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Posts Tagged ‘real estate’

Why You Should Rent to Your Business

One of the most powerful tax strategies a small business owner has is the S corporation. Under most circumstances when a small business has grown beyond $30,000 to $50,000 of annual profits it is time to consider organizing as an S corporation or LLC electing to be treated as an S corporation for tax purposes. 

The tax savings can be significant. A sole proprietorship is taxed at ordinary rates, plus self-employment tax. For 2019 the SE tax is 15.3% of the first $132,900 of partnership and/or sole proprietorship profits. (If you have wages from other sources this is included in the $132,900. Once you exceed that limit from all these sources combined the SE tax declines to 2.9%.) Partnerships pass profits to the owners where they pay the SE tax along with income tax. For partnerships, guaranteed payments to partners and profits are both subject to the SE tax. 

An S corporation does not pay income tax. Instead, all the profits are passed-through to the owners of the entity and taxed as ordinary income only; SE tax does not apply to profits passed to owners of an S corporation. Owners of an S corporation are required to be paid reasonable compensation. The remaining profits avoid payroll taxes (FICA and FUTA) and SE tax. 

Small business owners usually want some legal protections as well. The corporate or LLC structure is available to accomplish these goals. The LLC is more flexible with additional legal advantages than straight corporate entities.

Once organized, the LLC can then elect to take on the characteristics of other types of entities for tax purposes. The LLC does NOT have a tax form at the IRS. The LLC either defaults to a disregarded entity (sole proprietorship or partnership if more than one owner) or elects to be treated as a corporation. The LLC can elect S status if they inform the IRS they want to be treated as a corporation. These are two separate elections: electing to be treated as a corporation (Form 8832) and then electing to be treated as an S corporation (Form 2553).

I discussed these advantages in greater detail in the past.

 

Proper Allocation of Assets

If you had an attorney handle your LLC set-up and a qualified tax professional handle the structuring of assets inside and outside of the business you already know the S corporation rarely, if ever, has real estate inside it. 

The proper structure of a business where the owners also control the real estate is to organize the business LLC, treated as an S corporation, to hold the business only and a separate LLC, defaulting to a disregarded entity, for the real estate. The business LLC then pays rent to the LLC holding the real estate. 

Recently a reader on this blog asked why this is important:

Comment from Hobo Millionaire:

Keith, would you mind explaining the benefit of you renting to your business vs your business buying the building and paying a note over time. Is there a tax issue with the depreciation? You can depreciate/offset your taxes and the business can’t? A specific post on this setup, showing actual numbers, would be great.

We will discuss why you never want to own real estate inside an S corporation or an LLC treated as such. 

Most of the time it is a mild inconvenience only. Then there are instances where the legal and tax problems are significant and serious.

Every issue surrounding separating the business entity from the real estate holding entity are easily remedied. 

 

Legal Problems

There is no law requiring you to separate the business from the real estate. However, the LLC is a legal structure designed to protect the LLC owners. If the real estate and business are held within one LLC, the real estate is at risk if the business gets sued. Depending on the industry, this can be a serious issue or a low-risk probability.

Separating business from real estate also makes it easier to sell fractional ownership of each easier. If the real estate is held inside the business LLC it is impossible to sell the real estate (or business) without selling the same fraction of the other at the same time. 

Example: If you sell 10% of the business LLC and the real estate is held within that LLC, you have sold 10% of the business and real estate. 

Held separately you can sell all or a fraction of either the business or real estate in any fraction you want. You can also add another member (or have fewer members) to the real estate investment without also including the individual in the business side of the equation. 

Once real estate is inside an S corporation there is no easy solution to removing it. Tax issues of holding real estate with a business inside the same LLC can be significant. 

Removing real estate from an LLC is deemed a sale of the real estate for tax purposes. This means all the gains and recapture of depreciation are currently reported and taxed accordingly. Even if you are a 100% owner of the LLC and remove the real estate from the LLC to your name only (ownership really hasn’t changed, now has it?) you will be taxed on the gains! 

Therefore, if you have real estate inside an S corporation it might be better to keep it there even though it isn’t an ideal situation. You should consult a qualified attorney and/or tax professional with experience in this area of practice to avoid making a bad situation worse.

 

Serious Tax Issues

S corporations are not taxed except in a few situations. In each situation where an S corporation does pay tax the S corporation was a C corporation first for a period of time. (Electing S status at the time the corporation is organized means there was no time when the company functioned as a regular (C) corporation.) 

Holding real estate inside an S corporation with accumulated earning and profits (AE&P) from when it was a C corporation has tax consequences. 

S corporations are subject to tax on Excess Net Passive Income (ENPI) when :

  1. The S corporation’s passive investment income is more than 25% of gross receipts, and
  2. At the end of the year the S corporation has AE&P from when it was a regular corporation.

The ENPI tax rate is 35%! Lets look at an example of where an S corporation might pay the ENPI tax.

XYZ Corp elects to be an S corporation with AE&P. XYZ has $100,000 of gross receipts this year. Of the $100,000 of gross receipts, $40,000 is passive investment income (dividends, interest, rents, royalties and annuities). Directly connected expenses to the production of the passive investment income  is $10,000.

The net passive income is: $40,000 – $10,000 = $30,000

25% of gross receipts are: $100,000 x 25% = $25,000

The amount by which passive investment income exceeds 25% of gross receipts is $15,000 ($40,000 net passive income – $25,000 25% of gross receipts).

ENPI calculation: $15,000 / $40,000 x $30,000 = $11,250.

XYZ as an S corporation with AE&P pays a passive investment income tax of $3,938 ($11,250 x 35%)

 

Easy Tax Problems to Fix

The good news is that all deductions related to real estate ownership remain intact even when you separate the business entity from the real estate entity. You can still borrow against the building and deduct the interest on the real estate holding LLC tax return, as well as, depreciation and other expenses paid and related to the property. 

You can still have a triple-net lease between the real estate LLC and the business LLC. This means the business LLC can still pay and deduct insurance costs, repairs and maintenance, property taxes, utilities and so forth. Only the interest and depreciation goes with the real estate LLC. Rent is paid by the business LLC and deducted; the rent is claimed as income by the real estate LLC. 

There are times where the real estate LLC might show a large loss due to a cost segregation study or some other tax strategy. This means your business might be earning a large profit while the real estate LLC gets a special tax benefit that allows a massive deduction which causes that LLC to show a loss.

Passive activity rules tell us we are limited in some instances, especially when our income climbs above $100,000. This is easily solved with a simple election on the individual’s tax return. (The LLCs don’t make the election. It is taken on the personal tax return level.) Having a large loss on the real estate LLC if you are a high earner would be a problem if there were no outs. 

The good news, again, is you can group the activities. By grouping the real estate LLC and business LLC activities you are allowed all the deductions as if they were one entity on the personal tax return. This resolved the passive activity rule issues.

 

Final Notes

There are no drawbacks to separating the real estate and business into separate LLCs that I’m aware of. Every attorney I’ve ever spoken with agrees with me on this. Real estate should never be held inside an S corporation or LLC treated as such. Any tax negatives are easily resolved with elections.

The issues involved with combining real estate and a business under a single S corporation are many. Legally you limit your options and put assets unnecessarily at risk. The tax problems are hard or impossible to resolve without inflicting additional tax pain.

