Posted Tuesday, November 21st, 2023 by Enterprise Property Management
This is the first in a three-part series where we discuss the process of planning for and buying rental property. We discuss the importance of experienced realtors, networking, and careful financial planning and we’ll cover topics such as property selection, financing, and understanding market dynamics, particularly here in Memphis. Hear our insights on budgeting, property conditions, and securing financing. This episode is the 1st of 3 in our comprehensive guide to buying rental property. It is for both novice and experienced real estate investors, offering valuable advice on successful property acquisition and management.
Richard
0:00:00 – This is the first episode in a three part series where we discuss how to plan for and buy rental property. So today we’re going to guide you through the buying process of rental property. As investing in rental property can be a smart and rewarding financial decision, however, there are significant things that you need to plan for, research and consideration of various aspects of the buying process. So whether you’re a seasoned real estate investor or a first-time buyer, this comprehensive guide will walk you through the process of buying rental property from understanding your investment goals to property selection, financing, property management, and we’ll basically cover it all. Along the way we’ll help you define your long-term goals all the way through to your exit strategy. So Aaron, in my research it seems to be that the the best thing to start off with would be to find yourself a good and experienced realtor or immerse yourself among experienced investors.
Aaron
0:01:14 – You know the thing about investment real estate after a long career in real estate, 22 years doing this, what I find is that the greatest number of success stories that I’ve witnessed, that I’ve been a part of, they have started with a phone call. They have started with an email. They’ve started with a referral. People that enjoy working with enterprise property management will often refer friends. Case in point, we had a super cool investor that we’re going to have to have on the show with us who was referred by a pastor in LA, referred this lady to us, and this pastor has 10 properties. He’s also referred some other friends over to us, but she’s the coolest because she’s one of the vice presidents for the Grammys. Pretty neat. We didn’t know this until she closed escrow, which was like, I don’t know, two weeks ago. But she was thrilled. You know, she was thrilled. We had a proper referral from her friend, and then he guided her and mentored her from his experience. And she did everything that we told her to do, that he told her to do, and now she is the proud owner of a property here in Memphis, and we think it’s the first of many.
Richard
0:02:27 – So what would your advice be to someone who doesn’t have a contact like that, they don’t have a referral, how should they go about finding the right person to work with?
Aaron
0:02:35 – If they’re listening to this podcast, they need to give me a call and I’ll explain why. Our management company has just started a second sales brokerage with EXP Realty is a nationwide 50-state real estate brokerage. So there are people within the EXP Realty network that do property management and work with investors. And so if they need help finding somebody in another city, that’s something that we can assist with. And of course, we may receive a referral fee, we probably won’t, but in the end, we care about helping our investors, whether they’re novices or experienced, to be a success wherever they go. And I do agree with you that a licensed realtor is really the key. We’re going to only talk about the right way to do it. There’s a bunch of pitfalls out there.
Richard
0:03:27 – What’s the best question you’ve received from an initial investor on that first call?
Aaron
0:03:32 – The number one question that I get about Memphis is, where should I buy? The second question, just so that you know, is about cash flow. And I think, let me just describe that really quickly. Cash flow, meaning how much cash flow do I need, what are my monthly and annual expenses that I should expect, how do you recommend that I budget for those things. And right now I’m holding up two hands. Really, what a good investment comes down to is the where, right? Like the classic rule of real estate is location, location, location. So we’ve got the where, which to me also means the what, and the in what condition, right? So we have the physical property, and then on the other hand, we have the money, right? Because you’re in this to make money. So how do I manage my money? How do I balance my money? What can I expect to occur from owning a piece of real estate and operating it? And so those two things really are the heart of real estate investment.
Richard
0:04:27 – Let’s take that and let’s dive straight into investment goals and how to establish sensible and realistic goals for you. We’ll get into financing later and how much money you need to get started, but it appears to be that cash flow, appreciation, potential tax benefits, and building equity seem to be the four major reasons that people have as an investment goal. But let’s talk about your experience with investors. How do you go about defining what your goal is going to be?
