The Big Picture and Long-Term Wealth

Remember: planning is necessary for success. According to Robert Schuller, “Yard by yard, life is too hard; but inch by inch, it’s a cinch.” And baseball great Yogi Berra seconds the idea: “If you don’t know where you’re going, you could end up somewhere else.”

Seldom do I begin a chapter with poetry. However, I think it’s partic­ularly appropriate here, since we’ll be discussing a treetop view of invest­ing and landlording. It’s good to step back and add up the score every now and then, for the purpose of self-examination. Are we investing according to our plan? Do we even have a plan? If so, are we working the plan on schedule?

Don’t Get Bogged Down with Routine Stuff
It’s very easy to inadvertently allow yourself to get bogged down with the daily routine and completely lose sight of your investment goals. I’ve said this many times: you’ll never get to where you’d like to be without a good plan or without the means and skills necessary to make your plan work. Making lots of money in real estate is deliberate. It’s not an accident and it certainly has very little to do with luck.

Most folks in the real estate business, including me, have no trouble whatsoever with visions and dreams. It’s easy to picture myself with an overflowing bank account, driving a high-priced sports car and living in a million-dollar mansion. But there’s an awfully long stretch between my dreams and reality.

The Home Field Advantage

It is not realistic for start-out or part-time investors to waste their time, thoughts, and energies figuring out how to buy properties in some distant location, far from where they live. I could offer you at least 10 convincing arguments why you shouldn’t do this, but we’re talking about the “big pic­ture” here, so I’ll sum them up by saying one thing—you lose the home field advantage.

That’s far too much to give away, in my judgment. People who deter­mine the gambling odds in football know from experience that the home team has a three-point advantage because they’re playing on their own turf. The advantage comes from the local fans and familiarity with the playing field. There’s really not much difference in the real estate invest­ment game. Why in the world would you ever want to bet against the odds?

The Wall Street Journal Dream

Reading newspaper ads can be fun and enlightening. We all do it and it’s likely we’ll all end up with about the same results. I must confess that I enjoy reading Friday’s Wall Street Journal special real estate section. I love ads that say, “5 times gross in the Ozarks, $7,000 per unit in Houston, Far below the replacement cost in San Francisco.” These are exciting ads to us real estate junkies. Reading national papers makes it easy to stay “high.” Why? Because it’s like reading about Fantasy Island—faraway places always make for sweeter dreams.

Over the years, I’ve made some hefty profits with my real estate proj­ects. However, looking back, I can’t think of a single time when reading national real estate articles has helped me financially.

World of Investing: Find a Mentor

Most folks who follow my teachings and investment strategies see me as a very practical person; I think I’ve learned to separate my dreams from the real world stuff that earns money. I also learned a valuable lesson years ago, that it pays big dividends to find a good mentor early on in your investment career. You can save yourself a lot of time and effort—especial-ly efforts that are taking you in the wrong direction.

Obviously, you should thoroughly check out a potential mentor before settling on him or her. Find someone who is successful at doing what you want to do and then learn everything you can from that person. You’ll end up light years ahead if you copy successful people. Don’t worry: there’s still plenty of wide-open territory for individuality and creativity. In fact, there’s no end to learning, when it comes to real estate investing. That’s the reason it’s so exciting.
There are basically two ways to learn landlording—and neither one is fun. You can learn it from your tenants or learn it from people like me. I always recommend a combination of on-the-job training (with real live tenants) and formal, classroom-type education (schooling) from an expe­rienced landlord-teacher (like me).
People often ask, “Why should I pay for a seminar to hear about rent­ing my own property out?” Every person who asks that question I can introduce to a “beat-up” landlord who will tell them exactly why—very convincingly and very quickly.

Landlording is not a question of having good luck or picking all the right tenants. Certainly, that’s a part of it. However, during any reason­able investment career (over several years) you’ll need all the expertise you can get. Forking out money for a seminar from an expert will seem like peanuts compared with what tenants will cost you for the lessons you’ll learn the hard way.