Structured properly your business and assets can enjoy legal protections while basking in the light of lower taxes.

 

 

More Wealth Building Resources

Credit Cards can be a powerful money management tool when used correctly. Use this link to find a listing of the best credit card offers. You can expand your search to maximize cash and travel rewards.

Personal Capital is an incredible tool to manage all your investments in one place. You can watch your net worth grow as you reach toward financial independence and beyond. Did I mention Personal Capital is free?

Side Hustle Selling tradelines yields a high return compared to time invested, as much as $1,000 per hour. The tradeline company I use is Tradeline Supply Company. Let Darren know you are from The Wealthy Accountant. Call 888-844-8910, email Darren@TradelineSupply.com or read my review.

Medi-Share is a low cost way to manage health care costs. As health insurance premiums continue to sky rocket, there is an alternative preserving the wealth of families all over America. Here is my review of Medi-Share and additional resources to bring health care under control in your household.

QuickBooks is a daily part of life in my office. Managing a business requires accurate books without wasting time. QuickBooks is an excellent tool for managing your business, rental properties, side hustle and personal finances.

cost segregation study can reduce taxes $100,000 for income property owners. Here is my review of how cost segregation studies work and how to get one yourself.

Worthy Financial offers a flat 5% on their investment. You can read my review here. 

3 Steps I Took to Reach Financial Independence by Age 32

Do what this man did to become a millionaire by 32, starting from nothing. This man's story of growth is moving as we went from poverty in a rural area to massive wealth in a few short years. See what he did to accumulate his massive wealth and become a millionaire.The news feeds seem to be filled with story after story of people retiring at a very young age and how they did it. Most of the stories are very similar and goal always seems to be retirement and world travel. 

But what about the rest of us who want to continue making a difference in the world and refuse to bow to hedonism? 

Most people, I think, are unhappy doing nothing for long periods of time. Travel is fun until it becomes your full-time job. 

There are the hyper performers — the Steve Jobs’, Elon Musks’ and Warren Buffetts’ of the world — who never stop working and then there are the folks we see in the news feeds looking to check out at the earliest date. 

Most folks, however, are somewhere in the middle. They want financial independence for the freedom and security, but enjoy the social and productive nature of gainful employment. These people might work a traditional job, run their own business, consult or volunteer. 

That is what this story is about: How I reached Financial Independence (FI) by age 32, defined as net worth north of $1 million, and the steps I took to get there while retaining a happy and productive life.

The finish line will not include exotic travel. Instead, I focused on what I considered important: family and community. I still run the same business I did back then and I’m married to the same woman (31 years and counting and it just keeps getting better!). I’m most proud of my successful and happy marriage, though that doesn’t seem to sell considering the number of stories on long and happy marriages in the news feeds. 

So this is my story of how I accidentally discovered I was a millionaire.

 

Humble Beginnings

I never inherited a penny in my life and if I am so blessed in the future it will make no difference in my lifestyle. Born to a poor family in the backwoods of Nowhere, Wisconsin, I learned of family and hard work from little on. When Vince Lombardi said “Winning isn’t everything; it’s the only thing”, he gave my dad the adage, “Family isn’t everything; it’s the only thing.”

And good thing, too! When you live on a farm in the middle of nowhere there are not many folks to socialize with other than family.

We never had much money growing up is what I’m saying. We always had food on the table, but I remember when I was very young my dad put a piece of plywood across two sawhorses as our kitchen table. (Well, it seemed like luxury living to me!) We were happy because the outside world had not yet crept in to educate us to how backward we were.

Somewhere in this utopia I decided I wanted to be rich some day. It was probably the outside world sneaking in and corrupting a certain accountant in the room, but I had to be receptive to be tainted.

But there was trouble in paradise. The late 1970s were a difficult time for farmers. By 1982 when I graduated high school the writing was on the wall and I was oblivious. 

Less than six months out from graduation the farm was gone. I had no skills to sell in a world not hiring. In 1982 no employer was hiring in the county I lived in. It was so bad employers no longer kept up the illusion and didn’t waste paper giving you an application. The answer was NO!

I managed to save a bit in this environment. I turned 18 with a couple thousand to my name and no debt. 

 

Budding Entrepreneur

The money I had came from a variety of sources, a common theme in my rise to FI. In high school I got up every morning to milk cows at 4 a.m. After school I started milking cows again for 4 hours. I pulled a lot of teats, folks. You might laugh at that, but you would lose that grin if you were there.

For 56 hours per week I milked cows, plus other farm chores, and was paid $40 per month for the effort. I spent nothing! Not because I was smart, but because there was no place to go to spend the money. Town was a long walk and there weren’t many stores in the closest towns.

My freshman year of high school I joined the Future Farmers of America (FFA). To raise money members of FFA sold light bulbs. (Back then we only had the incandescent bulb which burned out a lot.)

I took to selling like a duck to water. I talked to everyone in town and every farmer within a day’s drive (I might be stretching the truth a bit). And when the light bulb drive was over I had sold more light bulbs than anyone in FFA history by a very large margin. 

I could sell. That is an important trait other articles on FI don’t mention. Working a job with good wages and benefits and living a frugal lifestyle has several glaring problems.

First, you might not have a high paying job. Minimum wage is not going to get you there by age 32.

Second, you might live in a high cost area of the country. 

Third, formal education and high IQ — and EQ — also make a difference

Forth, it assumes you are in good health.

Fifth, that you never lose that high-paying job while running for FI.

I certainly wasn’t connected and let me be honest here. I, ah, ahem, don’t have a college degree either. {cough} 

You heard me! I did take some college courses, but not enough credits or the right combination for even an Associates. And here I am with my enrolled agent license (the EA is a licence, not a degree) teaching other tax professionals and hiring highly educated people, some of whom have moved on and work for the IRS now.

Not being the smartest guy in the room or with the right education (or pedigree, I might add), I wasn’t on anyone’s radar as Most Likely to Succeed. So what did I do to reach FI so young?

 

3 Steps to Financial Freedom

From graduation day to my 22nd birthday I put those selling skills to work and managed to accumulate a $200,000 nest egg. And remember, this was back in 1986 when $200,000 was serious money. A $10 an hour job was good money in those days. (And I walked up hill to school (both ways) in snow all year around. Just sayin’.)

FFA decided to expand their light bulb fundraising to include garden seeds. There were no records to break as it was the first year offered. Needless to say, I sold a lot of seeds too. (Would you like some light bulbs with those seeds, sir?)

Ditch the job and start living. No more daily grind for the man. Instead, use these 3 steps you build your fortune. #retirement #job #finance #work #wealth I bowed out of selling for the school my junior year and started selling imported goods wholesale to retailers (and anyone else who would buy). I got my supply from a company called Specialty Merchandising Corporation (SMC). Oh yeah, those were the days. And, oh what a lesson I learned.

You see, people will buy over-priced cookies from young girls when it feeds corporate headquarters of a non-profit. But start selling stuff to line your own pocket and the number of “yeses” to “nos” changes radically!

So I improved my skill sets.

By the time I reached the age of majority I accumulated more experience than wealth. Sure, I had some money, but I wasn’t flush. The family farm was gone and that avenue of gainful employment with it.

