rates for the lenders, but it will still be much better than what you would get from your savings account!

There is not much of a correlation between investment amount and timeline for passive investments.  In a typical deal with passive investors there will be multiple investors, some investing the minimum and some investing many multiples of the minimum, and all will receive their investment capital back at the same time.

How much is too much?

This is a great question and one that every investor should ask themselves before investing in anything or lending any money.  Most of the time the answer to this question is based on a multitude of factors including stage of life, income sources and stability, net worth, financial obligations and available liquid capital.

For example, a retired person with only social security income and $100,000 in the bank should not invest the entire $100,000, however a person in their 20s with no kids, no debt, and very low living expenses with a steady and stable salary of $75,000 per year is probably safe to invest the entirety of their liquid capital.  What makes the difference?  

Social security will not provide enough income to live off of, especially if there are major unexpected expenses or a need to help out a loved one.  So in that case the retired person probably would want to retain at least $50,000 in case of emergency.  However the person in their 20s has very little in the way of financial obligations, and with a significant and stable earned income stream there is not much reason to retain a large amount of available capital in the bank.

In other words you need to consider your entire financial picture, and make sure you’re accounting for potential expenses that might pop up in the future.  A good rule of thumb is that you never want to invest more than 5% of your net worth in any single investment.  If you’re a real risk taker you might could up that to 10%.  If you are young (plenty of time to bounce back) with no real financial obligations, a low but growing net worth and a decent income you could roll the dice with 50% of your net worth on a single investment, but I’ve never been much of a gambler and I wouldn’t recommend it!  

Passive investing is a great way to get stable, predictable, and in many cases superior returns on your savings or retirement funds. Passive investing could be any number of things, but for this article I’ll be speaking about passively investing into real estate deals.  There are operators all over the country, like myself, that seek out opportunities to buy properties of all kinds (single family houses, apartments, self storage, industrial, vacant land, etc) at prices that will allow them to generate a great rate of return.  In an effort to take advantage of the economies of scale these operators will offer partnerships with individuals and businesses looking to make a return on their investment with relatively low risk. If there are lots of investors involved these investments are called “syndicated” investments.  You can think of it as being similar to crowdfunding.

These partnerships could be for debt (private lending) or equity (partial ownership).  In either case the investor would not be involved in the day to day operations or the decision making processes.  That’s what makes these investments “passive”.  In some instances investors that have put up the “lion’s share” of the investment will definitely have more input with the operator, and/or may have different reporting requirements.  This should be discussed in detail BEFORE you enter into the investment as some operators may not be amenable to investor involvement regardless of investment size.  

Structure

Debt investments are typically fairly straightforward.  There is an agreed interest rate, length of time, amortization, and payment schedule.  Equity investments are a bit more complicated though.  In most syndications there are at least 2 different classes of stock, in some cases there may be more, especially if there is a wide range of investment amounts by the different investors.  The most common classes would be the passive investor (limited partner), and the operator (general partner).  The operator typically gets 10-20% of the stock/ownership as compensation for assembling and operating the deal.  In most cases this operator stock receives no dividends or payments of any kind until the passive investors have been paid back in full.  If there is a preferred return in the investment agreement the operator wouldn’t receive any money for their stock until the passive investors receive their entire investment PLUS the preferred return (usually an annual percentage ROI).

Requirements to Invest

Almost all investments from reputable operators will involve some sort of minimum investment.  Beware of any operators willing to take any amount of money as an investment.  It’s unlikely you’d ever see that money (or any return on it) ever again.

If there are multiple investors involved (a syndication) the investment is likely subject to the SEC securities regulations.  There are several exemptions from these regulations that allow an operator to not have to register an investment with the SEC. This is good for you as the investor because compliance and registration is EXTREMELY expensive, and usually a deal would have to be $50 million+ to make it make sense to spend that much on attorneys and transaction costs.