Aaron
0:04:58 – I’ve got a thousand stories, you know, and that’s one of the things that’s been a cool byproduct of being in this industry for over two decades. So what I like to do when I’m asked about a question like that, I like to talk about the two or three most recent investors that I’ve worked with. Obviously the Grammy person, right? She, and by the way, there are several vice presidents in the Grammy Association, so don’t go looking for this person. We’ve got her, she’s clearly got money, right? Not a lot. She’s still trying to be smart. Some of the television producers that I work with, they’ve made their money, but they’re also very, very good business people. And so they’re not just going to waste money. They’re not going to also make a bad investment. They’re not going to do that We’ve got people like her for whom cash flow on a monthly basis is not so important Similar to that there is a gentleman that I had a conversation with yesterday where I’m assisting him in purchasing a property That’s a nicer property. It’s near the Ford plant that we keep talking about It’s in Arlington, which is the easternmost suburb in Shelby County. It’s about 45 minutes away from Jackson, Tennessee and maybe 40, 35 to 40 minutes away from the new Ford plant. So Arlington, Tennessee is going to grow and develop and it’s going to be a tremendous location for people that work at Ford but also work in the city of Memphis to have sort of that middle spot between those two spots. I bring this up because he called me yesterday concerned about cash flow. Now he’s in escrow on this property right now. We’re probably in the middle of an economic correction right now and it’s going to be, in my projection, it’s going to be a very challenging winter and a challenging spring and hopefully we’ll see a pick up in the economy in the summer. Having said that, he is also in real estate and he’s concerned about his cash flow where he lives. So he called me and he said, Aaron, I’ve got a break even on this house. I need for you to talk me through some of my concerns. So we talked through the concerns about cash flow. We have done two things that we feel like are going to improve his cash flow. I won’t get too deep into them, but one of those things is going to be, now that we have the home inspection as of last night, we’re going to be asking for a credit towards the seller for some repairs that need to be made so that’s going to lower his note lower his monthly payment and improve his cash Flow so that’s the first thing we’re doing the second thing we’re doing is he asked me yesterday He’s an experienced realtor as well he asked me to create an addendum to where we actually raise the price and He’s able to pay more at the table, but that’s going to be taken in the form of points for his mortgage. So he’s actually gonna be paying down his interest rate by paying points up front. If any listener wants to talk to me more about that, I’m not mortgage certified, but I’ve been around enough to understand how that works. You pay your points up front, it’s tax deductible for this year, and then your interest rate is lower for as long as you own the home with that loan. So between those two things, we’re probably gonna create about an additional $150 in cash flow per month, which is going to be a much better deal for him over the next potentially troublesome year economically. You’ve heard this just now, cash flow is crucial probably to most investors, so we pay attention to that.
Richard
0:08:17 – Just to go back to what escrow is, you mentioned that this home was currently in escrow for someone who’s a complete novice, has never heard that term before. What does that mean in this context?
Aaron
0:08:27 – So to be in escrow means that you’ve established an escrow account and a relationship with a closing attorney and your earnest money has been placed with that closing attorney. The closing attorney is now representing you at least one side in this situation. This is the buyer that’s being represented by a closing attorney and that person is watching the transaction and making sure that it continues properly, smoothly, legally, and by the time you get to the closing table, which these days could be your home computer, you can be assured that your closing attorney, 99.9% of the time, has checked everything and made sure that your path is straight and free of any sort of obstacle. Very very, and I mean very rarely, is there an error on the part of the closing attorney. So that’s what being an escrow is about, which by the way, to our listeners, if you’re considering doing cash deals, unrepresented with a seller who was also unrepresented and you are trying to get around the attorney’s fees in that transaction, you are at risk and we can spend more time talking about that later, but please use licensed people. I mean, it, this is a major investment. It’s, I think, worth it to have an attorney every time and to have at least one licensed realtor every time, representing you as the client.
Richard
0:09:47 – So in the context of owning a business, you can look at cash flow in multiple different ways. Is that the same with investors? Do they look at it in different ways?
Aaron
0:09:55 – It’s a great question. There are different levels of investors. There are larger institutional investors and these people do not care about cash flow. Like all the big corporate names that are out there, I won’t mention any, but if you see a big truck that says blah, blah, blah, investments or property management and it’s driving down the road and it looks very glossy and it’s a brand new truck, that’s a corporation. And one of the points that we’re gonna be speaking about next, which is appreciation, they don’t care so much about cash flow. Small groups of investors, say groups of three to five investors, they do care about cash flow, but they also care about volume. So let’s say for instance there’s a group that has 15 properties and three of them aren’t cash flowing very well, but the rest of them are, they are happy. So we don’t get so much of a house by house discussion with that investor. Now when you get to single investors, you get two different type of positions on cash flow as far as what I can see, or maybe three. You get the investor that doesn’t really care about cash flow because they are doing relatively well financially. You get an investor that wants to make sure that the annual books balance, and they want to be able to see their expenses, see their cash flow, and they take a measurement of the success of their investment more or less when they do their taxes, okay? And then you have the month-by-month investor that absolutely needs that cash flow to pay other bills or to build a cash reserve or savings so that they can buy their next house. In this market, over the course of the last six, seven years, we have noticed that there are more investors that are dependent on monthly cash flow than we’ve ever experienced before. The reasons for that, I think, are that the cost of properties has shot up and the cost of the mortgage has also shot up. And so we’ve got people that are going to invest. You can’t stop them. But man, they are watching those dimes, they are watching those pennies, they want to make sure that they can pay their bills with it. The bad part about that kind of investor is that they will sell their property in distress. It’s a trend for something that’s coming over this next year you’re going to see a lot of panic selling for people that say I’ve done this for a year and I’ve lost two thousand dollars which is nothing and they’ll say what this continues this is not a worthwhile investment and then they try to sell it it’s just like being in the stock market right like you gotta stay in to win and it’s the same with real estate
Richard
0:12:18 – So how would you go in a new investor, or even a seasoned investor, through calculating and building a realistic expectation of what appreciation could be?