I worked a short time in my dad’s agricultural repair business. It was tough sledding for dad back then, too. He’s doing well now, but in 1982 it wasn’t a pretty sight.

While working for dad earning a meager wage (money was preserved to pay other employees and to get the business profitable enough to feed a family of four) I worked 80 or more hours per week (record week on the job: 122 hours). I supplemented my income preparing taxes in the winter months. 

Before we knit our eyebrows in dad’s direction, understand it was survival back then. I worked long hours 7 to 9 months of the year (depending on the weather); January and February were light so I had time to prepare taxes. Late May got really busy and for the rest of summer and autumn. So I could earn more in a few months doing 50 or so tax returns than I could working day and night the rest of the year.

To be fair, dad paid me $40 per week, if memory serves, and later, $100 per week. (After I got a raise I quit. Ungrateful kid.)

Readers quick at math will realize this doesn’t add up to $200,000 in 4 years. And that is where we begin our journey of Steps to FI:

 

Step 1:

Unless you make a lot of money at your traditional job you will need multiple sources of income

Let’s count where all my money came from. 1.) Dad was paying me $160 a month, 2.) I was still selling SMC and profits were growing, 3.) I was preparing a small number of tax returns with virtually no expenses (gross margins approached 100%!) and, 4.) interest and dividends.

Interest rates were sky high in the early 1980s. Passbook savings accounts (remember those) paid a minimum of 5%, but most bank products yielded near or over 10%.

While bank interest was guaranteed and the rates mouth-watering, I decided I wanted to own a piece of America by owning stocks. I fondly remember one of my first purchases, a company called, ah, what was that now, oh, Phillip Morris (MO). And I owned a piece of Wrigley, too, until Warren Buffett screwed it up by funding the buyout of Wriggly by Mars, Incorporated for cash. 

I still own those shares of Big MO, now called Altria. The dividends were and are a growing part of my income and don’t think for a moment I didn’t realized the value of getting paid for not working; just for own a piece of a business.

I can’t stress enough how important it is to have more than one source of income. If all your income sources are in one basket and that basket withers you are screwed. You might put all your eggs in one basket with a business since each client is a separate income stream, but relying on one traditional job as your only financial resource is problematic. A simple layoff can destroy all your plans.

 

Step 2:

A few years later I got it in my head I would invest in real estate (RE) and go full-time as a tax professional. SMC died on the vine as I focused on building my practice and managing my RE investments.

Which leads to the second step I took toward FI: I owned income producing things (RE and the business) that I had a reasonable amount of control over. 

A job can disappear just like that through no fault of your own. The company can go belly up, the economy can slow, or your job gets outsourced.

Business and real estate have plenty of risk, but it was risk I could control. The Tax Code is never going away and when people try to stop paying less in tax I’m in trouble. Until then I’m golden. 

RE is also risky and comes with a mortgage to increase the incentive to get those units rented. Doing proper research before buying and joining your local apartment association (as I did) and applying some sweat equity increases your chances of success.

I used Step 1 above in RE as well. One vacant unit, if that is all you own, is a 100% vacancy rate. I bought several properties fairly quickly because I knew a few vacancies would only be a nuisance then rather than a catastrophe. 

I worked hard at my businesses. There was no free ride for this backwoods boy. Sometimes it hurt, a lot. There were times I didn’t know what to do. But I never stopped learning and never backed away from labor: manual or desk work.

In Step 2 I structured several income streams into something I had at least some control over.

 

Step 3:

You would think after my business was profitable and the rentals started throwing off reasonable income I could lean back and enjoy the ride. And if you think that you are wrong!

Retire early with these 3 steps used by a wealthy accountant to retire at 32. Early retirement can happen if you follow the simple steps this man used. #FIRE #financiallindependence #money #wealth #earlyretirement Before it was made popular by the tech industry, I always pushed my business into new territory. My goal was to create the company that would replace my business before competitors do.

I was the first in my community to offer free electronic filing. That might not seem like much now, but back then it caused my tax practice to grow explosively. When Wisconsin offered e-filing I was first on the list because the state knew I offered it for free and had no fraud cases. In other words, I could offer State of Wisconsin e-filing in my Wisconsin community for free before competitors could even offer the service. By the time e-filing was rolled out for all I had a commanding lead.

I also sold life insurance in the business for a while. I was never big on traditional life insurance, but key-man and for buy-sell agreements it made sense.

I was also a stock broker for a number of years before I realized I’m a tax guy first and hawking high-fee investments rubbed me wrong.

You can read this blog and see example after example of things I tried. Some ideas worked great; others I’d rather not mention (but share anyway so you benefit from my experience). 

And that is Step 3: Try an idea. If it doesn’t work, step back and reevaluate, then try again until it works. Never over-commit. Test small before jumping in with both feet. You don’t want to do something that destroys what you’ve built to-date. Once you determine you have a winner you can expand. Remember, most ideas don’t work! Trying a lot of ideas to see what works best before committing serious resources is a better way to reach FI at a young age.

 

Accidentally Get Rich

Of course, you need to avoid debt as much as possible and pay it down quickly when it arrives. You also must spend less than you earn if you are ever to build real wealth. You’ve heard it all before. It’s really simple. Spend less than your earn; invest in index funds; wait. If you want faster you better be good at sales or business; preferably both.

And this is where it gets interesting and how I discovered I blew past a $1 million net worth without even knowing it!

From age 22 to 32 a lot happened. My business grew and I got married. (Marriage brings in additional considerations.) Mrs. Accountant was open-minded, allowing me to funnel excess cash into investments rather than a higher lifestyle. I went from around $200,000 in cash to $1.2 million.

Remember the real estate investments I had? Well, eventually my dad, brother and I started a partnership with one-third ownership each. We bought a lot more properties. 

The bank that funded our RE holdings required we provide a personal financial statement every year or so even if we were not borrowing more money.

So I sat down to figure out what I was worth. I valued all RE holdings at what we paid for them rather than what I thought they were worth minus mortgages. I added retirement and non-qualified accounts. I valued my tax practice at zero and the practice had no debt (I only had real estate debt at the time).

As I added the values of all the accounts it started to dawn on me I might be a millionaire. I had a good idea what my share of the mortgages were and the assets were climbing too far above $1 million to drop below that level once mortgages were subtracted. 

When I struck the double lines below the bottom number it was clear I surpassed $1 million by a large enough margin to say I was a millionaire. 

Mrs. Accountant was in the dining room clipping coupons. I shared the good news. All she said was, “That’s nice,” and kept clipping coupons.

You see, I was more important to her than any amount of money. She lives frugally as I do and enjoys every day we are together. She saw, better than I, what was really important.

It was a let down in so many ways. Mrs. Accountant wasn’t excited about the money! I didn’t feel different either. I missed the big day when I crossed that magical seven-figure number. There was no bump or turbulence to indicate I crossed into another zone of existence. In reality nothing had changed; only my mindset.

Once I digested that it was only a number I decided to do what I always did. I tried lots more things, grew my business and expand my sources of income, much of it passive.

You see, I learned the most important step of all: It’s the journey that matters, not the destination. And I had the best mate in the world along for the ride.

It was that day when I was a 32 year old man that I learned to live life for the first time. Live, for Real. 

And I discovered I was always wealthy as long as I had my family.