The most common exemption used would require that all investors be what the SEC  calls “accredited investors”.  Currently the SEC defines an accredited investor as someone who has a net worth in excess of $1mm excluding their primary residence, or they have an annual in excess of $200,000 individually or $300,000 combined with spouse.  Most up to date information here

If the investment is not being syndicated, meaning there is only one passive investor, or all investors are actively involved somehow, these regulations/requirements would not apply.

Timeframes, Investment Exit, and Liquidity

Timeframes for these types of investments can be all over the place.  I tend to prefer investments that provide consistent VERY long term cash flow.  I’m what is referred to as a yield seeking investor.  So long as my investors are happy with the returns they are receiving I tend to prefer to hold the investments and enjoy the cash flow. I do occasionally also do “value add” deals which would require some construction work, and usually generates a higher ROI than a stabilized investment.  Regardless of what the origination of the investment was, if a buyer comes along with favorable terms and there are other opportunities in the market to reinvest the capital then I will do what maximizes the long term return for all investors involved.

Many operators are shorter term investors/speculators.  With this strategy there is some kind of conversion involved (renovations, construction, etc) and that of course will take time.  In addition to the time for conversion more time will be needed for the property to stabilize and reflect the post-conversion operating income and expenses because income producing properties are valued by the income they produce (more income = higher appraisal).  So logically speaking the minimum time frame would be Conversion time (months or years) + stabilization time (6 months+).  But sometimes a buyer comes along and makes an offer that “can’t be refused”.  If the returns are excellent and it shortens the timeline for all investors the operator may accept this offer.  This is not a common situation, and should definitely not be expected.  Total timeframe for a short term investment would be 18 months to 10 years, where the bulk of these shorter term investments are completed in 5-6 years.

How Do I Get Started in Passive Investing?

If you’re interested in getting more specific information or see what options might be available to you feel free to email me at kevin@kevindmay.com or call/text my cell at 318-218-0123. I have a steady stream of on and off market deals, too many to take advantage of with my own available capital, so I’m always looking for private lenders and/or partners so that we can take advantage of the best deals that come our way.

What is private lending?

Private lending is an excellent way to generate an excellent return on money that might otherwise be sitting in a bank account making little to no return. In this article I’ll explain the advantages and disadvantages of private lending and what the common strategies are.

In it’s simplest form private lending is just one individual lending money to another individual or company.  In effect the private lender is just “being the bank”.  All of my private lending activies revolve around the purchase of investment real estate (rental properties, apartment buildings, etc) so that is what I’ll be discussing in this article.

What are the advantages of private lending?

The ideal private lending situation is one where both sides (the lender and the borrower) win.  The lender wins by getting an excellent return on investment much higher than they would otherwise.  This return is consistent and predictable and secured by real estate through a mortgage.  The borrower wins by getting better rate, terms, or both than they would from the bank.  This can help to take an investment from zero or negative cash flow to a positive cash flow, or reduce the amount of out of pocket expense for the borrower.  In some cases the borrower may not be able to qualify for a bank loan, or the fees, expenses, and requirements of a bank loan may not make sense (typically very short term loans).  The borrower also wins because a private loan can be completed much faster than a bank loan.

One of the biggest advantages for both parties is the flexibility of private lending as an investment tool.  The terms of the loan can be just about anything that the two parties agree on.  The terms include the interest rate, payback schedule, payback amount, amortization schedule, balloon payments (if any), transferability, payback penalities, and the list goes on.

What interest rate can I expect?

Interest rates will vary depending on a multitude of factors.  Currently the market interest rate for bank loans on investment properties is in the 7-9% range.  Private lenders could expect a minimum interest rate of 5%, and depending on the time requirement and other terms could expect as high as 15%.  Typically an interest rate at a level that high would be for very short term deals (1-90 days), or very risky deals.  If a borrower is offering a high interest rate (12-15%) and you can’t immediately figure out why it’s priced at that level it’s likely that it’s very risky and probably not a good investment for you as a lender.

