What investments are working in 2023 (part 1)

In todays email:

🤑 What is working in 2023.

What investments are working in 2023

In today's newsletter, I wanted to discuss what's working now in today's market and look forward and discuss what I see as the best areas to be in the future. Of course, I don't have a crystal ball, but I want to share my perspective on what's working, and more importantly, what is not working. In addition, I talk to many other investors with different levels and areas of expertise and I want to share that feedback as well. Hopefully, this will guide you in the right direction as you embark upon your real estate journey. There are many ways to make money in real estate but not all things work at all times. You have to be aware of the macro cycles and keep updating yourself on the constant change in the real estate world. Here are the areas which I will discuss for today’s newsletter. In this newsletter, I will discuss the first 4 in orange below. The remaining 3 will be discussed in the next newsletter.

• Single Family Rentals

• Private Lending

• Mortgage (Deed of Trust) Notes

• Owner Financing

• Syndication Investing as LP (Limited Partner)

• Fix/Flip

• Short term Rentals

SINGLE FAMILY RENTALS

I purchased my first single family rental property in 1992 and paid $140,000 for the property, put 10% down with a 30 year loan at 7.25% fixed rate. My monthly payment was around $1050 per month including taxes and insurance (PITI). I rented the property for $1350/month and made a $300/month cash flow and had about $100 going to principal pay-down. So my cash on cash return was around 25%! Of course, this assumes a perfect world (no maintenance, 100% occupancy, etc.). We know this is not the real world, but even when I budgeted in maintenance, vacancy, and so on, I still was making double digit returns and I was happy. Fast forward to today (yes I still own this property…I am a long term investor) and the rent is $2600/month and the loan is paid off and the cash on cash return is now out of this world even many years of renovations and repairs.

This is the beauty of rental real estate. In addition, I am able to write off the taxes, insurance, maintenance, capital improvements, depreciation, etc. to lower my taxes. However, this does come with the price of hard work over the years and many tenant headaches, but all this was worth the effort in my mind.

I continue this process every year since that first property in 1992, buying one or two rental real estate properties each year while I was working in my W-2 job. The only time I slowed down was in 2007-2010 when there was alot of uncertainty and I was in preservation mode. Then in late 2010, started buying again since prices were depressed and the deals were better. From 2012 to 2017 the values started to increase pretty quickly and I was having a hard time getting the math to work. Fast forward to today, buying a rental property with debt financing just does not make sense in my market since the cash flow is flat or negative. So, I am no long buying rental real estate UNLESS buying creatively (subject to or with owner financing or with a discounted note purchase - more on that later). Today, the math just does not pencil out in my area even when buying in lower priced areas. Example below.

Property price: $300,000

Down Payment: $60,000 (20%)

Rent Rate: $2000/month

PITI (loan at 7% fixed, 30 yr): $2000/month (~$1600 PI and ~$400 TI)

Cash flow: $0 and will be negative with any maintenance, vacancy, etc.

Now, could I find a property that would cash flow in my area? Possibly, however, I will probably have to risk being in a not so safe area and buy a property that will have more deferred maintenance and tenant problems.

What is working with rentals? I do buy non-performing mortgage notes in other states where the owner no longer lives in the property (moved away, deceased, no longer wants the property, etc.) and I foreclosure to get title and then either rent or owner finance the property. Before buying these notes, I make sure the math works as a rental property.

SUMMARY: Many areas of the US are very difficult to get sufficient cash flow as a rental property especially when you go to a bank for funding to buy the property. Your debt service coverage ratio (DSCR) is not high enough to be in a comfortable position and I would avoid that like the plague. However, in some instances, if you buy the property right or buy it with owner financing you can get the property to cash flowing but again it all depends on the math.

PRIVATE LENDING

What is a private loan?

• It is simply loan from an investor to an individual or entity which is secured on real estate.

• The real estate is the collateral for the loan.

• The loan is secure by a mortgage or deed of trust depending on the state the property is located in.

• Typically the loan is used to purchase the property and/or rehab the property.

Private lending is a way for investors to earn higher returns on their money than they might get from more traditional investments, while also helping borrowers (rehabbers, etc) who may not be able to get loans through other channels.

