(Today I’m headed back to Mammoth for some family vacation time, so I leave you in great hands with this guest post from Brian, my fellow blogger, real estate investor, and friend, over at RentalMindset.com.)
I’ve never seen my rental properties.
I bought each one without physically setting eyes on it and haven’t yet after 6 years.
They are thousands of miles away.
These facts are mind-blowing to most people. They immediately assume I’m some risk-loving adrenaline junky. The type of person who goes skydiving to get my fix, soon followed by BASE jumping with a wingsuit, and crazier and crazier stunts.
Nope. I actually think it is an advantage to buying rental properties from thousands of miles away without seeing them.
Isn’t that counter-intuitive?
Here are 3 reasons it is actually superior.
1. Better Numbers
I live in California. Definitely an expensive state. What’s the most expensive part of the expensive state? Probably San Francisco’s 7 miles by 7 miles. That’s where you’ll find me.
Once I understood rental properties are the best way for an average person to build wealth over the long-run, I started looking for ways to get started.
I could look locally, but that is actually riskier. It comes down to the numbers.
An hour drive away, I can buy something tenant ready that looks like this.
Purchase for $316k, rents for $1750 a month (Zillow link).
The mortgage is only $1320 a month with 20% down and a typical investor mortgage rate of 4.75%. Plus taxes and insurance of $280 a month. That leaves you $100 a month.
That is good right? Cash flow!
I like to think of cash flow as a margin of safety. You need some cushion for expenses. This cushion is tiny. Like your jeans providing a cushion on metal bleachers.
Let’s assume you get a new tenant every year or two – it costs $1-2k to clean the place up and takes a month to get the new tenant in. There goes all that cash and then some.
Add in regular repairs and saving for big items like a roof… doesn’t look so good now. You better be able to keep putting money into the property. Suddenly it doesn’t sound like an investment, it sounds like an expense!
Within a 1 hour drive, the monthly rent is 0.55% of the purchase price.
Let’s see what we can get in a city like Memphis, where I am likely to buy later this year.
Purchase for $104k, rents for $1050 a month (Zillow link).
Including mortgage, taxes, and insurance the cash flow is $425 a month.
That is a cushion! You can expect the cash flow to cover all expenses that come up.
When the monthly rent gets to 1% of the purchase price (like this property), you are in good shape. Your rental is an investment, not an on-going expense.
But what about appreciation? Isn’t it better in California?
First, timing is tough. No one exactly knows. If you did, you would be sitting on a beach somewhere, already with so much money, you don’t know what to do with it. I want something steady and repeatable.
Second, not all markets behave the same during a downturn. Some have bigger swings, but over a couple decades, it is likely to even out to roughly the rate of inflation (which you can still make an incredible return from considering you are leveraged with fixed rate debt for 30 years). See How to Visualize the Real Estate Cycle.
Third, there are some areas where supply and demand make home values absolutely nutty. Those rent ratios are way worse and “investing” starts to look more like “gambling”. In a lower cost area of California like this, there is more room for new homes. What would it cost to build a new property? Let’s estimate that the California property around $250k and the Memphis property $100k. So you are predicting huge appreciation from there? When the market is hot, new homes are built – new supply keeps the price down.
Ok, the numbers are way better out-of-state. What else?
2. More Passive
I have a job. I don’t want my investments to be a huge time suck.
Then why don’t I just invest in index funds and call it a day?
With a couple of hours a month of effort, I believe I can take a significant portion of my portfolio from 8% expected returns to over 20%. That is well worth my time!
To channel my inner Tim Ferriss – what is the minimal effective dose? How can I put in 20% of the effort for 80% of the benefit?
One end of the spectrum are REITs and crowdsourced sites like RealtyShares. You don’t get the power of leverage, the tax savings, or the control. Basically handing back most the benefits. So no thanks.
At the other end of the spectrum is doing everything myself. Finding a foreclosed or distressed property, managing the repair, placing a tenant, and being the property manager. Most of this would be possible and bring greater returns but is too much effort.
What is the sweet spot?
Investing from thousand of miles away. We just looked at the numbers – there is plenty of cushion to pay experts to do most of the work for you. You give up a bit in order to make your life easier.
When buying, you can purchase from a flipper who already found a great deal and fixed up the property. There are even flippers in those markets that specialize in working with investors, called turnkey providers.
Looking forward, there is enough of a cash flow cushion to pay a property manager to do most of the work.
It isn’t completely passive because you still are responsible for due diligence and managing your property manager. But it is well worth this small amount of effort.
If my properties were local, I know I’d try to save some money by doing more of the work myself. New water heater? Sure, I’ll just drive out there on Saturday to install it to save a couple hundred bucks.
Pretty soon I would resent investing in rentals. I would not keep adding to my portfolio as it would take even more of my time. I might even sell to relieve myself of the burden.
Think long-term. What is it going to take to keep you in the game for fifteen or twenty years?
For me, it is avoiding being a hands-on investor. Passive, out-of-state for me!
3. You Can Start Now
It is a huge jump from 0 rental properties to 1. How can you start as early as possible to begin building wealth and accelerate your learning?
An important step is saving up enough money to invest – investment property loans today require 20% down.
With the examples earlier, the California property at $316k would require a $63.2k down payment. The Memphis property at $104k would require just $20.8k down.
It takes about 3 times less money to get into the rental on the other side of the country. This allowed me to get started years earlier!
When you are a beginner at something that could be deemed risky, think about how to limit your downside.
How can you limit your downside with rental property investing?
Diversifying helps. Even if you wanted to invest $75k and could afford that California property right away, you could get 3 of the out-of-state properties.
If a tenant moves out of one property, you’ll still have two others that are providing cash flow. Things average out. You have fewer eggs in one basket.
Another important way to limit downside is to pay experts.
The first time you go rock climbing, you aren’t just going to pick up some gear at Wal-Mart and head for the mountain. You are going to hire someone with experience to take you out.
With rental properties thousands of miles away, you will be forced to hire people to do most of the work. We already saw there is plenty of cushion in the numbers to pay for this.
Think of it as a gentle introduction to the world of real estate investing. You can observe and ask questions. Get as involved as you feel comfortable, learn from those with more experience.
Later on, you can always take on more responsibility. Start simple, start soon.
Do You Think You Can Do It?
I was pumped once I learned I wouldn’t have to be a hands-on, in-person investor. Sign me up!
6 years in, things are going well. With some lucky market timing, I’m up 31% a year right now.
The long-term outlook is very exciting too. One of my properties is cloning itself this year! (That’s what I call a cash out refinance and using the proceeds to buy a new rental.)
If I can do it from thousands of miles away, you can too.
What do you think?
Did you know it was possible to own rental properties with so little money and experience required?
Do you think it can actually be an advantage to never see your properties in person?
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