Personal Real Estate Investor Magazine

I went to the Phoenix Home and Garden Show yesterday and picked up a couple of copies of a magazine called Personal Real Estate Investor. The cover price is $5.95, but they were giving them away for free at the show. I must say, I was pretty impressed with it. The magazine focuses mainly on the Phoenix area and it run by people who actually a real estate investors. They have good articles about the Phoenix market and emerging growth areas, as well as buying properties for flipping and for renting. There is an emphasis on buying properties below market value. They also have fix up tips and stories. Another plus for the magazine is its advertisers. You'll find plenty of companies who will do investor loans, 100% LTV loans, property management services, 1031 exchanges, and other real estate related activities. (I found a company that will install new carpet and doesn't require payment until the property is sold - very nice for conserving cash during rehabs!) But what I think is the best feature is on the last page of each issue - their "Little Black Book." This is a list of companies that the editors recommend. The recommendations are based on personal experience - not all companies are advertisers and the editors have personal experience with all the companies listed.

The magazine's website is at www.prepmag.com. Unfortunately, there aren't articles on the site, but you can order back issues and subscribe. Their Little Black Book, however, is online. If you are interested in real estate investing in the Phoenix area, this magazine is worth a look.

Buy A Put On Your House?

The current issue of Fortune Magazine has a cover story on the real estate bubble. The article is pretty decent. It points out that there has never been a decline in the housing market without a recession. It also talks about people buying new houses and reselling them a few months later to make huge amounts of money in places like Las Vegas, San Francisco, etc. It calls these people "speculators" and I would agree. They are buying at full price and hoping the price will go up. They have been lucky so far. When the market starts to drop, these people will go away, causing a glut of housing to come on the market, depressing prices, etc. The article also mention interest rates and ARMs and how foreclosures will likely rise because so many people have bought homes they can barely afford. All in all, if you are a wise investor who buys below market value, the collapse of the bubble shouldn't be anything to worry about. Indeed, it might be something to look forward to.

But what really struck me was a sidebar piece. The magazine talked with someone, I forget who, that said they were in talks with the American Stock Exchange (AMEX) to create stocks that tracks the housing markets in various areas of the country. Then, if you think you might have overpaid for your house, you could short this stock or buy a put to gain some protection from a possible decline. Interesting concept. I'm not sure if it will get off the ground, but it's something to think about. Since something similar has been done with gold, who knows...

The article can be found online at Fortune's website.

On a related topic, a newspaper article here recently talked about how developers in the greater Phoenix area are not selling new homes to investors, only to owner occupants, because the demand is so great.

(The original version of this post referred to Forbes magazine. In fact, it is Fortune.)

Fannie Mae problems

A story about the financial troubles at Fannie Mae I mentioned in my last entry is on MSNBC. The headine is Regulator: Fannie Mae accounting flawed.

Not much to report in the area of real estate dealings right now. I might be getting another LLC together sometime soon..

What could pop the real estate bubble?

I've been thinking lately about what might pop the real estate bubble and how it would affect me. I think there are a couple things that might do it:

Another scandal like the S&L mess a decade or two ago. This is probably unlikely, although there are signs of trouble at Fannie Mae and Freddie Mac (or if not trouble, at least suspicious financials).

I don't think raising interest rates will do it. I think raising rates are inevitable and yes, there will be people who will default and perhaps an increase in the foreclosure rate. However, I don' think it will be widespread enough to make a huge difference (except to those investors that recognize it and act on it).

But I think the biggest threat is the mushrooming federal deficit, coupled with the Republican tax agenda. More tax cuts for the wealthy. More tax burden on the middle class. Increased spending. The tax code will need to be changed to support the increased spending. There are proposals out there that have been looked into by the GOP (and others) to radically overhaul the tax system - create a flat tax, a national sales tax, etc. (See this Seattle Times article for details.) What these proposals have in common is "simplification." If you examine them, you realize "simplification" means eliminating deductions. And that means no tax deduction for mortgage interest.

That will kill housing. Millions of people will no longer be able to afford their homes. The market will be flooded with houses for sale and prices will plummet.