To provide some examples we offer interest rates to our private lenders that range from 4% up to 12%.  Most deals fall in the 7-8% range, which would be for a first position mortgage, 80% or less loan to property value, prepayment penalties in the first 3 years (you get a higher return if we refinance or liquidate the property within the first 3 years of the mortgage), monthly interest only payments, and the loan can be called due with 60 days notice once the loan has been in place for 5 years (but there is no requirement to call it unless you want to).  On this loan the interest payment would be no more than 66% of the expected cash flow.

A 4% loan would be extremely low risk, with first position mortgage, very high prepayment penalties, 50% or less loan to value, and monthly payment would be no more than 40% of expected cash flow.

Conversely a 12% loan is typically shorter in term (3 months to 3 years) with no prepayment penalty, and a longer (9-12 months) period to call the loan due.

What are the disadvantages of private lending?

From the lenders perspective the biggest disadvantage would be the risk of default.  It’s important to only lend money to reputable people with significant experience doing real estate deals similar to the one you’re lending them money to do.  It’s also important to have enough of an understanding of the project they’re undertaking to have a feeling if it makes sense or not.  If you aren’t certain that it’s a good idea you should either reconsider lending them money, or at the very lease make sure the terms account for the risk of the unknown.

Another disadvantage includes the fact that it takes time to get your principal back if you want or need it back.  It’s best to loan money that is earmarked for retirement or long term investments because of this.

Interest rate risk is another concern, although you should be lending at a rate that is high enough to offset this for the most part.  The interest rate on these private loans are usually fixed (but they can be set as a floating rate) so if interest rates go up you won’t be able to take advantage of higher rates.  However typically rates would have to go up a lot for CDs or savings accounts to provide the same interest rate as a typical private loan.

What Else Should I Keep in Mind when Lending?

The biggest thing to keep in mind is to protect yourself as much as possible.  Make sure you understand exactly what the money will be used for and the terms of the loan.  Make sure you understand when you should be receiving money and how and when to get your principle back.  Make sure the property is insured and you’re listed as the lien holder of record with the correct mailing address for you.  Get a copy of the dec page DIRECTLY from the insurance agent.  Check the reputation of the borrower, and it wouldn’t hurt to get a copy of their credit report.  

How do I get started in private lending?

If you’re interested in getting more specific information or see what options might be available to you feel free to email me at kevin@kevindmay.com or call/text my cell at 318-218-0123.  I have a steady stream of on and off market deals, too many to take advantage of with my own available capital, so I’m always looking for private lenders and/or partners so that we can take advantage of the best deals that come our way. 

The average American probably thinks of a greedy “fat cat” when they envision a capitalist or business person. In reality, the most successful people in business know that their reputation is the most valuable thing they own, and negotiations involve much more than dollars and cents. Some of the best deals I’ve gotten have involved exchanging non monetary things that held very little value to me for better pricing. That’s what I call a “win win” and that’s what I’m referring to when I say creating value for sellers.

Value is a very interesting concept. Most people think about price when they think about value, but the fact is that a $50,000 car that will go 200,000 miles holds much more value than a $1000 car that probably won’t make it to it’s next oil change without breaking down. Even though the first car is MUCH more expensive it’s longevity and reliability provide much more value than the cheaper car. In some cases like the cars you can come up with a calculation to document the value (price/expected mileage remaining), in other cases the value is much more subjective and there’s not a good way to calculate it to make apples to apples comparisions.

In the case of real estate investors there is almost no limit to the ways you can generate value. Some examples include offering time in the property after the closing, coordinating with and/or paying for moving companies, accepting a home in an encumbered state (liens, clouded title, etc) to alleviate that burden from the seller, handling evictions of problem tenants, a super fast and/or easy transaction, exchanging a property for another that is more suitable for sellers preferences or needs, and many many more.

When you’re dealing with a property seller your focus should be on identifying what their goals are and how you can help them get there. If you can develop a rapport with the seller so they let their guard down enough to really communicate honestly about their wants and needs you’ll be in a much better position to achieve the desired “win-win”. For many sellers the selling price is not really the most important thing to them, even in cases that they think it is.