Aaron
0:12:30 – So moving to appreciation, appreciation is, it’s kind of like a rainbow. You know, like you don’t know when a rainbow’s gonna, like you can kind of know. Like if you’re at a certain place in Hawaii where it rains every day and there’s a gorgeous rainbow, then you can know a rainbow’s gonna be there. For the rest of us, when we’re driving in our car between appointments and we look up and we see that rainbow we go whoa I was not expecting that that’s beautiful. Okay I see appreciation in Memphis Tennessee as kind of being like a rainbow. Right now really from mid 2020 to now we have seen meteoric rise in appreciation all over the country and it’s because product was low, demand was extremely high, and interest rates were perfect. That is a perfect storm. That perfect storm has now gone away. So in the same order if I were to tell you what’s going on right now it would be product is lower than it was at the peak, interest rates are absurdly expensive and you can still get around it like what we talked about before but it’s still more expensive and they’re coming down. By the way we broke 8% this week, the week of October the 24th. We broke 8%. We got our interest rates down to 7.97 on an average interest rate. And I’m hearing about people that are buying points down all the way to the high fives. So hopefully economically we’re improving. The third thing is the market is softening a little bit. This message is to buyer, potential buyers that are out there. The market is softening. As a representative for sellers we’re now negotiating again we’re not doing this no negotiation thing we’re not doing no contingencies we are saying we will consider your contingencies and we will consider all offers that’s happening all over the United States right now because there is a slowdown so if you’re a buyer I want you to start thinking like we used to between the years of 2010 to 2014 and those were years where we negotiated a lot and we if we were representing buyers We would we’d look at packages We try to get in at 15 to 20 percent below asking and we would do crazy things To get some great deals and I believe we’re going to be moving into one to two years of some great deals But I do think in 2026 the economy is going to pick up again similar to where we were.
Richard
0:14:45 – So presumably you take all those factors into consideration, walk an investor through all of that. In the massive long conversations you have with investors on the front end, I’ve been privy to some of those. But the interesting thing is you also have your reservoir essentially of investors that you’ve dealt with over the last five, ten years and you can give some insights based on that information. So what kind of have you seen over the last 10 years here in Memphis?
Aaron
0:15:10 – Ten years ago, the major buyers of real estate did not exist. So it was easier back then. It was a lot easier for me and for my staff. The advent of these huge commercial entities that are wanting to hold and control rental product means that the rates for everything have gone up. The cost of the investment, interest rates themselves, starting in 21, into 21, early 22, begin to creep. So there are a lot more players in the market right now than there used to be. So if you were to ask me 10 years ago what my experience was for the previous 10 years, I would say that most of the investors that I worked with were patient. They were very reasonable. Most of them are very intelligent. They’re risk takers, which is amazing. I love working with risk-takers I generally kind of put the brakes on them a little bit and we talk about the facts and and pertinent details that we need to understand to discuss with that investment moving forward anyway so that group of people that I love to work with we don’t see as many of those anymore now what we see with investors are people who are on one level panicked at the very beginning and here’s why they’re panicked because they’ve read all about 1031 exchanges And they’re about to sell a really big piece of real estate They’ve opened this 1031 exchange which has a very short time frame for finishing You know finding the property identifying the property buying the property closing on the property before the end of the 1031 exchange So they’re panicked because they’re like I don’t know where I’m gonna put my money.
Richard
0:16:45 – Just to clarify, a 1031 is a tax agreement that allows you to put money aside and not pay taxes on it if you reinvest it back into property within a period of time.