 

 

More Wealth Building Resources

Credit Cards can be a powerful money management tool when used correctly. Use this link to find a listing of the best credit card offers. You can expand your search to maximize cash and travel rewards.

Personal Capital is an incredible tool to manage all your investments in one place. You can watch your net worth grow as you reach toward financial independence and beyond. Did I mention Personal Capital is free?

Side Hustle Selling tradelines yields a high return compared to time invested, as much as $1,000 per hour. The tradeline company I use is Tradeline Supply Company. Let Darren know you are from The Wealthy Accountant. Call 888-844-8910, email Darren@TradelineSupply.com or read my review.

Medi-Share is a low cost way to manage health care costs. As health insurance premiums continue to sky rocket, there is an alternative preserving the wealth of families all over America. Here is my review of Medi-Share and additional resources to bring health care under control in your household.

QuickBooks is a daily part of life in my office. Managing a business requires accurate books without wasting time. QuickBooks is an excellent tool for managing your business, rental properties, side hustle and personal finances.

cost segregation study can reduce taxes $100,000 for income property owners. Here is my review of how cost segregation studies work and how to get one yourself.

Worthy Financial offers a flat 5% on their investment. You can read my review here. 

The Best Rental Property You Can Buy

Fool-proof real estate investing. Investing in real estate is easy and profitable if you know a few secrets to success. Buying right is the first step. Real profits are found by renting to the right tenant and keeping them.It’s official. I’m back in the real estate business!

Before you get too excited, let me explain. Waaaay back in the day I was a third owner of a real estate partnership with my dad and brother. We bought investment properties of all kinds. We specialized in single-family homes, but owned plenty of multi-unit buildings, storage and rooming houses. 

My partners were more along the lines of the silent kind. I, of course, could bounce ideas off them, but the workload fell on me. I hired maintenance staff and crews and was always interviewing potential property managers. Before we closed shop we had taken an interest in 179 buildings (not all at once). At the peak we had somewhere north of 80 units scattered all over NE Wisconsin.

We sold properties frequently once our inventory grew. We held some properties longer — our first property was one of the last to be sold.

After we were in the business a few years we gained a reputation for renovating run-down properties. I used these as a way to generate cash for long-term real estate investments.

Eventually a few local cities had us on speed-dial when they condemned properties. We picked up these rat-traps for pocket change ($5,000 or less). Spent $40,000 or so renovating and sold for $70,000 or so; rinse and repeat.

Buying and selling (and managing) so many properties eventually caused me to burn-out. It was a good (if not sometimes a dirty) business. I washed my hands of investment properties and sold en masse.

For years we were buying and selling multiple properties per month. Now I was just selling. 

 

Investing with a Purpose

The last rental property in the partnership was sold in the year 2000. I never thought it was more than a passing phase of my life. I did the real estate thing and was content. 

Except I wasn’t really out of real estate.

When $40 million of real estate transactions cross your desk in 12 years you learn a few things:

  1. Real estate agents are full of schmoo. They are in the business of selling real estate and will say whatever necessary to earn a commission. (I have changed my opinion on this and think agents are vital in the buying, selling and managing of RE.)
  2. Real estate investments are “passive” only in the Tax Code! Buying the right property takes work. Maintaining properties — even with a property manager — also takes work. Index funds are truly passive.
  3. Real estate isn’t a free ride to wealth.
  4. Tenants are people and people are not always fun to work with, especially when they owe you money and while they live in your property.
  5. Good tenants are awesome and should be considered for inclusion in the next family reunion.
  6. Bad tenants cause normal accountant’s to reconsider bringing back debtor’s prisons.
  7. People are destructive, especially when they don’t own it.
  8. No money down deals are not the best deal going unless you’re selling a real estate investment course on late night TV (back in the day) or on Facebook (today’s version of late night TV).
  9. Work doesn’t get itself done so stop crying.
  10. All this said, RE can be a powerful income source with plenty of wealth building qualities. And that is why I am back.

The Best Tenant

As I alluded to earlier, I never really got out of the RE business. In 1995 I bought the current office building I rent to my tax accounting practice. This building generates $36,000 of annual rental income and the tenant is the best I ever had! For some reason the tenant and I always agree. Go figure!

How to find the best and most profitable tenants. Buying a rental property is only the first step. Finding an keeping the best tenants is vital to success. Supercharge your real estate profits and make it fun at the same time. #realestate #investmentproperties #tenants #rentals #profitsSo, the best tenant you will ever have is you. But if you don’t have a business (treated as an S corp, I might add) this opportunity is unavailable.

There is a runner up option nearly as good, however.

To understand this second option I need to explain my mindset. When researching an investment (or tax deduction, or investment or. . . ) I prefer more than one out.

What do I mean? More than “one out”.

As an example I recently commented that I prefer more than just a deduction for my retirement contributions. This means the tax break isn’t enough on its own. When planned correctly, a retirement plan contribution can open up additional tax breaks. This is the doubling and tripling of benefits I call more than “one out”.

In real estate it is the self-rental concept that provides multiple values: a dream tenant, fills a business need, rental profits and tax benefits all go to my best friend (me) and no bad tenants. Under the Tax Cuts and Jobs Act of 2017 it also opens the opportunity for more of a Qualified Business Income deduction. 

 

Another Awesome Tenant

This Sunday my oldest daughter, Heather, graduates from college. She had a lot of false starts as she found her way and daddy refused to provide a free ride. (The first test of college is getting there. Loans and daddy are not a part of “getting there”. Scholarships, a job or business and hard work are.) 

The best and most profitable investment properties to buy. No matter how high real estate prices climb, profit is made by renting to the right tenant. This fool-proof method of property management can send your profits to the highest ever while virtually eliminating problems. Make being a landlord fun. #landlord #rentals #profit #realestate #investmentpropertiesHeather won several awards along the way and served as an officer in PTK this last year. She has matured a lot.

She also fleshed out a business. She is returning to China this summer after finishing a tour in South Korea teaching English as a second language. 

Her business involves tutoring and she has several product ideas and services coming online. And, smart girl she is, tested everything and never quit just because an idea failed. She learned and grew with each step. And now it is time to move out and tackle the world for real.

And this is where my renewed RE adventure begins.

Heather tried living near the campus while in college, but got an eyeful of the idiocy of the average young adult. She also experienced bad landlords and roommates.

So Heather took control and decided she would pick her roommates this time versus the school or landlord. She wants to keep costs low, sharing the expenses of renting with a roommate, while being closer to her clients (she’s been invited to several local schools and universities to teach). 

She found the right roommate after screening out several. Then she started researching accommodations and running numbers. 

Then she told daddy. Daddy almost lost it!

Rent has changed in the last 20 years! (God, I’m getting old.) Rents were from $850-$1,200 per month on average and they were nothing fancy either. (Yes, we live in a pretty reasonable market yet.)

This caused my accountant mind to start shaking out the rust and think about this situation a bit. It became clear, after a cursory review of available local duplexes and 4-plexes, that it would be better if I bought a property and rented to Heather and her friend. 

And that is where we are at. I’ll purchase a property this summer before Heather returns from her South Korea/China trip and her friend starts her next semester of classes. Both have jobs and adequate income. 