Consider an example of a person that is selling a house and is planning to use the proceeds to buy a car. He knows the exact car, options, and color that he wants. He’s talked to the dealership and made his best deal, and that deal price is the bottom dollar he’s willing to accept. If you have connections at a dealership, or are willing to call around to other dealerships you might be able to shave off a few thousand dollars on the price of the exact same car that the seller wants, and that means he can sell you the house for a few thousand dollars less and still accomplish his same goal of buying the perfect car. Most of the time it doesn’t even take this much effort or skill. The most common exchanges involve reducing or eliminating headaches (like moving expenses, packing boxes, or rushing to get moved).

Get to know your seller, spend the time to build the rapport. Find out what is most important to them and stay focused on how to gain that for them. It may not always be possible, but in most instances their goals are very attainable with a little effort and creativity.

All too often people, including real estate investors, try to oversimplify the real estate investing process. The truth is it’s complicated, but that doesn’t mean it has to be difficult. It’s important to understand the details and the “why” of it all. Without that foundation of understanding you’ll be operating with an awful lot of blind spots, and that’s not an advantageous place to be! One blind spot I see a lot is people who get too focused on one property type or another. Alternatively there are also those who don’t get focused enough on a property type to really become an expert in it. The biggest profits tend to come from finding a niche that you enjoy and is profitable and maximizing your production within that niche.

This blog article is intended to help you narrow down the list to some property types that might work well for you to focus on. I’m not saying that a little diversification isn’t a good thing, because it is. What I am saying is that investing in too many different property types will prevent you from becoming an expert on any one, and that *most likely* will prevent you from the bulk of the best profit generating opportunities.

There are a LOT of different property types. Within those types there are subcategories that define them even further. Each property type has it’s advantages and disadvantages, and your situation and capacities may guide you to one or more property types. Starting with the broadest division, most property types fall into either residential, commercial, industrial, or agricultural. However these divisions are SO broad that it become difficult to discuss them effectively at this level. In general terms residential is somewhere people live, commercial is places of business, industrial is where something is manufactured, and agricultural is where something is grown. Not really informative huh? Let’s dive a bit deeper.

Investing in Residential Properties

Residential is one of my favorites for several reasons:

• Everyone needs a place to live
• The barriers to entry are low
• Financing is abundant
• It’s easy to understand

There are more reasons to like residential than just these, but these are my highlights. Residential properties come in many different categories. These would include single family detached houses, single family attached, small multifamily (duplexes, etc) large multifamily (apartment complexes) condos, co-ops, conversions, STR, etc. I’m sure I’m missing one or more, but these are the primary ones. I like single family houses because they rent quickly and tenants tend to stay for long periods of time, however larger (5+ units) multifamily come with the advantage of income and expense stability, scale, and appraised values based on income rather than comps. In general a well managed residential unit should maintain an occupancy of 90% or more over longer periods (3+ years) of time. These investments can be made starting at around $1000 for tax title properties and go up to many millions of dollars for apartment complexes. Expected ROI is generally in the 0-15% range depending on location, market, price, and condition. Management of residential real estate can be done by professional property managers usually for a % of the rent revenue, or you can manage yourself. Time requirements are relatively low especially while units are occupied if you’re doing it right. Most people could manage 10 units somewhat effectively while working a full time job, however a good property manager will pay their own fee by minimizing vacancy and maximizing rents.