Aaron
0:16:58 – Right, that’s correct. That’s just one. Most people aren’t working at 1031 Exchange. Some people are. With investors that call me on the phone right now, I think one of the number one things that they’re seeking from me is to see if I am going to tell them the same things that they heard at a seminar or on Bigger Pockets or in a book that they read or Listen to and they’re testing my knowledge base. And so I enjoy Being tested. I’m fine with that. I’m I enjoy conflict, you know, I enjoy pointed questions And so I feel like the vast majority of the time I’m able to give them the information that they need So that they can confirm their own bias as to whether or not to purchase and that’s a funny point Because everybody has their own bias some investors have a bias of I don’t want to purchase and I’m gonna Read every article and talk to every person that I can to support that point and then like my guy that I was talking about yesterday After talking to him further about the Ford plant and Arlington and the great deal He was getting and all the ways that we can make that deal work, he confirmed his bias which is that this is a good decision to move forward. So investors if you’re listening, if you’re uncertain about something, call a licensed realtor that you’re working with and say, hey I’m uncertain about these things can you help me get a better understanding of it or let me use you as a sounding board this is what I’m thinking. Listeners, a realtor is here to work for you. Like, that’s the whole reason why we’re in this business. And we’re a wealth of knowledge, so we want to hear from you, we want to talk to you about the things that you’re concerned about.
Richard
0:18:36 – Now, as an investor, presumably there are tax benefits to owning additional properties beyond your primary residence, without getting into legal definitions, because we’re not accountants. Just what are some of the potential tax benefits that you see investors are able to take?
Aaron
0:18:52 – I think that some of the basic ones that everybody are that are familiar with would be tax advantages as far as your expenses that’s probably the number one tax advantage of owning real estate so your expenses can be most things like this is not a house that you live in, right? If there’s a house that you live in, you can write very little off unless you have a home office. Okay, it’s a rental property though, so you get to write off utilities, repairs, capital improvements, services, your own, you know, mileage and time spent to manage the investment, closing costs on the acquisition year, and depreciation. I love that note of depreciation in there because when we do capital improvements such as appliances, roof, major exterior, things like this that have a long lifespan, I call them durable, they’re a durable good, right? Like an automobile. You can depreciate that over whatever period of time the IRS gives you a window to depreciate. Sometimes five, sometimes seven, sometimes 10, and sometimes 30 years of depreciation. Depreciation can, like if you know you’re going into a tax year, and again, this is not tax advice because we aren’t CPAs, but in my experience, if you’re going into a year where there’s going to be, you’ve had a windfall and you need to get more tax advantages or tax deductions from owning real estate, you can, with the help of your CPA Advance depreciate your property, you know, I don’t know that you can do that with improvements But I know that you can do it with the property itself So you can manipulate your property and you know how you use it in the taxable situation to your advantage year by year Because we’re dealing with the IRS I mean if you overstep a little bit or if you take too much, they’re going to expect you to balance it out in the following year. On a year by year, a dynamic investor is going to manipulate their portfolio to benefit them from a taxation standpoint every year and it changes every year. So you’ve got to have a good tax professional that knows what the new law is, knows what the new tax code is so that you can bounce off of them.
Richard
0:21:08 – Let’s talk about building equity in the property. How do you talk to an investor about building equity? What pieces of advice would you give?
Aaron
0:21:21 – As far as equity building, I really feel like it comes down to some equations that the investor should perform on their own. There are several cash flow spreadsheets that are out there that you can get on BiggerPockets, that you can get all over Google. Test them. Make sure that they have all the information in there that you want them to have and this is where talking to a realtor can actually help you quite a bit. There’s going to be information or fields of information that are going to be missing from every single one of those spreadsheets that you find online. So you need to be able to find one where you can add new fields, talk to a realtor, make sure that you have all the possible expenses for that there and then talk to your mortgage broker. Let me just really quickly, landlords often get a bad rap, right? Just because of how we’re seen in the media and stuff like that. Sadly, attorneys also get that same bad rap, but there’s a ton of attorney jokes out there. But mortgage brokers and mortgage companies can often also get a bad reputation just for doing their job. So I would like to correct that just a little bit. Mortgage brokers can set you up for success. If you have one that you go online, you find that they’re highly referred, that they’re quality, they’ve got great reviews, these are the people that you want to be able to call just like your realtor and say, hey, I’m thinking about doing this, what do you think, where can I get an advantage, or I’m working with this one loan product, it doesn’t seem to cash flow on my spreadsheet as well as I would like for it to, do you have a recommendation of a better product. If you’ve listened to our past episodes, there are all kinds of financing and lending products that are out there for investors at every level from complete novice to somewhat experienced to highly experienced to people that are their own bank and are buying in cash. I mean, people that buy in cash, I’ve got a great investor who was on here within last year, I think he was on here. Well to do fellow, very successful in real estate, buys and sells property every year and he uses a mixture of his own cash and financing to make those investments work. And he and I are working on an acquisition right now that he will probably use cash for and not financing. So guys like moving up the level of success and real estate investment eventually you do get to the point where you are the bank and that’s awesome so like that’s my goal I hope for our listeners it’s all of their goals as well
Richard
0:23:49 – Yeah I think that goes back to my comment when we’re talking about cash flow in that people view it differently you really have to prioritize and determine what priority you give to building equity if it’s super, super important, then your cash flow is going to look different to someone who has less importance on building equity.