 

Doing it Right This Time

All this assumes you have a responsible child. There are plenty of horror stories of parents buying a home for their child and getting killed financially. 

I would not have considered this even a year ago. (She could have remained living at home with mom and dad if necessary.) But Heather has finally reached the tipping point. Her business has reached critical mass and she has a waiting list looking for her services. 

Heather was ultra picky when vetting potential roommates. She wanted two roommates, but could only find one worth keeping. For now.

You might be tempted in a situation such as this to have your child manage the other units. It’s an insane thought so drop it fast! Heather is a teacher and business owner with no skills in — or desires for — property management. 

Heather and her friend will pay rent to me with a regular rental contract like any other landlord/tenant relationship. We do it by the book.

The remaining unit/s (I have my eye on a 4-plex, but will settle for a duplex) will be managed by a professional property manager.

I have no interest in managing RE ever again so a manager is a must. The only advantage of having my daughter live there is the updates on the needs of the property (something needs fixing or updating). Unless she says anything, the other tenants will not know her relationship to the landlord. Squeak, squeak. 

 

Final Notes

This wasn’t a numbers post on how to buy the right property at the right price; I did that previously

This post should help you start thinking about the additional benefits of RE ownership beyond the mere rental income (the doubling and tripling of benefits). 

Renting to your own business is a no-brainer in most real estate markets. The high-priced coastal cities of the U.S might be an exception, along with Denver. Of course that could change over time.

Rent has an element of profit (or at least it should). Slumlords take shortcuts to keep their rents lower, but you don’t want to live there. Good properties, good apartments, cost money. And good landlords are as hard to come by as good tenants. There are plenty of them out there but they are already renting their apartment from a good landlord and have no intentions of leaving anytime soon.

The next best option is renting to a responsible family member. This isn’t an easy road. My youngest daughter isn’t close to being there. Heather made the leap recently which gave me the idea and hence this post.

Doing it right means buying the right property that cash flows out of the gate and having a property manager handle the rest. 

Heather may find additional tenants for me from her work, but it still will all go through the property manager. I’d rather pay a fee than spend time managing the property

It’s the right thing — and profitable — thing to do.

And, of course, this assumes you buy a quality piece of real estate and maintain it.

 

 

More Wealth Building Resources

Credit Cards can be a powerful money management tool when used correctly. Use this link to find a listing of the best credit card offers. You can expand your search to maximize cash and travel rewards.

Personal Capital is an incredible tool to manage all your investments in one place. You can watch your net worth grow as you reach toward financial independence and beyond. Did I mention Personal Capital is free?

Side Hustle Selling tradelines yields a high return compared to time invested, as much as $1,000 per hour. The tradeline company I use is Tradeline Supply Company. Let Darren know you are from The Wealthy Accountant. Call 888-844-8910, email Darren@TradelineSupply.com or read my review.

Medi-Share is a low cost way to manage health care costs. As health insurance premiums continue to sky rocket, there is an alternative preserving the wealth of families all over America. Here is my review of Medi-Share and additional resources to bring health care under control in your household.

QuickBooks is a daily part of life in my office. Managing a business requires accurate books without wasting time. QuickBooks is an excellent tool for managing your business, rental properties, side hustle and personal finances.

cost segregation study can reduce taxes $100,000 for income property owners. Here is my review of how cost segregation studies work and how to get one yourself.

Worthy Financial offers a flat 5% on their investment. You can read my review here. 

Investment Commercial Real Estate Profits and Pitfalls

Residential investment property is forgiving for the most part. Professional managers exist in most markets and except for the very worst of conditions it is possible to fill most apartments even if it is not at a profitable rate.

The number of residential properties available is large and unloading a single family home or duplex is fairly quick and simple. Many economists consider a six month supply of homes on the market a healthy balanced market.

Things get slightly less forgiving when you graduate to multi-unit apartment complexes. There are fewer to select from, they cost significantly more, there are more tenants to manage and it usually takes longer to sell the more expensive buildings. Not as many investors can swing a multi-million dollar deal or even finance one.

It might not be intuitive, but the more expensive the property the more likely it will be purchased as a cash deal. Big buildings carry big responsibilities and risks, but also are coupled with larger rewards.

Generally the rules are straightforward with residential rental properties. Lease contracts are generally standardized in most states and the landlord/tenant rules are clearly defined. The laws tend to protect the tenant more than the landlord. Still, the landlord, if she bought right, should turn a tidy profit.

Real estate investors usually start small, a single family rental or duplex, moving up to multi-unit buildings later. Most landlords stop at the duplex level with maybe a 4-plex or so tossed in for good measure.

The next leap takes courage. Financing a large deal is more difficult. Only a select number of banks are willing to fund a seven figure project. You need good credit, experience and a documented plan. At the end of the day the multi-unit complex is still a forgiving animal in the real estate world.

Then there is the commercial property.

Rules Change

Investment commercial property is a whole different animal. Commercial property spans a wide range, including: land, farm land, land for development, parking lots, storage units, malls and strip malls, gas stations, office buildings and on and on and on.

All real estate must be purchased right to yield a respectable profit. I encourage you to read this article I wrote on the math of buying residential real estate correctly. Rather than repeat what I already said we can move forward.

There are significant differences in buying and managing commercial real estate. The linked article above is accurate with one caveat: vacancies. It is unusual for residential real estate to remain vacant for more than a few months. Commercial real estate can remain vacant for much longer periods of time, even years.

The office building I own for my accounting practice was empty for a few years before I purchased it. The previous owner was willing to sell or lease the building. It just sat empty.

My personal experience in real estate centers on residential properties. Most commercial properties were purchased for use by a business I own. I love my landlord; I love my tenant. Rarely do things work so peachy when you are not on both sides of the deal.

Without personal experience in commercial property I still have plenty to share. Many clients over the years engaged my services to buy, sell, and negotiate leases for their commercial properties. So I may not have had much commercial property in my personal portfolio, but I have plenty of experience with the mechanics of profitable commercial property investments.

Risks and Rewards

Financing: Once you own commercial property for a while you either go broke or make so much money you tend to pay cash for additional properties. In the beginning you will probably need a bank or seller financing. Commercial loans tend to require a larger down payment (20-30% or more), have a higher interest rate and a shorter amortization period. Many banks have a balloon payment rather than play out the entire amortization of the balance or require refinancing of the existing loan every five years or so. Some of this is specific to certain markets and the lender. The type of commercial property also plays a role. Farmland generally needs 50% down or some other collateral. Office buildings may need 30% down while developments may require bank refinancing on a regular basis.

First you find the right property at the right price then you finance it. BUT, it would be in your best interest to have financing available in advance. If the seller demands they finance the deal (for tax purposes) you are still covered.

Lenders will pick a commercial deal apart and for good reason. The money involved is usually large. Using the above link as a guide to ensuring you purchase a profitable property will help in the process. Payments will be higher due to the higher interest rate and shorter amortization. Since vacancies tend to last longer in commercial property the lender will require greater resources to survive any drought.

Leases: Residential rental rules are standardized with laws slightly favoring the tenant because legislators assume the landlord has more resources, hence the advantage. Not so for commercial real estate.

The landlord and tenant are on an equal footing in a commercial contract. No longer do you have standardized rental rules. Commercial leases are business contracts. Both parties need to lawyer up.