Investing in Commercial Properties

Commercial properties come in far more categories than residential. Most of the categories have subcategories, and some of the subcategories might have subcategories too. Commercial real estate is anything but specific. Examples include retail, office, hospitality, medical, parking, warehouse, and the list goes on. For subcategories, retail could be a stand alone building, strip mall, enclosed mall, kiosk, vending machine, or restaurant. Office would include high rise office space, stand alone, boutique, and co-op shared working spaces. I think you get the idea. I hear “commercial is the only way to invest in real estate” a lot, and I can say there are some advantages. The main one I think of is that commercial tenants are much less headache than a typical residential tenant, and the laws aren’t as restrictive with commercial tenants. Your lease can specify that a commercial tenant is responsible for their own repairs, and even the taxes and insurance too. The flexibility in commercial leases is nearly endless. Additionally when a commercial tenant leases a building it’s usually for the long term, so vacancy can be few and far between. The flip side of that is that when it does become vacant it can stay vacant for very long periods of time. In situations where the needs of typical tenants have shifted it may require substantial investment to make a vacant unit rentable again. For instance recently we’ve seen where larger commercial spaces are nearly unrentable, so they either need to be subdivided, or that’s not possible just rented at a significantly lower price per square foot to make it comparable in price to units much smaller. I like to say that commercial investing is a rich mans game, because the carrying costs can cripple an average investor during long periods of vacancy. Purchase prices for decent income producing commercial real estate generallly starts at $500,000, and can go into the hundreds of millions of dollars for a large retail development. ROI is all over the place depending on a multitude of factors. Typically returns are much lower than residential because you’re competing with larger investors that have lower ROI requirements. For purchases over $1,000,000 it’s extremely unusual to generate an ROI over 8% in the first few years. Management can be done by commercial property manager or self management often is very doable if you have a good understanding of the fundamentals and processes. Since commercial tenants usually require less collection, maintenance, etc time requirements for occupied units are usually much less than residential. Most people could manage 15-20 units of commercial while working full time, however the intricacies of commercial real estate make self management unadvisable for sure.

Investing in other types of Real Estate

The other popular types of real estate to invest in include self storage, parking lots, warehouses, hotels, industrial buildings or parks, medical offices, trailer or rv parks, assisted living facilities, timber land, and recreational land. Some of these typically don’t cash flow (timber and rec land stands out for sure) over the short term, and are really more of speculative investments. Some, like self storage, and trailer parks have attracted a lot of attention lately because of low maintenance and high potential returns. This has driven prices up on these assets to a point where most don’t make much sense as an investment, but if you find one at a reasonable price they can be excellent money makers. Medical offices are something that many overlook but can be an excellent option. Medical practices tend to keep the same location for many years, and most of the time handle their own maintenance and repairs. Hotels and assisted living can be incredibly successful, but are among the highest cost to operate and manage. Parking requires very little to manage, but the returns on investment tend to be low.

Other Considerations in Determining Types of Real Estate to Invest In

Total return on investment for any investment is not just in dollars and cents. Your total investment also includes whatever time you’ll need to dedicate to the management of that investment. Some require very little management (like stocks, bonds, savings accounts) others may require a huge amount of management (hotels, self managed apartments and other residential units). Because the combination of capital and time invested makes up your total investment, the investments that require the least time to manage often have the lowest financial returns. Getting creative with systems, technology, employees, or contractors can help eliminate some time requirements and help make higher financial return investments more passive in nature. All in all it’s important to consider all factors involved, as well as your long term goals, to determine what your best option is to invest in.

The old adage of location, location, location still rings true in most areas of real estate. However location isn’t the only thing that matters and it doesn’t necessarily guarantee your success or failure. There are too many factors involved to try to simplify that much.

Selecting the right market to invest in depends heavily on what your goals are. Are you looking for long term cash flow, rent appreciation, price appreciation, future redevelopment opportunities, or something else altogether? Answering that question will help to narrow down your focus for what market, and even a submarket to invest in. There are 3 main market types, primary, secondary, and tertiary. Then each market will have it’s own submarkets (downtown, suburbs, etc).

Primary markets are the largest MSAs in the country. These are cities with 5mm+ in population, very solid long standing fundamentals, and typically very high density. For example Los Angeles, New York, Chicago, Dallas, Atlanta. These markets generally have high demand for properties, therefore high prices. On average the residents are more afluent compared to smaller markets, and the more this is the case the less likely it will be to find properties that generate cash flow since high net worth investors don’t necessarily need cash flow (or even debt) to make their investments work. With the exception of the lowest income submarkets you should expect your investment returns to come in the form of appreciation and principle paydown rather than cash flow since the monthly cash flow tends to be negative, and in some cases the income is significantly less than the debt service. Redevelopment opportunities are sometimes the only way to make an investment make any sense in these markets.