Aaron
0:24:08 – Right. You know, equity, an aspect of equity building is appreciation. In a normal market, in normal places, I’m not talking about the coast, I’m not talking about Chicago, I’m talking about the flyover states, right, the lower 40, if you will that don’t have as much of an economic gravity you know as these coastal cities. So in normal places which is most of America, appreciation should hover somewhere between I would say 4 and 6 percent. That’s a relatively reasonable not very active or dynamic rate of appreciation. What we’ve seen this year and what everybody knows now in toward the end of 2023 is that appreciation on the case of everything except for housing, we call it inflation, right? In real estate, we call it appreciation and it’s positive. And everything else, we call it inflation. And it’s the worst, right? Because I can afford less. Inflation’s out the roof. Appreciation in the flyover states, the lower 40, has been in the 25% range on an annual basis. I remember I wrote a report in the very beginning of 22 that looked at the previous two years of appreciation and I couldn’t believe the statistics that I saw. So appreciation is a steroiding effect for equity, right? So right now, people that bought properties, let’s just say that they had dumb luck and they bought properties before the middle of the year 2020 oh my gosh the amount of equity building that they did in two and a half to three years is A once-in-a-lifetime experience. Absolutely. I really don’t see that as Being continually sustained in the next ten years. I just don’t see it happening I see is coming back down to that 6% range as a high for annual appreciation. I don’t know when that’s going to start. It could start next year. It could be happening right now. But the wild times of appreciation that we’ve been experiencing, I don’t foresee that coming back just like I don’t foresee interest rates in the two and three range two to 3% range coming back.
Richard
0:26:22 – Could you just juxtapose Memphis as a market though compared to those averages that you stated because I’ve had time and time again that Memphis performs a little bit better than other parts of the United States.
Aaron
0:26:33 – Yeah I mean you know Memphis is a town where it’s a normal city I feel. Let me just juxtapose my experience in other cities. I’ve lived a lot of different places. I know that you can hear the southern in my voice just like I can hear the Britain in your voice, but Memphis is a very easy place to live. Up until 2020, it was one of the most affordable places in America. It still is comparatively, but it’s more expensive now than it was before the COVID boom, if you will. It’s a large city. I mean, it’s not a mega city, but it’s large. I’d say if you include our suburbs in Shelby County, you get close to a million and a quarter people that live here and the housing that’s available to that million and a quarter people is a mixture of multi-family low-income housing a massive amount of middle-income housing and then a reasonably large size amount of higher end housing. In comparison to other cities all I can say is this when investors call me every one of them still have a hard time believing that they can buy a almost ready-to-go rental house in Memphis for around $100,000 to $125,000. Where those houses are right now are in lower-income neighborhoods, and those lower-income houses have had the same amount of meteoric appreciation, so they’re more expensive now than they used to be. Where I’m seeing investors lose their minds even more, and when I say lose their minds, I mean in a positive way, it’s in the areas of wholesaling, where they’re able to buy properties from someone who is not a licensed realtor. They basically go through a wholesaler to get to the seller, okay? I’m not advocating or endorsing purchasing wholesale properties without being represented by a realtor, right? Like I got a guy that I’m working with right now that’s representing himself for the wholesaler that’s selling him four properties. Each one of them are around 35 to $40,000 in list price, if you will. I think he should hire me to represent him, but he won’t, and that’s cool. So I’m just kind of sitting back and watching what happens because I can’t advise him. You can’t find those deals really anywhere else outside of the lower 40. Like if you went to Montgomery, Birmingham, you could probably find some similar deals as you would find in Memphis. I think if you went to Little Rock, it would be the same way. You could find some reasonable deals. But the moment you step into Jackson, Tennessee now because of the Ford plant, Birmingham is actually growing quite a bit, St. Louis, Nashville, forget it. You’re going to have to spend more money. Can an investor be successful in Nashville, Tennessee where it’s so expensive? They can, but they’ve got to come in with a different set of rules and expectations.
Richard
0:29:26 – Well let me just make a statement that we don’t need to have a discussion about this, but I’ve heard from so many different investors that have been in other marketplaces in Tennessee and throughout the United States and the one thing that it keeps coming back to is the post-sale situation. Once they’ve acquired the property there isn’t the support and this is particularly true for people who are geographically challenged let’s say they’re a long way from their property so they have to rely on their realtor and on professionals within that city such as property management to manage their investments. So let’s move on to budgeting for success and the financial situation I need to be in to get started. How would you characterize that? Do I need to be completely debt-free?
