Building a Portfolio versus Building Equity

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“My portfolio is growing!  I just closed on my fourth house and I just got a promotion at work – things couldn’t be better!”  On the outset this sounds great.  Until you ask, “do you have any debt on those properties?”  The eager up-and-comer quickly responds “well, yes, but I have renters, so I’m building equity!”  As the onion peels away we start understanding the situation much better.  “I took advantage of a low down payment loan program to buy the houses so my renters (as they pay their monthly rent) are paying down my mortgage for me.  These houses will be my retirement portfolio one day.”  If this sounds familiar, then I agree with you.  I am learning about more and more “investors” who are buying homes at or near market price, adding some fresh paint and carpet, replace a few kitchen cabinets and toilets and then rent their properties out.  This strategy is only one paycheck (of the renter) away from becoming a disaster for the owner.  Simply put, the only viable reason to rent out a single family house is because either (a) you are using your own money, and (b) the rental rate is so far above your holding costs that your net profit is better than any other investment alternative on a return-on-cash basis.  Otherwise, if you are buying a house near or at market price, one missed rental payment (and usually will at the wrong time) can spell disaster for the owner.  The cost of eviction and missed payments will eat up any “discount” you bought the property for.  So now you have to ask yourself, DID YOU GET INTO REAL ESTATE TO BUILD A PORTFOLIO OR TO BUILD EQUITY?  The purchase of a rental home should made at a steep enough discount that lost rents, non-paying tenants, and expensive repairs do no cut significantly into PROFITS.  Remember profits are why you got into real estate investing to begin with!  Four home purchases made at or near market price with a low to zero down payment is speculation.  The buyer is speculating that the renter will not default, that the house will not need repairs, that economic circumstances won’t change, that a host of factors will not cut into profits.  Homes in several hot markets during 2007-2012 including Las Vegas, Phoenix and Tucson went through a boom/bust cycle that wiped out half the value of the residential market.  Short sale properties were so common few people wanted to buy them and so many more couldn’t because the banks were barely lending to even the top tier borrowers in the country!  Build a portfolio Yes, if you bought equity on the day of closing.  But, depending on a series of factors that are not under your control No.  Equity is bought on day one.  Having a strategy to cash in on that equity will be in my next article!  To your prosperity!

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Will Your House Sale Trigger a BIG Tax? GO Installment Sale!

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Picture twenty years from now.  You and you’re families needs have changed.  Maybe you had children that are grown and out of the house now.  Maybe you and your significant other are quickly nearing retirement.  That four bedroom house is really “a lot” of house to clean, maintain and pay the property taxes.  And maybe you made other investments in real estate and those properties have appreciated as well.  You bought the house at a time when real estate was considered cheap, realizing now that your house IS your nest egg and has grown three to five times the price you originally paid!  If you considered downsizing your lifestyle the prospect of having to pay the tax on the gains you earned makes the idea seem impossible, right?  I mean why would anyone pay so much in taxes on the sale of the home to downsize right before retiring and your dependable income disappears?  The tax will deplete a large amount of money that you could have gone towards your retirement!  For this reason it is a MUST to learn about selling your home using the Installment Sale method.  Before I go too far, please remember that I am not licensed tax professional and I am not giving tax advice.  I am a real estate professional and like you I get my tax advice from a licensed tax professional and pay them a fee for that advice.  So if you need tax advice please see your tax professional BEFORE taking any action that could trigger a taxable event!  That said, an Installment Sale is a method of selling your house now, and spreading out the taxable consequence over time.  For example if you purchased your house for $100,000 and it is now worth $500,000 you have a basis in your house of $100,000 so any amount that you sell your house over and above that amount will have a taxable consequence.  And the tax would be paid for the current year’s tax filing.  However, if I offered to purchase your home for $700,000 with a $100,000 down payment and then pay you the remaining $600,000 over the next 30 years, we now have an installment sale.  You may have hear of the term a “carry-back” which it is similar.  In this example the seller is taking back an income stream for the next 30 years instead of all the money up front.  The seller gets to spread out the taxable consequence over the next 30 years and the house is sold.  What binds the buyer to pay this balance due?  The purchase and sale agreement (which is the executed contract), the promise to pay secured by a promissory note and a deed of trust against the property.  The deed of trust is the 1st position lien holder with rights to foreclose and take back possession of the property if the buyer fails to pay the remaining balance due.

Here are some additional resources to understand how the sale of you’re house can qualify for an installment sale.  As always feel free to send me a message if you have questions about how this strategy can help you sell your home!

https://www.irs.gov/forms-pubs/about-publication-537

https://www.irs.gov/taxtopics/tc701

https://www.ftb.ca.gov/individuals/wsc/real-estate-installment-sales.shtml

https://www.thetaxadviser.com/issues/2008/sep/installmentsalesallocationofinstallmentpayments.html

https://turbotax.intuit.com/tax-tips/investments-and-taxes/what-is-irs-form-6252-installment-sale-income/L3R2EHSQU

https://www.ccim.com/cire-magazine/articles/irs-guides-taxpayers-repeal-installment-sales-repeal/?gmSsoPc=1

Turning Raw Land into Equity

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The internet is full of strategies on how to invest in raw land and why its so important.  Seldom do I see n author breakdown a simple strategy of how to exit land holdings to upgrade to an real estate income or growth opportunity.  Here’s the conundrum:  after paying off all your debts early in life you were finally able to save.  A family member tells you about a great land investment opportunity so you need to act now!  The land is cheap, taxes are minimal, and maintenance nearly nonexistent.  Then a decade goes by.  “What’s happening with your land” your family member asks.  Nothing.  It’s sitting there doing nothing.  Sure maybe it appreciated . . . a little.  So what now?  You decide you would like sell or exchange the land to get a better return on your money.   But how?  It’s not worth much.  HERE’S a solution most experienced investors have shared with me.  Think of your land holding like a checkbook.  But your not done there.  Instead they say, go for the 3 Times Trade.  Here’s what that means.  Let’s say your land property has a value of $25,000.  Next, you find a list of houses selling for $100,000.  Three times the value of the land.  Next, make offers to sellers till you find one that will accept your land as a down payment for the house.  Next, bring your purchase and sale agreement to your banker, mortgage broker or private lender.  Request a mortgage for $75,000 to close on the remaining deal.  Why would the lender be willing to make this loan?  Because the seller is already giving you credit for the land as a $25,000 down payment!  The house is only 75% mortgaged leaving 25% of the house in the clear.  You just turned the land into  $25,000 of equity!

Another way of using this formula if you want a less expensive house si to go for the 2 Times Trade.  In this example your land is worth $25,000.  Next, you make a list of houses worth $50,000.  Next, you find a seller that will accept your land as a down payment.  Next, you bring the purchase and sale agreement to your lender and request a  $25,000 mortgage to close on the house.  The first $25,000 represents half down in this transaction which means you are turning the land into  . . . $25,000 of equity!  Why would the lender do this?  Because you are only mortgaging the house by 50%.  Most lenders will see this as a great deal because when you close you will have 50% equity in the house!

New possibilities now become available with the house that weren’t available with the land.  Renting, house-flipping, Air B&B, home squatting just to name a few!  These are two quick examples of how to exit out of land and step up to another asset class of real estate.

If you know of someone sitting on a piece of land and they aren’t sure what to do Share this article with them!