Secondary markets are the medium sized MSAs that still have strong fundamentals. They are typically 1-5mm in population and slightly less dense than primary markets. Examples of secondary markets would include Denver, Las Vegas, Portland, Minneapolis, Cleveland, etc. These markets will still have higher property values, but the ratio of income to cost will be much better than in the primary markets. There is typically less competition for deals (although still plenty of competition) and the submarket will determine whether your property is likely to cash flow or not. Appreciation will still be present, but much less so than in primary markets. Secondary markets tend to be hit the hardest in economic downturns because they tend to have less extremely high net worth investors operating in the area that maintain their operations regardless of the economic climate. Core submarkets in secondary markets are likely candidates for redevelopment opportunities, either immediately or in the long term.

Tertiary markets are the rest of the country. There isn’t really anything specific that determines whether a city is a secondary or tertiary market, but often they are less than 1mm in population, and are more spread out than a typical primary or secondary market. Examples include Omaha, Nashville, Charleston, Baton Rouge, Jacksonville, etc. These are the markets that are easiest to find cash flow. The purchase prices are lower and the income to price ratio is even better than secondary markets. These markets tend not to attract as many institutional or large scale investors because of the lack of scale in available projects. For these reasons appreciation is definitely less prevalent than would be expected in larger markets. Another factor for investments is the availability of raw land in the suburb areas, and also often times in the city core as well. This allows for very cost effective new construction projects since redevelopment is not necessary. The flip side to this is that redevelopment is rarely a long term option since the market tends to gravitate towards “sprawl” due to lower land costs in the suburban areas. Often times tertiary markets are most stable in economically volatile times, and sometimes even have an inverse relationship to the national economy because they can benefit from the migration away from primary markets when times are tough.

Living and investing in Shreveport, LA I can speak to the benefits of investing in tertiary markets. There is a low barrier to entry, lots of opportunities, and fantastic cash flow. The flip side is that my properties have barely appreciated in value in the last 10+ years, although the rent has increased somewhat. As my scale increases I definitely see the appeal and benefits of larger projects in larger markets, and I do expect to explore those options further in the near future.

Your goals and aspirations are really what determine what market is best for you. You have to balance risk, cash flow, and appreciation. Risks tend to be higher in primary markets since the prices are higher. However tertiary markets are often less economically diverse than larger markets and carry the risk of a major employer shutting down which affects rent prices and property values. Cash flow can be achieved in any market with enough time and ability to carry the negative cash flow, in some cases for many years. There is typically some element of appreciation in all markets, just because of the natural inflation of the economy, but if a town in shrinking in population the values can drop rather quickly. I hope this has been helpful and as always feel free to reach out to me with any questions you might have!

If you’ve been researching investing in real estate I’m sure you’ve heard a lot about cash flow. The reason it’s talked about so often is that cash flow is the #1 most important factor in your success. This is a brief article intended to provide an overview of the high points related to cash flow and a method for forecasting cash flow for a potential new purchase.

There are a few stages in a real estate investment that have different cash flow characteristics. These include the purchase (one time typically negative cash flow), conversion (planning, construction, renovation, marketing, etc), stabilization, and redevelopment.

Purchase seems like an obvious one, but it can be more complicated than many people give it credit for. Depending on your financing choices this could be a positive or negative cash flow. I’ve closed on lots of properties and received a check either because the bank was financing the purchase and renovation, or just because the loan was larger than the purchase price.

Conversion is almost always a negative cash flow period, but can be neutral or even positive if it’s a multifamily property that was purchased occupied and your plan is to renovate units as they come available. It’s extremely important that you plan conservatively for the time the conversion will take, otherwise you might run out of cash due to carrying costs before the project is finished.