Aaron
0:30:10 – No, not at all. In fact, the most successful investors that I’ve worked with had loans, right? So there’s a couple of different types of debt and we’re not going to talk about your consumer debt today. Like your consumer debt as an investor is yours and that’s a matter of personal discipline and you’re going to have to figure that out. But if you’re calling me on the phone and you’re interested in real estate investment and if we talk for more than 20 minutes, 30 minutes, I’m going to know that you are prepared to invest, right? You’ve got your personal finances, you have a handle on what those are, but you also probably have cash. And that’s one of the reasons why you’re calling me. You’re saying, what do I do with this cash, right? I’m interested in real estate. I read a book. I went to a seminar. I’ve got friends that invest in real estate. Help me invest this cash.
Richard
0:31:04 – For people that don’t know, and this is all a new experience for them, what amount of cash are we talking? Many of us know that for a mortgage to get a good rate, avoid private mortgage insurance and that kind of thing, you’ve got to put down that magical 20%. So what level of property will I be looking at and is there anything beyond that down payment that I should be considering as well?
Aaron
0:31:26 – Well, let’s take the first question first. I really feel like different investors can afford different investments based on the cash that they’re bringing to the table. This investor that I was telling you about with the Arlington property. He came into town and he met with me. I spent the whole day with him. We drove all over, like we drove between three counties, Fayette, Tipton, and Shelby. And he was initially interested in lower income investments. So we went and we saw those lower income investments and he did not like them. He just realized, this is not who I am. I’m not a low-income housing investor. I need middle income So he started looking in the middle income And we had a project that we were looking at that was a historic home about a hundred years old home That needed a significant rehab. We put an offer in on it after inspection We found that it was too expensive And so we ended the offer process on that property based on our findings in the inspection too expensive Okay, so to your question, the amount of cash that is going to be required of this fellow and the amount of lending that would be required of that same guy at that one property didn’t work. So it’s not that his investment strategy didn’t work, it’s that those individual properties didn’t work. So then we kept looking. We found this one in Arlington. He wanted to take a look at it. It looked great. It was leased very, very strongly. I’m not gonna talk about numbers, but it is under the 1% rule, but it’s still a lot of money, right, for the loan. It contributes towards his cash flow. It contributes towards his security if he were to purchase this. So our goal, again, with that Arlington property is that he needs to get the monthly note down to where the rent covers it at a break even at the very least, if not one to two hundred dollars in cash flow. And the way that we did that is we’re putting down 25 percent and he’s buying down those points, which means that his monthly rate is lower. So his goal, here’s the golden egg that every investor should be looking for. Do you have the cash to get into a property that you want, right, don’t buy properties you don’t want, buy properties you want. So to get into a property that you want, do you have the cash to do that on a down payment side of it, and can you, do you have the capacity to buy down your rate to where if the property is rented or the projected rents are of a certain level where your monthly note can be below the projected rents or the existing rents. If you do that you create a little window and that window is called cash flow. It’s called positive cash flow.
Richard
0:34:12 – We’re going back to my original question because I feel like…
Aaron
0:34:15 – I can’t remember what that was.
Richard
0:34:16 – I feel like we’re kind of skirting around what I want to get for the listener who wants to know, can they afford to get started? So for the investor that doesn’t know whether they can afford to get started in investing, what amount of cash really do they need available to them that they can afford to lose, essentially?
Aaron
0:34:37 – So it’s relative to the investment. I wish there was a simple answer to the question, but every investment, like like I was talking about this guy, every investment is different. And man, he knocked a lot of doors right so like he he knew I Can’t give too much information about this guy, but he knew he had six digits of cash, okay, and Out of that six digits right of his cash reserves He needed to and he’s this guy’s a working man. He is not wealthy. He’s Anyway, he works for a living okay, so his monthly cash flow matters. He was able to say, okay, I know I’ve saved all of this up. How much of this cash reserve, right? How much of my six figure cash reserve can I put into the down payment? Right? So now that leaves me, for instance, let’s say he put $60,000 into the down payment and he had $100,000. Well, now he’s got $40,000 to go toward the expenses on the property moving forward, rehab of the property. For instance, this house needs a roof. Is he gonna pay for that out of the cash? Probably. Well, now that knocks him down another 20, so now he only has $20,000 in his account. If he has strategized with this investment, a monthly cash flow that is positive, so he gets a return on month by month on his investment, then he will continue to recapitalize. If the investment is structured in such a way to where he has a negative cash flow, well now he has to figure out privately how he’s going to make more money in order to make that investment make sense. I just think it’s relative to each investment. One of the things that you said was how much cash does an investor need to have in case they have losses. That’s basically kind of what I heard in your question.