Now, to be sure, there are many interests against these plans. However, the GOP is quite good at sneaking legislation into law through misdirection, lies, and spinning the truth. These proposals bear watching.

My next project: flipping houses

My rental sold about two weeks ago and now I'm without any investment property. I feel strangely naked. I do have other passive investments, but I just feel like I'm really at the mercy of my job without some rental property. I guess that's a good thing, since it provides an incentive to get more properties.

My next project will be flipping houses. I've set up an LLC, of which I am the manager and two other investors are the main shareholders (read money suppliers). I will be buying properties, most likely foreclosures, doing minor fix up work, and reselling them. The majority of the profits will go to the investors, but I will retain a percentage of the profits as payment for my work.

The investors are currently waiting for another house to sell in California to provide me funds to get started. It's been delayed for a couple months because the house is in Leisure World, a private retirement community, and that presents all sorts of problems. There are strict regulations about what can be fixed, who has to do the fixing, how the house can be sold, etc. It looks like those have finally been cleared up though and the house can be listed fairly soon. I hope it will sell quickly, but one of the rules of Leisure World is that you cannot put the property in the MLS, nor can you put up For Sale signs or flyers. You must list the house with their agent and they get 5.5% commission. Since it's not in the MLS, I'm not sure how quickly it will sell.

My plan is to use the funds from this venture, together with the leftover funds from the sale of my last house, to get another rental property.

Bubble or just supply vs. demand?

Yesterday, there was an article in our local newspaper about the housing market here in the Phoenix area. It says the number of used homes for sale has decreased by about 30% in the last year, which means demand is high, supply is low, and therefore, prices are rising and houses are selling fast. There are various reasons suggested for this, with the most popular being that investors are buying houses to rent and that fewer people are moving. It's amazing to read that some homes are selling within hours of being put on the MLS and that some buyers are waiving inspections and putting down $10,000 non-refundable earnest money deposits. Wow.

So is this a real estate bubble or just a case of too much demand and not enough supply? It's probably a bit of both. I do think once the market cools down, we probably won't see a seller's market like this for another 15 to 20 years, short of another major catastrophe like the S & L scandal some time ago. In times like these, it's best to stick with basics - buy for at least 25% to 30% below fair market value and make sure the property makes money when you buy it - and keep a close eye on trends. Be prepared. Remember that when the market tanks is often a very good time to snap up deals.

Is there a real estate bubble?

MisterOpus had a comment about there being a bubble in the real estate market. I'm hearing that more and more these days in the mainstream media. I think I tend to agree, but I have two thoughts on that.

First, I'm looking to get into the flipping game. For that, you buy a house, fix it up, and sell it again. The typical holding time is 2-4 months. Since it's such a short holding time, it's pretty unlikely the price will collapse enough to make a difference during that time, especially when you consider the key to flipping is to buy well below current market value.

Second, if you are buying to rent for a couple years or longer, it's even more important to remember that you must buy below current fair market value. As Robert Kiyosaki says, you make your money when you buy, not when you sell. So if you buy at 25% - 30% below fair market value, you've already got a decent cushion built in. And on top of that, you have a tenant who is paying down your mortgage.

The other comment I hear a lot is that interest rates are going up. True, that will make mortgage payments higher and thus, reduce cashflow for landlords. However, I like to look at the other side of this. It also means: 1) fewer people are going to be able to afford to buy a house. This means more potential tenants. 2) A good chunk of those people who refinanced to an adjustable rate mortgage in the last couple of years are going to end up in foreclosure because they can't afford the higher payments. Thus, more houses can be had at auction. More opportunities!

So, am I worried about a bubble? A little, in an abstract way. But the bottom line is you need to learn how to invest in all market conditions to be really successful, so a bubble is just another challenge.

California though, is a land unto its own :-) I don't own any property there, but I have invested in two companies that flip houses in the San Francisco area. They continue to do well...

P.S. Before I forget, I also wanted to mention I took the electricity and gas services out of my name on the property I just sold. I also told my insurance agent to cancel the insurance. This was just paid a month or two ago for the year, so I should get about a $300 refund from that.