Stabilization should be the part where the cash flow really shines. There are a few markets across the country where cash flow is nearly impossible to generate in the short term, but typically in those markets the asset and rents are both appreciating at respectable rates, so the plan would be to hold it long enough for it to start cash flowing. I don’t recommend this approach for anyone other than the most financially stable investors, because it’s largely speculation rather than investment. An ideal real estate investment will have a clearly predictable cash flow (on the average) that generates a return on your investment.

Redevelopment occurs when a property is updated/renovated, converted to a different use, or even knocked down and rebuilt as something else. The highest and best use for a piece of property can change over time, and the objective in redevelopment is to reinvest into a property to boost the returns beyond what is possible in it’s current format.

To forecast your cash flows you’ll need to determine what your carrying costs, marginal tenant costs, and vacancy costs are. Carrying costs are your fixed costs or what you’ll have to pay whether the property is occupied or not. Examples of carrying costs include mortgage principal and interest, taxes, insurance, possibly utilities. Marginal tenants costs are things like management fees, repairs/maintenance, possibly a utility bill like water, etc. These are things that either only exist when a property is occupied, or increase when a property is occupied. Vacancy costs are things like make ready costs, marketing, and vacancy utilities that are only necessary when a property is vacant.

The first part of calculating your cash flow is determining your total out of pocket costs to get the property to the point where it is stabilized. This is calculated by combining your down payment, renovation costs, and carrying costs during renovation period. Always increase your expected carrying timeframe by at least 30% because these projects almost always take longer than they should. Also remember to include one month for marketing after renovation is complete.

Once you have all costs calculated you can forecast your annual stabilized cash flow by multiplying expected monthly rent x11 (one month for vacancy, which should be fairly conservative with the right pricing and marketing) and subtracting 12 months worth of carrying costs, 11 months worth of marginal tenant costs, and 1 month worth of vacancy costs. (These numbers can be adjusted if you’d like to be more conservative, but I don’t recommend being less conservative than this).

How much cash flow do I need to be targeting? That’s a great question. My current rule of thumb is that I want to generate an annual cash on cash (include down payment and out of pocket for conversion as well) return of at least 5% on class A properties, 7.5% on class B, and 10%+ on class C or below. If there are substantial renovations required prior to being able to rent out a property those required returns would increase. There are much more sophisticated ways to calculate these cash flows based on time value of money. I would highly recommend further analysis on any projects with major construction or renovations required, especially if you’re borrowing money to finance the project.

I hope this has been useful information for you. If there is anything I can explain further I’d be happy to. Don’t hesitate to reach out at kevin@kevindmay.com.

Money money money. It can’t buy happiness, but it can buy real estate, which when done right can help you reduce your stress, and your work hours, and hopefully lead to a better quality of life. That’s the end goal, and for some of us with high aspirations it can take a lot of real estate to support our desired lifestyle. That is why this lesson is SO important.

You make your money when you buy. That means that you need to get the purchase right, either in purchase price, or terms, or both. If you don’t buy right you’re starting off at a disadvantage, either because your cash flow won’t be sufficient, or you won’t be able to liquidate in the future when necessary or advantageous, or simply because it won’t generate a good return on investment.

There are two main factors to consider when purchasing a property, the price, and the terms. Depending on what your long term plan is (rental income, flip, appreciation, redevelopment, etc) is what really determines which one is more important. The best terms in the world don’t help you much if you’re paying a high purchase price and your plan is to flip it as quickly as possible. Conversely a super low sales price for a property with a clouded title and requires a cash purchase with no financing leverage possible likely won’t make a great option for a long term hold for a rental property, because leveraging financing is usually where a substantial portion of your ROI comes from in a rental.

If your long term plan is not very long term, meaning that you’re planning to hold this property for a few months to a few years it’s likely that the lowest possible purchase price will be the biggest contributor to your success, since every dollar saved in the purchase turns into a dollar made at the sale. For that reason I’ll focus on long term holds and rental income for the remainder of this article.