Landlording is a business. You must accept it as such and treat it very seriously. Remember: some of my best real estate purchases (discount prices and liberal owner financing terms) have been from sellers who had been driven completely over the edge by their tenants. They simply could­n’t handle them. They were forced to give up their properties for a pit­tance. I’ll assure you—when it comes to the business of landlording, edu­cation is far cheaper than the results of inexperience.

The Dream Alone Is Not Enough

Your investment plan must be workable and realistic. Those characteris­tics are essential, not optional. Earlier, I said investing away from home is not a good idea. I mean this seriously. It’s also not a good idea to invest your money in a property when you have very limited knowledge about it.

A friend of mine bought an old hotel 60 miles away from where he lives. I advised him not to do it, unless he moved there and operated it himself. He showed me some impressive income figures and, I must admit, they looked great—if he could keep all the rooms rented. The prob­lem was that he couldn’t or didn’t. He frequently changed managers and completely wore out his new Toyota truck driving back and forth on evenings and weekends.
His original plan was to convert the small sleeping rooms to regular monthly rentals. The plan was to remodel the hotel, combining two sleep­ing rooms to create larger more desirable efficiency apartments. (Efficiency apartments are always in short supply.) Each new unit would have cooking and plumbing facilities, so it would be much easier to rent to permanent tenants.

My friend’s plan was very workable, but not realistic for him. His reg­ular 40-hour weekday job was naturally his main priority. Although he had purchased the hotel for an excellent price and terms, he was tapped out after the down payment. He had no other funds available for remodeling the way he wanted to. It’s quite obvious, in hindsight, that even if he had the money to remodel, he still didn’t have the time to do the job. Almost every manager he hired was a drunk. Obviously, he needed a bit more practice interviewing perspective employees.

Eventually, the inevitable happened, and he lost the hotel. What had seemed like a genuine cash flow bargain at the beginning turned out to be a $46,000 loss. The saddest part of the story is the building had all the potential for making $100,000 net profit in the hands of an experienced operator. My friend had owned only one single rental house before leap­ing into a management-intense, 33-unit hotel 60 miles from home. Simply put, the property was much more than he was capable of handling at the time.

Looking for Gold Buried in Mud

Not long ago, a young man came to me with a problem. He had an oppor­tunity to buy six dumpy houses extremely cheap. Just when he was set to close the deal, a local real estate agent advised him that he would lose his shirt. “The reason,” he said, “is the location. The houses were located directly behind a soap factory. They’ll never appreciate in value. Plus there’s a better than average chance you’ll be stuck with them forever.”

That’s typical salesman advice and—who knows?—he might be absolutely right. But he’s got blinders on. He’s already thinking about future sales and appreciation. Those things might not be too important. Many folks, including real estate professionals, are quite good when it comes to finding shiny gold nuggets that sparkle brightly in plain view. However, their detection abilities quickly diminish when the golden nuggets get slightly tarnished or buried beneath the mud.
Remember this: it’s not the location or how they look that makes gold mines valuable. Most of them are smelly holes in the ground. Most are rather ugly. The point I’m making is that value isn’t always apparent when you first look at something.

High Rent-to-Value Ratio Indicates Profits
The six houses behind the soap factory are really hidden gold. They had a 2.0% rent-to-value ratio at the close of escrow. As you remember from Chapter 9, rent-to-value is a number that expresses the monthly rent in relation to the value of the property. It’s calculated by dividing the month­ly rent by the total value of the house.
Old-timers used to talk about the 1% rule for renting. It means a $70,000 house should rent for $700 per month. With a 2.0% rent factor, the same house would rent for $1,400 per month.

The young man bought the entire property (all six houses) for $135,000. Let’s look at the big money picture here. The six houses are earning $450 each, or a total of $2,700 per month. Four out of the six are rented to HUD tenants with guaranteed rents; the other two could easily be the same if the owner wants to go that way. Here’s a good way to ana­lyze profitability. Each house is earning 24% of its total value annually.

