Part of mentorship is teaching and learning new skills. We mostly focus on skill building around mentorship, which builds personal wealth, but what about building the kills for actual wealth as well? Military members move a great deal over their careers and though most of us struggle with building the teams around us some more of us struggle with even more pertinent things like whether to rent or to buy. Earlier last month we highlighted investing in others. MAJ Alvin Cavalier, our guest poster for this blog, discusses how to build and sustain a home… where everything starts. Without a strong foundation at home, especially financially, we’ll never be able to properly invest in others.
“Every person who invests in well-selected real estate in a growing section of a prosperous community adopts the surest and safest method of becoming independent, for real estate is the basis of wealth.” -Theodore Roosevelt
Of all the beautiful things that come with serving in the US Military, making a housing decision often becomes one of the most stressful situations for military personnel and their families. The decision to rent or buy always looms large. Military personnel frequently move over the course of a 20-30-year career. In fact, the average military person will move at least ten times during a typical 20-year career. Some families will move even more depending on their branch of service or job compared to the average civilian in the US who moves an average of 11 times in his/her lifetime. As a member of the US Army for the past 16 years and having endured over ten permanent changes of station (PCS), I believe that real estate is inherently a part of our job whether we like it or not. We must plan how we will exit our current living situation while concurrently planning for our next duty station and deciding if we plan to buy or rent. Can you imagine having to make that many housing decisions in such a short period? No wonder why these decisions can bring such stress to military families. And in some cases, families can move two to three times in a three-year period. After all, we are not real estate experts, agents or investors, and most of us encounter our first major housing decision while in the military. Our job is to train and fight to win the nation’s wars, not to train to become professional Real Estate investors. Therefore, I believe real estate is inherent to our jobs as active duty military personnel, therefore, leading us to become accidental real estate investors if we don’t properly plan and make wise decisions.
Of all the investments out there to choose I firmly believe the best choice for military personnel is real estate. Some will disagree based on their personal experiences, and that’s ok. However, I believe few investments will offer you the ability to build equity, leverage, appreciate, and most importantly control of the asset with the potential for creating generational wealth like real estate investing does.
So, what is an accidental real estate investor? Someone who purchases a home after becoming emotionally attached, and has not considered a long-term investment plan, or exit strategy (how you intend to get out of a deal or property if things go south). Additionally, they haven’t conducted a good market analysis, and thus, allow their real estate agent to make all the important decisions. Take a look at the examples I provide below to see how I try to draw comparisons between a Real Estate investor and an accidental real estate investor and show the potential benefits of generating passive income based on how you approach buying.
Let’s take a look at the two examples:
The accidental investor:
Decides to purchase a home and will purchase the home based on what they want vs. what they need, i.e., I want a home with at least 3k sq/ft, 4bd/2.5ba/and a large backyard. Let’s say they obtain the home on a 200k VA Loan @ 3.5% interest for 30yrs w/no down payment. The veteran now has a mortgage of $1,225/month (w/Insurance and property taxes). In this scenario, the accidental investor fails to take into account the long-term cost to own, management and taxes. Additionally, the accidental investor does not conduct their analysis on appreciation (increase in property value), depreciation (decrease in property value), the past and current market (buyers/sellers/renters) or understand what economic developments and jobs are planned in the county. So, after three years and no real long-term plan, the accidental investor decides to keep the property and rent it out. Let’s say average rental prices in the area are in the $1,300-1,350 price range. The accidental investor also decides they don’t want to deal with the hassle of self-property management while away so they hire a local property management company for a modest fee of 10% of the rental price /month. The house now rents for $1,325.00/month, so that leaves you with $100 surplus ($1,325 rent minus $1,225 mortgage). After we factor in property management cost at 10% of 1,325.00, that’s roughly $130 which now leaves you -$30/month or -$360/year, which comes out of your pocket. Now, all of your additional maintenance cost (above your $500 Property management reserve) and savings for vacancies will have to come out of pocket. At this point, you are obviously not generating cash flow since you are already paying out of pocket to cover your monthly cost to own. At this stage, your hope is for short/long-term appreciation so that you can build equity and either cash out to reinvest or sell to hopefully break even or if you’re lucky you get to put a little money back in your pocket.
The real estate investor approach:
Decides to purchase a home and will purchase based on several factors that include, the size and income of the average American family in the local area (I use http://www.city-data.com/ to find information on any city, schools, neighborhood, income levels etc.). The investor will consider the type of market they are in (buyers/sellers/rental trends), local economic development, etc. to understand where the jobs are and if future economic development is planned, among a few factors. This analysis will help the real estate investor determine his/her location and budget a price to purchase. The real estate investor also understands his options for lending between VA w/ a min of $144K, local banks and credit unions that typically do well with lending in local markets. Based on what we know, the real estate investor decides to purchase a 3bd/2ba home for 120K through the local credit union on a 30yr mortgage at 3.5% interest rate. The real estate investor now has a mortgage of $650/month (w/Insurance and property taxes). The real estate investor has always known he/she was going to buy and hold to produce passive income and decides to rent the property out after he/she moves on (PCS). Let’s say average rental prices in the area are in the $1,100-1,150 price range. The real estate investor hires a local property management company for a modest fee of 10% of the rental price /month. The house rents now for $1,100.00/month, so that leaves you with a $450 surplus. After we factor in property management cost at 10% of 1,100.00, that’s roughly $110 which now leaves you $340.00/month in passive income. That’s around 5K/yr in passive income. Imagine if over time you accumulate three houses, then you are building a nice steady stream of passive income and starting to replace your current income little by little. In this case, you will likely have accumulated equity for use with future investments, potentially limiting your need to depend on a loan for your next purchase or investment, while saving your VA loan for your dream home.
The goal here isn’t to make professional Soldiers, Sailors, Airmen and Marines into professional real estate investors, but to help them and their families understand that, because real estate is inherently part of our jobs, we owe it to ourselves and our families to make the best decisions possible and leverage the homes we decide to purchase. As a long-term investment, real estate can bring in passive income for years to come and start a path to building generational wealth if planned right and done correctly. Again, if you can’t take care of home, it’ll be hard to take care of others.
And finally, a few personal thoughts on real estate:
1. Buy as early and as often as possible. This requires a bit of research to understand the many ways real estate can be acquired outside of a traditional home loan (Join and begin to research Owner Financing on https://www.biggerpockets.com.) Real estate can be a great investment asset for military families to create passive income and build wealth if planned smartly.
2. Take yourself and your emotions out of the home buying process. Put yourself in the average Americans shoes when purchasing (I plan below the median income level 50K/yr). Don’t buy more house than you need.
3. Conduct proper research or find a real estate agent/investor that will help you understand the market (demographics, schools, taxes, rental history/prices, etc.). Look at where the economy is growing or declining to help you determine where to buy.
4. Have a sound understanding of your total cost to own vs. rent. This includes tax benefits, especially for military families since we can sometimes have unique tax situations.
5. If serious, protect you and your families personal assets by putting your investment property in an LLC. An LLC will provide asset protection against personal loss.
5. Don’t feel pressured to make the investment if the numbers aren’t working out. It’s ok to walk away and often times cheaper. Always be financially prepared to “carry” the property should you encounter vacancies. In other words, have an exit strategy.
6. Once you build equity, you become leveraged. Once you are leveraged via real estate, you have the power to multiply your investments as you PCS from place to place.
7. Invest in your self-education and use the free financial resource. Army Community Service is provided to military members and their families on most military installations. Education is key!
Invest in yourself so you can invest in others.