Typically the landlord has her attorney write the lease and the tenant’s attorney reviews the proposed lease before requesting changes. Many of the details of the lease are known in advance because the prospective tenant starts the process by providing the landlord with a Letter of Intent outlining the property they want to lease and the terms. Negotiations take place before the lease is written. The LOI looks a lot like a legal contract, but is not binding on either party.

Commercial leases frequently are triple net or nnn-leases. This means the tenant pays the property taxes, maintenance and building insurance in addition to utilities. This is something you never see in residential rentals.

Triple net is nice for the landlord. Once a property is leased the only real expense for the owner is the mortgage and maybe the property manager. Major repairs such as the roof, HVAC, parking lot or other major repair over a certain value may still be the responsibility of the landlord.

Commercial leases tend to be for a longer period. Whereas residential rentals are generally handled with a one-year lease, commercial leases frequently extend five years or longer, sometimes much longer. The longer term lease allows the tenant to feel comfortable they have continuity for their business and the landlord is happy because she has a long-term tenant.

The one thing to remember about commercial real estate is that business law applies. I cannot express strong enough the need for legal counsel in managing a commercial transaction. As smart as I think I am when negotiating a multi-million dollar deal for a client, I know my legal team must be involved every step of the way.

All this said, not all commercial real estate is equal. Farmland will not follow the above facts I list. Most farmers rent land for a set rate per acre and the landlord pays the property taxes, or, if agreed, the property taxes are included with the lease payment. Farmland rent is usually paid once per year or semi-annually at most.

Storage units look and act a lot like a residential rental unit, but it is still a commercial lease. There is no triple net with storage units. The biggest difference between a residential rental and a storage unit is that storage units are generally month-to-month leases.

With a storage unit your attorney will probably draft a template lease which you can use with each lessee without going to the attorney for each unit.

The larger the office building or leased space the more elaborate the lease can become. An experienced negotiator should be involved in the process. Small strip malls and office complexes are handled by a property manager specializing in such properties. Large buildings require an experienced team handling the process from beginning to end. You will usually not be involved in the actual negotiation; your team handles that.

It is vital you have an experienced team on your side. I have played point in negotiations where several accountants and attorneys are sitting on opposite sides of the table. My ability to see the big picture inside the negotiation has earned me the trust to lead teams in these matters. However, I always have counsel available to me.

The Good News

Commercial real estate looks like a lot of work. It can be. Usually you have a team in place to handle most of this stuff for you. Your job is to buy the right property and let the professionals handle the rest for you.

Commercial real estate has its unique challenges, but the rewards are worth it. A fully leased commercial building can pay the owner the value of the property every 7-10 years. Since many leases extend this long, one tenant can buy your entire building for you, cash, and you keep the building so you can do it again. The downside is the thing might sit empty for three years before the money starts rolling in. Commercial is unforgiving to the ignorant.

Reserve requirements for commercial property are larger. Most repairs are paid by the tenant, but when a repair bill is the responsibility of the landlord it is usually a very big amount involved. Resources are also required to handle the long periods of vacancy.

The best part about commercial property is that once it is leased you don’t do much. Lease payments are often times paid by EFT; you don’t even have to go to the bank and cash the check. A property manager handles finding a tenant and your accountant or attorney handles the transaction. As unforgiving as commercial real estate can be, the only real work involved is buying the right property at the right price. Professionals handle the rest.

As a final note: Don’t rush to buy commercial property. It might be best to start with a small commercial property or have an experienced partner early on before going out on your own. You will need a local attorney, accountant, banker and property manager. A lot of money is involved. Do it right and you should be very happy with your commercial real estate investments.

Do it wrong and you could end up bankrupt.

Owners of real estate purchased for $250,000 net of land need to read the following posts I wrote previously:

Cost Segregation

Applying Cost Segregation on a Tax Return

The best part of owning real estate is the tax advantages. Most investors leave tax dollars on the table. If you want to discuss cost segregation benefits contact my office (there is a consulting fee) using the contact link on this page or call Randy. His contact information is provided in the above linked posts.

Fighting the Profit Train

One of the mantras of the FIRE (financial independence, retire early) community is the owning of income property. With rare exception, investors do it all wrong, taking on extraordinary risk for no reason.

Side gigs are handled the same way. Whether you run a full-fledged business or a side gig, you probably make the same mistake real estate investor’s do.

Americans love to invest at home. There is a tendency for people from all countries to focus their investment dollars in the domestic market. The comfort of understanding the local business climate clouds the investor’s judgment. American’s are the worst. For decades I have recommended 70% S&P 500 index fund/ total market index fund and 30% international index funds for my American clients. This is still weighted heavily toward U.S. companies. The diversification in broad-based index funds with a third of the portfolio in international is a good mix in my opinion. Small business owners and real estate investors rarely make such a sound decision.

Stay Close to Home

I am just as guilty on this issue as you are. When I started my real estate empire (I owned way to darn much) I bought locally only. When I needed more opportunities to keep the empire growing I expanded the circle from the local city to the county to NE Wisconsin. Hundreds of buildings and not a one was outside NE Wisconsin! Stupid.

I see the same thing today. People want some side income to accelerate their retirement date so they buy a couple rentals locally. Unless you are lucky enough to live in a market where real estate prices are conducive to profits for investors, you are taking extraordinary risk to keep things close to home. Most markets are not prime for income property investment. It takes work finding the right property at the right price in the right community.

Imagine owning income property in Detroit in 2008. Your idea of diversification was to buy a handful of properties around town. Then reality set in. Real estate prices collapsed along with the local economy. Many areas of the city never came back. If you were lucky you might have owned properties in “good” parts of the city. Then again, areas of town where most income properties reside are not always the “best” parts of town.

Luck plays a role in our success. In my instance I invested heavily in the local market and sold before things went south. My idea to sell was based upon burnout, not some high level of intelligence of when to buy and sell real estate.

Spread It Out

Most investment property owners in my office make the same mistake I did. It usually works out because NE Wisconsin has been a forgiving real estate market for the most part. RE values declined around 2008, but rents and occupancy rates stayed solid.

A few clients are smarter than me. They invest in income property over a national footprint. Today, most markets are not priced for income property ownership. The numbers just don’t work. A serious investor understands her local market might lack opportunity for investment. If she is smart she will look to other markets for opportunities.

Keeping it close to home is comfort food to the investor’s mind. We can visit our property anytime with little effort. We can save money by doing repairs and maintenance ourselves. We can manage our own property, too. These actions bring down the cost of ownership while valuing your time at a low level. (Remember, every property cash flows if you pay cash for the property and do all the work yourself.)

Smart investors hire the work and management done. Smart investors invest and refuse the siren’s call of doing every job themselves. (Jack of all trades, master of none.)

Investing in communities where rents justify the purchase price of a property is vital to successful real estate investment.

The longer I write this blog, the more people I meet who own several properties in several areas of the country. The wide distribution of their holdings increases the chances they will always be successful in this area of their portfolio. Issues with one property will not spill into other properties. Regulation changes in one city will only affect one property, not the entire portfolio.

Best of all, by having RE investments a great distance from home, the tendency to “take care of it yourself” is diminished. Property managers are required when investments are spread out. Like an index fund, you let someone else handle the bull work. You are the investor only. You buy right and let the managers do their job while you buy more awesome investments.