Richard
0:36:27 – Well, it’s for the down payment, but it’s also, you know, there are so many considerations in any kind of business transaction, and I see this as a business transaction. You’re buying a property that potentially could have issues. You know, a tree might fall on it, so you’ve got to make sure you’ve got good insurance. You might have a sewer line go out, maybe a gas issue, but all things that could cost you to repair the property. Having that reserve account in addition to whatever you need to secure the right financing.
Aaron
0:36:57 – So to your point on the front end of an investment purchase. I would say inspections are Crucial right so this man to continue to go back to this guy He got a home inspection it came in last night, and he and I are going to be talking about it today. He needs to be able to sit down with me as his realtor and say, okay, the home inspection says this, this, this, and this. What can we do to offset it right now during the buy and how much is it going to cost me to repair these things so that I can build a proper budget? So, again, each individual house is what matters. 20 years ago, we were selling new construction. 10 years ago, we were still selling new construction. When you get a brand new house, that a builder’s built for you so that you can manage it as a rental property, you are going to have a home warranty that comes with that for about a year to two years. You’ll have a structural warranty that’s 10 years long. All of the materials in that property are going to be brand new, brand new roof, everything brand new, appliances, systems, surfaces, all brand new. There are warranties there. So you’re going to pay a premium for that brand new construction, but you have the assurance that things will probably not break. This house that this gentleman is purchasing is 23 years old, was built in 2000. The roof is the original roof. Most of the other components in the property have been replaced, appliances, water heater, HVAC, but it needs a new roof definitely. He doesn’t have the assurance of I can just sit on this. When he buys this house, after the buy, he’s gonna need to put a roof on within a year. So we as a realtor need to tell him how much that’s gonna cost and go ahead and get a quote. So listener, if you’re working with me or anybody else, any other realtor, go ahead and ask them for quotes for repairs prior to closing escrow, prior to signing the documents. You need to know what your cash outlay is gonna be to the best of your knowledge. I don’t have a crystal ball, no realtor does, but we can give you a pretty good idea about how much cash you’re gonna need to save up or where you’re gonna need to source funds from in order to repair your investment.
Richard
0:39:10 – Okay, so in the last three to five years, let’s use that as a time frame, what have been some of the lower cost properties all in for investors and what level of appreciation have they seen?
Aaron
0:39:24 – In the last three to five years, it feels like you’re asking me to look back into that tornado that was the boom of…
Richard
0:39:35 – I’m trying to get to a point where we can say, you know, if you’re a new investor, you can come into Memphis and buy a $120,000 house. I mean, is that realistic?
Aaron
0:39:45 – Yeah, so the difference is, there’s two things, and we’re taking a snapshot of today, as compared to the last three to five years.
Richard
0:39:51 – October 2023.
Aaron
0:39:52 – There we go, okay. Yes, there are houses that are definitely still available for $120,000. There are houses that you could purchase. I’ve got one that I just listed yesterday. Okay. It’s in a community called Burclare It’s a three-bedroom one bath with no covered parking It’s been very well maintained and we have it listed for $129.99 And a realtor representing an investor or a smart investor could probably figure out a way to get that to $120.00 Would I buy this house? Absolutely. Why am I not buying this house? Because I’m involved with other acquisitions, you know, but this is a house that I would purchase for myself. The rent is 1250 per month So if you get it for a hundred and twenty five thousand dollars that will meet the 1% rule Which means that 1% of the property’s value is being offset by one month’s rent At a break-even that’s the 1% rule on paper This house looks incredible It’s going to be a great investment. Yeah, 120 is still possible. Now, I also see this $40,000 per house wholesaler. I mean, if you really want to get into the weeds, you can. There are opportunities to buy what are called value add properties, and that’s exactly what that is. You buy it, you would work with your realtor to find out what the projected end value of the property is going to be called the after rehab value or ARV. And so we project ARV with you, with comparables that just recently sold or are listed for sale right now. And an investor can see what kind of refinance, because I think we’re gonna be back into refinance territory starting in 25, maybe late 24, maybe. And so if you buy it now, you can refinance it, you know, for the full amount at a better interest rate, 18 months to two years down the road, get that money back, and now we’re getting into an investment system called the Burr Method, which we’ve talked about in the past. So Memphis has opportunities between, I would say comfortably between $60,000 and $120,000 right now, and I expect to see the number of properties in that range continue to go up as long as interest rates continue to stay as high as they are. And eventually, those high interest rates are going to soften the market so much that those property opportunities become cheaper and cheaper for the investors that are out there. Memphis is still a perennial producer of first-time real estate investor properties. We have thousands of them and people are buying them.