For long term holds, terms can be more important than price, but only if you’re CERTAIN of the minimum hold time. I’ve seen far too many investors buy in too high and justify it by saying they are planning to hold for 20+ years and the purchase price won’t matter much by then. They would have been right too if the property generated sufficient cash flow to allow them to be able to keep it for the 20+ years they originally planned. Unfortunately in cases of low or negative cash flow that plan seems to change and then they’re forced to deal with the reality that they paid too much.

The reason terms can be more important than price is that cash flow is the MOST IMPORTANT factor in the success of your rental properties. If a property isn’t cash flowing it’s (at the very least) limiting the number of investments you can make. You can turn a bad purchase price into a great deal for rentals by negotiating owner financing with zero down, 2% interest and 40 year amortization, or better yet interest only for ten years and then 40 year amortization after that. If a property isn’t paid off you might be able to purchase the property subject to the existing mortgage, which might have better terms than would be offered for a typical rental property purchase. In other instances sellers that are stuck on a sales price might be willing to do a seller carry 2nd mortgage, which is similar to owner financing, but reduces your out of pocket costs (sometimes to zero) and with really great terms on the seller carry 2nd (think 0% interest and 30 year terms as a goal) you can turn a high purchase price into an excellent investment with little to no money down, and your bank is still happy because they are in first position.

To summarize, think ahead as far as you can see, consider what your plans are now, and how they might change if something changes in your life (employment, marriage, children, relocation, etc). If things look clear you can lean on the option of great terms, if you aren’t certain you’ll probably want to stick with the best purchase price possible to be safe. But no matter what you do make absolutely certain the property is going to generate a healthy cash flow for you consistently, so that you are in the best position for the long term.

I’ve compiled a list of steps to succeeding in real estate investing. This article is intended to deliver information on what I believe is the first steps in being successful in real estate investment, which are learning and taking action.

Learning is probably the easiest part of the entire process. There is no shortage of information, instruction, and data available to anyone, much of it is even free. Honestly the biggest problem for most people is that there is too much information available! The steps I lay out in the future will probably help to narrow down your search for information, but for now I’ll just say you can learn a lot by reading books. I “read” 70-100 audio books per year just by having them playing when I’m driving or flying instead of listening to music. It’s amazing how much information you can absorb by doing this. If funds are an issue and you need a zero cost learning strategy then podcasts and blogs are probably your best bet.

Alternate ways of learning about real estate investing include finding a mentor (hint: find a way to generate value for them), taking a job at a private equity or property management company, asking friends or family that are already investing in real estate how you can help them and create value for them (hint: come with ideas of what you might could do, like free physical labor or cleaning houses for free). You can also “birddog” for investors in your area, and use that as a way to network with them. Building those relationships can be incredibly valuable.

I’ll do my best to provide book recommendations in these blogs. For a beginner I’m not sure there is a better book than Rich Dad Poor Dad by Robert Kiyosaki. It does a great job of covering the basics and the abundance attitude that you need to be really successful in this business.

Don’t get caught in the learning trap. There are literally hundreds of thousands or millions of people out there that are constantly planning but never starting. Some suffer from analysis paralysis, others are convinced they just need more information to feel comfortable enough to do their first deal. As is true with most things in life, you’ll learn more by doing than by reading or taking classes when it comes to real estate.

With that said, there’s lots of things you shouldn’t do. Don’t do a huge deal for your first deal, don’t wait for the absolute steal of a deal, don’t speculate (it’s really just gambling), don’t take any more risk than is absolutely necessary, don’t take on a deal that will destroy you or your partners/financiers financially if it doesn’t work out, and don’t partner with people or lenders without a clearly written operating agreement and separation agreement.

I hope this information is helpful. My plan is to do a series of these blogs that touch on a subject matter, then come back to do deeper dives in written and video form. Send me your feedback at kevin@kevindmay.com with subject “Blog Feedback”. Thanks!