Do as I Say, Not as I Do

“Forgive me Father, for I have sinned.”

It has been a while since I went to confession. Actually, I am not Catholic so I never went to confession so now is a good time to clear my conscious of past sins.

You heard my confession on concentrated real estate investments. It gets worse. Business owners focus on local markets more than RE investors! Sometimes it works out. Then again, sometimes 2008 purges a great number of businesses, destroying a small business owner’s lifetime of work.

Once again I was lucky. I started my practice and focused solely on the local market. In the early days any out of state tax returns happened by accident. By 2000 I knew this was an issue. I expanded my reach to all parts of the country. Little did I realize the importance of such a decision. By increasing my skills preparing taxes in all the states, I prepared myself for the day when this blog would deluge my office with non-local tax returns. Good thing I had experience to draw from.

The hard part for my firm is hiring people qualified to do such returns. Employees make the same mistake of limiting their skill sets to a local market. Then reality sets in. Mix and repeat and you have a clear picture of the timeline of most people’s lives.

By 2005, nearly a third of my tax clients were outside the local area serviced by my practice. Today over half my clients are non-local.

Show Me the Money

Why do I share this information? Simply, profits. The comfort gained by remaining local only not only increases risk of failure, it keeps profits lower.

We will use my practice as an example again. Preparation fees are quite reasonable in my vicinity. This is great for clients, but terrible for the owner if you want to earn a decent living doing what you love. Certain clients are more profitable than others. Other areas of the country have better preparation fees.

Let me be clear, this is not about screwing the client over profits! Higher fees allow me to hire more people at a higher wage, meaning I can attract more qualified tax professionals. Even offering a higher wage doesn’t guarantee top-notch tax pros. God knows I have struggled finding people performing at my level in the tax arena. (Imagine the difficulty in finding high level professionals for seasonal part-time work!) But if I don’t offer the higher wage (and have the resources to do so) I will never attract AND keep high quality people.

My fees are not much different for clients in different states. My fees ARE higher when people have larger returns that include multiple states. Revenues and profits rise because I have a much larger pool of profitable clients to draw from. A local plant closure will affect only a few clients. As a result my firm is more recession proof than ever before.

Never Again

Readers of this blog know I tend to be a slow learner. I want to hold on to preconceived notions as long as I can before fessing up. My real estate holdings and tax practice concentrated efforts locally. Not so with this blog.

Admittedly, it is easier to think with a larger geographical footprint with a blog. Readers come from all corners of the world. I now have tax clients from Russia, Peru, Spain, the United Kingdom, Canada, Australia and more. Understand, these are Americans living abroad. Over diversification can spread a firm too thin. I do U.S. taxes only! And a lot of Americans live outside the U.S.

Can you image how stupid I would look if I wrote this blog for the local community only? My readership could be counted on fingers and toes. Local folks don’t always appreciate my humor for which I humbly refuse to apologize. The entire population of the county I live in is under 50,000. My monthly page views are approaching that level.

Building a wall around yourself only limits opportunities for you. Your competitors will not subscribe to such limitations. To build a secure investment property portfolio or business you need to cast a net. The larger the net the more fish you will catch. It’s a simple law of physics.

I can see it already. You, my dear readers, will be doing some soul searching today as you review your investments, side gig or business. It’s okay. I was there, too. I cleared a path as I stretched out into the great beyond. I’ll be waiting.

Lessons Learned: Investment Properties

IMG_20160721_081232When it comes to passive income, real estate is king. A small investment can be leveraged into a massive cash cow. This is the second in a series of posts on lessons learned. Some lessons in life come from clients or from watching clients deal with issues. With investment properties I pull from personal experience. Over the years I have owned over 100 single family homes, numerous duplexes, a few multi-unit buildings, a storage facility, commercial property, and farm land. The lessons I have learned buying, selling, and leasing real estate over the last 28 years should provide a few nuggets of wisdom you have not read before. This added wisdom hopefully flows to your bottom line.

Residential Real Estate

We will start with residential investment properties because I have more experience in this arena and most readers own/manage the same; I will address commercial property in a future post.  The issues I raise are only a sampling of the issues I find most relevant; a full review of investment property issues is beyond the scope of one blog post. The best approach is to start from the beginning and move through the lifecycle of an investment property, from purchase, to renting, to eventual sale.

Buy Right: The first step is the most important. Buying the right property at the right price will determine the profitability of your investment property. This is a good time to research rent rates in the neighborhood. Many landlords use the 1% rule to determine if a property is worth buying; I use a different method.

The 1% rent rule simply states rents should be 1% per month of the purchase price/value of the property. This is a good starting point. Low interest rates today turn more properties cash flow positive under this rule.

My rule is a bit more involved, but provides more assurance you have a good property. First, I only use the current rents of the building. Sellers always point out the ability to raise rents. If rents should be higher the seller should have raised them. I also check rents in the area to affirm the current rent rate is sustainable. Once I feel comfortable with the rental income situation I look at expenses. I always assume a no-money-down deal even if I pay cash for the property. By assuming the property is leveraged to the hilt I can determine if the rent minus expenses supports the property’s value. My calculations always include a 3% miscellaneous expense to cover deferred expenses such as a roof, furnace, siding, flooring, or improvements unless a higher percentage is warranted due to the condition of the property. The formula looks something like this:

  • Annual rent income, minus
    • Mortgage payment as if 100% leverage used,
    • Landlord paid utilities,
    • Insurance,
    • Taxes,
    • Management fees, if any,
    • 3% miscellaneous deferred maintenance
    • Other known expenses

Once all known expenses are deducted from the annual expected rent you get a number that must be positive. A negative number is a money loser before you even start. If the number is above water you have a decision to make. It is enough? Remember, a breakeven number means your cash investment portion is earning what a mortgage would earn. That is why I assume 100% leverage. If I pay 100% cash I expect my money should earn at least what the bank charges in interest. Of course a cash deal will cash flow if you do not consider your cash investment as worth anything?

The real trick here is determining any special events. Road construction or other city improvements can cause cash flow problems down the road. Research before you sign.

This VA repo made the partnership a generous return.

This VA repo made the partnership a generous return.

Finding the Right Property: Many communities have properties where the rent does not justify the property’s value. Still, deals can crop up here and there even in tight markets. Buying right takes time. It is easy to lower your standards when ideal properties are scarce. Bad idea! I would rather miss a deal than buy the wrong property. Remember, there will come a day when you want to sell. Issues when you buy frequently stick around and bite you when you sell.

Here are a few ways I found a large quantity of prime properties. My first rental property was a two-unit townhouse on 833 E. North Street in Appleton, Wisconsin. The owner was a man in his young 30s. He died of an aneurism. The family did not want the property so the bank got it back. I made the bank whole by paying $50,000. The rent was $485 per unit. I made money on the deal. Two years later I sold for exactly $75,000. I think we can agree I had a wonderful introduction to the investment real estate world.

I found the above deal because I introduced myself to half the bankers in town. I tend to be a bit obsessive-compulsive when it comes to numbers. I talked with bankers every day. The North Street property turned a $10,000 down payment into a $25,000 capital gain and over $400 of positive cash flow per month. Nice. The only reason I got the sweetheart deal instead of someone else is because I was in the right place at the right time. I was in the banker’s office when the property came in.