Richard
0:42:26 – Let’s talk now about securing financing for the property. What options do I have? In previous episodes we’ve talked to mortgage experts, Jo Garner being one of them. One of the things she mentioned was non-conventional loans which allows you to close very quickly which later you then refinance. So what’s your experience been with investors and financing and what are you seeing they do?
Aaron
0:42:53 – Well I’ve probably over the last year have seen about a hundred different mortgage brokers and lenders to our investors. Most of the people that I work with do not live in Memphis, they live outside of Memphis so they have a connection with lenders that are local to them but also very recently I have seen a huge rise in multi-state lenders. So, for instance, this Arlington guy that we’re talking about, he has a lender that I’m pretty sure is out of the same state he lives in, which is on the coast, and that lender is certified or licensed to lend in Tennessee. So because he’s got somebody that is a multi-state lender, that lender has a relevance to him because he’s lent money to him locally, so he’s got a trust that’s there. He’s going to use that same lender to call and say, you know, I got this house we’re working with in Tennessee, can you lend and can you look in on it? So relationship, financing, what is the first rule of financing? It’s relationship. Just like in every industry there are some crappy people that are not good at what they do or maybe they aren’t as committed to their craft, to the good work that they do. Those are people you don’t want to be working with. When you work with a mortgage person for the first time and you don’t get a good feeling about them, you need to look for an alternative. So once you find a good lender and a good mortgage broker, you will often stay with that person for as long as they’re in business. And if you’re buying in Tennessee and you want some referrals or some recommendations as to some lenders that we use, we have some great people that are very kind very sweet. They’re actually real people They have a heart and a conscience and they have ethics and they have a relationship with me And so they’re going to take care of our buyer So relationship is a big one.
Richard
0:44:41 – How much do we need to worry ourselves about interest rates? Should we vacillate on that too much or..?
Aaron
0:44:45 – For the novice investor, they are not going to be considering a refinance. Maybe they have a busy life, maybe they have a good career that they’re working full-time in, maybe they have children or something, other familial responsibilities that they have and they don’t have time to think about, okay, is it time to refi? You know, let me look at my cash flow spreadsheet and see when should I refi? Are the rates good enough? Are they going to get any better? Speculation, you were just talking about that. We can lose our minds with speculating about interest rate and where they’re gonna go, or you can see the value in the real estate that you could purchase now, have the hope, and I’m putting that in quotes, the hope that interest rates will come down, which I think that they will, and then consider your investment to have a one to three year time frame, if you invest right now, a one to three year time frame for a refinance right so To the investors that are buying right now that are on a shoestring budget they rely on that monthly cash flow They have just enough money to get in for the down payment and maybe have some reserves on the side I would say be cautious manage your money well, if Your realtor says that this deal is going to work and it looks like it’s going to work on your cash flow spreadsheet And you’ve got a great relationship with your mortgage broker that says I got you the best loan that I have at my disposal right now, then you’re in essence going to have the best possible experience in this climate with these high rates. And then you’ve got to go back to your personal finances and your personal income and say, okay, what am I going to need to do to stretch this investment, which might be only a break even or maybe even a slight negative for two years until I can refinance at a good rate where I can say, this is good, I’m closing the book on refinance, I’m not gonna refinance again unless I absolutely have to. I got a good rate, I’m gonna let it sit for as long as it continues to work. I’m not a mortgage broker. Don’t listen to me for mortgage advice. Call a mortgage broker. If you need help finding one, I can give you a list of 10 that different people use here in town. So for lending, you got to go to your lender for the best advice.
Richard
0:46:54 – If you’re looking for some sound mortgage advice and to understand the difference between mortgage rates and interest rates, look for our episode that came out on June 27th, 2023 with Jo Garner, Unlocking the Secrets of Non-Traditional Lending, a Game Changer for Investors. That episode will help enlighten you about the mortgage process. This has been part one of a guide to buying rental property. In our next part we’ll talk about actually identifying the property, where in the market you’re going to buy, particularly the location, and we’ll talk about post-purchase management of your property, whether you choose to use a property management company or you manage it yourself. But if someone wants to get hold of you Aaron, how can they reach you?
Aaron
0:47:49 – So they can reach me on, I’ll just go ahead and throw my cell out there, I mean these are investors that are listening so I know that you’re gonna if you call me you’ll call text at a respectable hour. All right so my cell is 901-461-0905. And you can always reach me at the office as well, you may have to go through some prompts to reach me, but that number is 901-260-0206.
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