The value or purchase price of each house is $22,500. Rent equals $450 per month or $5,400 annually. Divide that $5,400 annual rent by the $22,500 value and you get a rent-to-value ratio of 24%. A 24% rent return means that each house will earn its entire cost ($22,500) back in just slightly over four years time—4.16 years to be exact.
If you have a nose for making money, you should at least start sniffing about now. Many folks get cold feet when they think about the soap facto-ry—they suddenly develop blinders. They fail to scratch the surface to find the shiny gold. Anytime an asset generates enough income to completely pay itself off in just four years, you should be very interested. They’re not all that easy to find. When you do, don’t pass it up without a thorough investigation.

Selling for What You Paid—and Still Making a Profit

When I was telling this story to an investor group, a woman asked how you can tell if a deal is good or not. She said, “You haven’t told us what the down payment was or what the monthly expenses and the mortgage pay­ment cost.” My answer: it doesn’t matter much, unless, of course, some­thing is terribly out of whack. In this particular case, I happen to know the cash down payment was $18,500 (13%), which means the mortgage bal­ance was $116,500.

Even with high-leverage deals like this, it’s quite easy to structure the seller financing (quite often interest only) in a way that will allow the owner to enjoy a very respectable cash flow, starting with the first day of ownership. It’s also very common, with these types of rental units, to earn handsome profits, even if the property doesn’t appreciate at all. That’s because the property is a cash flow machine. You’ve actually acquired a gold mine: every month you’ll be able to mine out fresh green cash.
Let’s suppose you’re able to net out $500 each month from the “soap factory houses.” That adds up to $6,000 the first year, so your return on cash invested is 32%. You have also acquired approximately $100,000 worth of depreciable property (income shelter).

Forget about the future of the houses for a moment and consider only the income stream. For the next 10 years, even with very modest cost-of-living rent increases, it’s a very good bet you’ll be netting out $10,000 annually, by the end of the term. It’s not the least bit difficult to visualize this one small property generating $100,000 worth of cash and tax bene­fits in just 10 years. Even if you sell the houses 10 years from now at the same price as you paid, that’s not all bad. I will assure you, much worse things can happen to real estate investors.

Here’s an important thing to remember. When you’re lucky enough to locate income properties that have a rent-to-value factor of 1.5 or above, it’s like the gold miners say—“You’re beginning to see some very good col­ors.” Stick with the deal and figure it out. There’s a very good chance you’re standing real close to a cash flow spigot.

I Didn’t Grow Up to Be a Landlord

Remembering back (it seems like 100 years now.) to when I traded my tra­ditional corporate job for my current career as investor, horse trader, and landlord, I had lofty dreams and visions of sugarplums. The bottom line was that I wanted to make a lot of money, instead of being stuck in a job where my future earnings would always be limited to those meager cost-of-living increases. Of course, back then, I didn’t even think about the pos­sibility of my corporate job disappearing; however, several years later that’s what happened.

I felt real estate investing offered the best opportunity for me to earn more money without restrictions, based on how hard I was willing to work. I must tell you—I don’t mind working long hours, weekends, nights, or whatever else it takes if the rewards are in line with my extra efforts. What I’ve always been opposed to is working at some fixed-pay job regardless of my initiative or the extra efforts I contributed. Naturally, that’s one of the big differences with my real estate career—being my own boss has been a very rewarding experience. Besides, there’s absolutely no limit to my paydays anymore.

I’m in the housing business to make money, not to simply own a bunch of rental properties. In fact, as much as I like owning houses, my underlying motive sounds almost selfish. Houses are the best vehicles I’ve found to take me where I wish to go. But my houses are certainly not the end—they are the means to the end. If you understand this, it’s much eas­ier to make sound investment decisions. My goals and personal dreams are probably quite similar to those of every other investor I know—my main goal is making money.

I’ve discovered that all properties are not the same when it comes to making money. For example, I own several properties that just sit there and cost me money. They are not active vehicles taking me toward my investment goals. In fact, one property is pulling me backwards, away from my money-making goals. The problem is, I paid too much for looks. Every month it costs me $335 for the privilege of being the owner.