My biggest source of reasonably priced properties was Veteran’s Affairs. Back in those days landlords could only get adjustable mortgages on rental properties and interest rates were close to 10%.  The VA offered 7% fixed with only a small down payment. The buildings were also priced to move. The best news was I could buy the properties even though I was not a veteran. It was normal for us to buy 3-5 properties per month from the VA.

The only way to get the VA properties was through a real estate agent. My agent, in his infinite wisdom, bragged to the VA office in Milwaukee about my large profits. Within a few months the rules were changed. Now more money is needed down and only veterans need apply. The rules have probably changed again since those days, but it outlines how a great property source can be screwed away by an idiot.

There are many ways to find awesome properties. Always do the math. My own rule is: Never chase a property. It’s a rental; they will make more. No one property is worth chasing.

Saying No to Bad Deals: Pressure will be applied to convince you to buy. Real estate agents get paid when you open your wallet, not before. Sellers have a long line of BS to move their property. Learn to say no. Take your time in reviewing the property. A bad investment gets worse the longer you own it. A negative cash flow only increases your original investment in the inappropriate property. “No” is the most powerful work in the English language when it comes to investing in real estate. It is normal to review multiple properties before buying. As good as the VA repo deal was, we did not buy every property dangled before our eyes.

Sellers say a lot of things when it is not in writing. Get it in writing! And a property inspection is a must unless you are qualified to do the inspection yourself.

Determining Rent Rates:  Before purchase you should have a good idea of the range of rents in the neighborhood and how they match the target property. Craigslist, newspapers, “You’re Renting” and similar magazines are a good place to start your review of local rents. The real estate agent is also a resource with one caveat: the agent may pump you full of it to make a sale. You have to determine if the agent is honest; most are.

The rents for my buildings were always on my mind. A good tenant may face fewer and smaller rent increases. Tenants that pay on time and keep the place well maintained are a bonus for landlords. Bad tenants did not face larger rent increases; instead, I refused to renew their lease.

Multi-unit buildings have greater profit potential, but more risks (and costs) associated with them.

Multi-unit buildings have greater profit potential, but more risks (and costs) associated with them.

Finding the Right Tenants: I was picky when I rented my properties. I did a background check and verified income. Compared to the banks before the financial crisis in 2008, I was a tough nut. The alternative is more damages, unpaid rent, evictions, and court costs. My time was worth too much. An investment in time now paid off later a hundred fold.

Evictions: Late rent is never tolerated. Follow the laws of your state/city when involved in an eviction. Whatever the law allowed I used. The longer a bad tenant stays in your property the greater the damage. In some cases you may need an attorney. When you owned as many investment properties as I have there are eviction stories to tell. I will leave them for another day.

Regulations: Local governments have rules regarding landlords. Smoke alarms and lead paint in older building are all considerations. Your local apartment association is a great resource into the rules in your market.

Property Managers: Property managers should handle the regulation issues. Verify your manager is screening prospective tenants adequately without discriminating. Owning properties in outside markets requires a local manager. Income properties are considered passive income for tax purposes, but any landlord can tell you the work involved is anything but passive.

Hiring a property manager eliminates most time issues with your property. The manager should screen prospective tenants, collect rent, evict when necessary, pay the mortgage and other bills, and submit the remainder to you monthly. There are times when you will need to cover a major expense like a roof or furnace out of pocket.

I used several managers at a time. When you own over 100 properties across a metropolitan area you will need help. I screened and reviewed my managers on a regular basis. Most were good, but a few were not. Investing time up-front before you hire a manager cannot be understated. Property mangers usually have contracts locking you in for a period of time. It is a relationship. Make sure you want to be in the relationship before you make a commitment.

Maintenance: Money is saved when you handle maintenance on your own. To actually save money you need to know your limitations. Roofing was my favorite work; flooring was a disaster. I installed carpet once and realized it would be easier, faster and cheaper to hire a professional. I am okay at drywall and painting. A large portfolio of real estate will require an army of contractors. I spent as much time checking prospective contractors as I did researching a property prior to purchase. Every job was in writing.

Major maintenance issues are reduced when handled before they become large. A roof replaced when shingles were thin beat waiting a few more years and then replacing roof boards, too. Regular painting keeps properties looking nice and rents where they belong. My properties were always improved. Buyers of my properties received nicer looking buildings than what I originally bought. I also had better rents, better tenants, and a better sale price. Maintenance does pay for itself.

Selling Right: Selling is buying in reverse. Before listing or offering a property for sale you need to research your market. Pricing a property for maximum gain without a long duration on the market takes legwork prior to listing. Review other properties in the neighborhood. A real estate agent can help. Today, online resources are numerous. Realtor.com, MLS, Zillow, Homefinder, and Trulia are good research tools in determining a good selling price. These are the same tools used in your property purchase search.

A realtor is a valuable asset in selling your property; they also have a fee, normally a percentage of the sale price. Selling on your own is more work, but you save the fee. The choice is personal.

Debt Issues: Debt was a tool when I owned a pile of real estate. I rarely came to a purchase closing with money. The bank covered the entire amount, using equity in other properties, so closing went faster. Then we paid down the mortgages fast, building equity. I understand investors want to juice their percentage return with leverage, but leverage also brings risks. Investment property should have at least 20% equity from day one. Once you own the property for a few years equity should be larger than debt. Also, debt-free rentals really cash flow. A cushion shields you from unforeseen market forces and vacancies. Real estate is a great source of passive income as long as you are not mortgaged to the hilt non-stop. High debt is an accident waiting to happen. The winners of the housing crisis a decade ago were the people with cash ready to buy when opportunities presented.

Partnerships: Yikes! I owned income property in a partnership with my dad and brother. I knew going in I would do 99% of the work. The partnership worked, but that is the exception to the rule. Most partnerships are woefully lopsided. The one doing all the work get grumpy when the other partners want an equal share without doing the work. Partnerships can work, but remember you are married to your partners and divorce is messy.

Entity Selection: Real estate should never be held inside an S-corporation; only rarely inside a regular corporation. Liability protection, tax advantages, and ease of transfer are available with a LLC. Due to local laws and regulations a real estate attorney should be engaged. Real estate held in an LLC does not require preparation of an additional tax return; a box is checked in the tax software informing the IRS the property is held in a single-member LLC as a disregarded entity. In the future I will address entity issues in greater detail as they pertain to real estate.

Training Courses: The Wealthy Accountant is a lucky guy. He gets to see all the crazy stuff floating around. Expensive investment real estate courses are all the rage. Many of these programs sucker you, ahem, cost $25,000 or more to teach you how to make a killing flipping real estate. All I can say is “don’t.” There might be a good program out there, but the ones I have seen are junk. Worse, they turn you tax work into a nightmare. I’m busy enough. No more free seminars offering a free meal, guys. They cost too much.

Clean Up Crew: I did my best to stay brief, but investment properties have too many issues. I will break down the issues into small, more easily digestible bites, in future posts. Commercial property, farm land, and land held for development are different creatures from residential investment property. Most readers here are interested in residential property so I stayed on point.

Real estate investing has great opportunities for wealth creation and steady passive income if proper planning takes place prior to investment.