The most difficult part of the private lending world is actually finding the deals that will meet your criteria. You need to find investors who have done fixing flips and rehabs in the past and have a track record of doing so. You also have to be able to lend at a low enough loan to value (LTV) to ensure you will get your money back if the deal goes south. Many times you can find deals by going to your local REIA clubs and meet up events. You can also go to real estate conferences, talk to real estate agents, mortgage brokers to find potential deals.

How do I make money in Private Lending?

You make money mainly through the interest charged to the borrower and the upfront points. The points are like origination points that a typical lender like Bank Of America would charge to get the loan. However, the rate and points are much higher (usually between 9-15% interest and 2-5 points). The loans are normally IO (interest only).

WARNING: Do not loan money to an owner occupied property since there are certain licensing, laws, and rules that you must follow. Typically, we will loan to an entity for a non-owner occupied property only.

Another way to get involved in the private lending world, is to buy notes originated by other lenders. Many times these lenders are looking to re-capitalize and will sell the note to you for a set return and they keep a portion of the interest for themselves. They make money on the closing costs, fees and points charged upfront.

A great place to lend is from your SDIRA or Solo 401K. Since it is passive income there are no issues with the IRS and a great way to keep growing your account.

SUMMARY: Private lending is a pretty safe and secure way to make interest income safely. The returns are not as big as some of the other areas that I will talk about in this newsletter but are steady and secured. Again you have to have funds in order to participate in this space but there are ways to raise capital for a debt fund.

MORTGAGE (DEED OF TRUST) NOTES

Mortgage note investing is like being the bank and is very different from traditional real estate investing. I've written about mortgage note investing in past newsletters so please go back and check them all out. In general, mortgage notes have the advantage that you don't have to deal with tenants, maintenance, liability, etc. However, there is a steep learning curve to become a good note investor especially in the non-performing note world. Also, it is very capital intensive since it is very difficult to get financing to buy a note.

I was introduced to note investing around 2011 and I focused mainly on buying non-performing notes (NPLs). 2007-2008 crash created an abundance of NPLs and the pricing was such that it compensated for the risk. The purchase price of the notes were low even in 2011 (but obviously even lower between 2008-2010) and slowly increased as the market recovered. I was a pretty heavy buyer of NPLs from 2011 through 2018 and by 2019 the prices were no longer attractive and the profit margins were much thinner.

With that being said, I am still buying mortgage notes but being very selective. At the end of 2022, I purchased several reverse mortgages where the homeowner was deceased which allows me to exit through the property via foreclosure. If I get the property back at auction, I then do light rehab and either sell the property outright for cash, sell with owner financing or sell with lease option. Most of these notes are still in process and will be profitable but not as profitable as they were in prior years.

SUMMARY: Much of real estate is about timing and especially when buying distressed debt (i.e. non-performing notes). I took advantage of the opportunities between 2010-2018 which resulted in outsize profits. Moving forward, I will be more selective on which notes I purchase and underwrite them carefully in order to get a reasonable profit. However, another cycle will come in the future and you have to be ready when it does.

OWNER FINANCING

I'm going to talk about owner financing to buy property and owner financing to sell a property.

The property’s that we sell with owner financing are obtained through my mortgage note investments. For example, I buy a mortgage note and have to foreclose and take the property back. That asset is now called an REO on our books (Real Estate Owned). Often, I will sell the REO with owner financing to maximize returns and get a passive income for many years to come.

The properties we buy with owner financing are obtained through homeowners that are looking to sell their property and willing to carry back a note for their equity. These properties are obtained through marketing to homeowners and having them call us to discuss options. Many times we can structure a payment where the interest rate is low (or even zero) which allows us to sell to someone else on a wrap mortgage and make a nice spread. Or we could simply lease or lease to own the property for profit.

SUMMARY: The market is excellent for owner financing. There are many people that want to buy with owner financing since they've been turned down by the bank, or have less than perfect credit and cannot get a loan via traditional means. These people will pay higher rates and put a nice down payment to get the property. Then after a few years of a good payment history they can turn around and go out and refinance and cash us out.

Finding sellers who are willing to owner finance their property to us as buyer is a little more difficult to find. However, these are some of the best real estate deals you can do if you know how to structure the note and mortgage properly. Then when you own the property you have many choices. You can sell the property outright, you could rent the property, you could sell the property with owner financing or with lease option depending on the state you live in (don’t do lease options in Texas for example).

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