When you understand that goals are the objective and not the vehicle, it helps you zero in on an investment plan that makes the best use of your time and resources (money). In my case, for example, I needed to quickly develop monthly cash flow without paying out a ton of cash (which I did­n’t have) for my properties. Only certain types of properties will provide cash flow, so that’s where I directed my energies. Also, another one of my personal goals was to quit my regular, salaried job. That put some tight restrictions on my time limits because I had to start earning a living on the income from my houses within three years from the day I started buy­ing properties.

A Diverse Investment Portfolio Is Best

It’s my feeling that all investment portfolios should be diversified. You need some properties that provide good cash flow and some that just occu­py the lot waiting for appreciation or higher and better usage. By setting goals, schedules, time limits, and minimum cash return requirements, you’ll quickly determine what kind of properties you need and how many of each it will take to get you where you’re going.

Avoid Doom and Gloom like the Plague

The days of opportunity are over. There’s no longer any use trying to save for investment. The best you can hope for is to keep a steady job and stay off welfare. Nobody will ever again be able to build an estate large enough to produce an independent income.
Those are words from a speech given by an economics professor at Fresno State College to more than 300 graduating students.
Folks familiar with California’s economy would have little quarrel with the professor’s bleak assessment. With the huge layoffs at IBM and the telephone company, thousands of jobs lost in the defense industry, and downsizing by the state’s largest corporations nearly everywhere, it would be hard to find fault with the professor’s reasoning. However, he wasn’t talking about the economy today. He was making his speech to the grad­uating class of 1931, in the middle of the Great Depression.

William Nickerson was in that class. Fortunately for him, he didn’t pay much attention to the professor’s advice. Bill recalls the speech in his best-selling book, How I Turned $1,000 into Five Million in Real Estate in My Spare Time (New York: Simon and Schuster, 1980). According to Nickerson, the professor really didn’t mean any harm; he simply didn’t know any better. And obviously, it’s a good thing for self-made millionaire investors like Bill that most doom-and-gloom predictions are merely opin­ions of the misinformed. It’s unfortunate that many who are charged with teaching others have great difficulty seeing beyond the ends of their noses.
History has clearly proven that economic opportunity for enterprising students didn’t end with the class of 1931—and there’s certainly no end in sight today. Unfortunately, most teachers don’t encourage students to develop their entrepreneurial skills and rely on themselves to earn a liv­ing. Hopefully, these 23 chapters have convinced you there are numerous possibilities.

Roadblocks—Your Momentum Will Carry You Around Them

The single, most dangerous roadblock facing every new investor or career changer is procrastination. There is no doubt that many folks, with the best intentions and even a good workable plan, will procrastinate forever. Look around you. How many people are financially independent compared with all of those who just talk about it? The answer: “Very few.”
However, don’t let the numbers discourage you. Remember: financial success is not some wild stroke of luck. It’s a solid workable plan—and it’s you working the plan. Your success will come almost automatically when you do the things I’ve suggested.

Positive Cash Flow Makes It All Worthwhile

Over the years I’ve discovered that investing in cash-flow-producing real estate is even better than I dreamed it would be when I started out— financially speaking, that is. People often ask me, “Isn’t it hard work rent­ing your houses to Section 8 (HUD) tenants?” and “Don’t you have a lot of trouble with people who don’t pay on time?” and “Don’t you ever get fed up cleaning filthy properties when trashy tenants move out?” The answers are “YES,” “YES,” and “YES.” But just remember: those are very “narrow vision” items. They’re simply part of the vehicle that takes me where I’m going.
The big picture is that my rewards are very generous compared with the tasks I perform. That’s exactly what I wanted when I started investing.
I once had 218 houses that produced average rents of $388 per month. Even though rents are relatively low in my area, the math shows how quickly they add up to substantial annual income. As my mortgages are paid off, obviously, I get to keep a bigger share of the rent money each month. And who pays off the mortgages? The same folks who pay all my other expenses. Is this a great program or am I still just dreaming?

The END . . .

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