Legal Entity For Real Estate Investing

A reader writes:

I love this Blog-Thanks for having it. My question is: Why did you choose an LLC? What benefits does it give you? And lastly..did you obtain financing through your LLC name or your personal name? In a round about way I am also trying to find out if an LLC protects your personal assets. Are there other options beside the LLC? Thank you, Bill

Thanks for the kind words. All financing was done in my name. I have read how it is hard to get a bank to lend to a newly established LLC. You can try to get them to do it by personally guaranteeing the loan, but I didn't want to take the time to try that. Others have had success doing that however, so it's something to try. Remember, there are lots of lenders out there, so keep looking until you find one that will work with you.

An LLC will protect your assets. As with any legal entity, you need to make sure you follow the procedures correctly - never mix personal and business funds, always keep corporate meeting minutes (even if you are the only member of your company), etc. You need to treat your LLC as if it is a legitimate business. If you go to court and it looks to the judge like your company is merely an extension of your personal finances, the "corporate shield" will be pierced and your personal assets will no longer be protected.

As for the various entities, the main choices are an LLC or an S Corporation. (A C Corporation is another choice, but those are more expensive and have more legal bookkeeping requirements.) Opinions vary on which is the best, so do some research, especially research that is specific to your state. I choose an LLC because it is easy and cheap to set up (at least in Arizona), there are no yearly reporting requirements, no yearly filing fees, and it provides protection of personal assets. The IRS also considers it a "pass-through" entity. This means that, from the IRS' point of view, it does not exist. All profits and losses carry straight through to your personal tax return.

An S Corporation, on the other hand, is a tax-paying entity, so you will get double taxation of profits - once by the corporation when it earns money and once when you receive money from the corporation in the form of a distribution. There are also more legal filing requirements with an S Corporation. An S Corporation will also provide protection of personal assets.

Other entities are limited partnerships, trusts, and some others. There are a couple books in the Rich Dad series that are probably worth reading. Look for Loopholes Of The Rich by Diane Kennedy and Own Your Own Corporation by Garrett Sutton. I have not read either, but I have read stuff by both authors and respect them.

Reader's Questions

I received this email today:

Hi, I read your post on how you did the lease purchase. I looked at your website and have a couple questions for you if you don't mind. Why did you go through a hard money lender and then turn around and refinance through a regular lender? Why not go conventional to begin with? Also, you used a realtor to find you a buyer/tenent...did you have to pay 6% commission or how did that work? I do appreciate the info on exactly how you did your deal. Very helpful for those of us just getting started. Thanks - Paula

Thanks for the kind words. I went with a hard money lender for speed. This property was purchased through a foreclosure auction and, in Arizona, if you win a property at the foreclosure auction, you have to pay for it, in full, within 24 hours. A conventional bank loan just cannot be done that fast.

As for commissions, I would have had to pay 6% commission had the tenant bought the property. However, he did not. This was the deal my Realtor and I worked out. See my post here for more on that. If you go the lease option route with a real estate agent, make sure you are very clear on what will happen if the sale does not happen. The majority of lease options do NOT result in a sale, so it is important to plan for this to avoid disputes later. Explain to the agent the benefits of a lease option to an investor and why an investor would hope for a lease option to not sell. Make the agent feel like he or she is part of your investment team.

It's done! Here are the final results

Just got a call from the escrow company and they are wiring funds to me this morning. I'll get just under $27K from this deal. Not bad!

Here are the details:

ROI for year 1: 22.1%

ROI for year 2: 30.0%

These figures are looking at my monthly cashflow only. It does not include gains from selling the property. The reason I broke it out into two years is because I refinanced after 1 year to increase my cashflow. The actual ROI figure for year 2 is lower than it really was. This is because that figure was calculated including the couple thousand I put in during the last 30 days to fix the place up for sale. If I was still renting, many of those expenses would not have occurred and if you exclude them, the year 2 ROI jumps to 37.9%!

And finally...

The overall, 2 year ROI for this property, including the gain from selling it: a whopping 271.8%!!