I originally wrote this article for Axios – Charlotte.
Real estate is sexy. And there seems to be a common desire to treat our local streets like a personal Monopoly board and get paid $200 every time someone lands on Central Ave.
But, real estate is also complex, expensive and one of the most illiquid investments you can make, so it’s important to fully understand the risks along with the upside. To help, I sat down with Aaron Bock, a local real estate expert, to ask what he’s learned and what aspiring investors should know before getting started. Aaron is 33 years-old, married with 2 kids, works full-time as the Founder and Managing Director of a technology consulting firm, Opkalla, and owns 19 rental units (24 at his peak). Here’s what he had to say.
1. Owning a rental is not “passive” income.
Most people are attracted to the idea of doing nothing and receiving a paycheck – aka passive income. But, what new investors quickly realize is that being a landlord is anything but “passive.” There’s a lot of work, headaches and stress. Aaron estimates that he spends a minimum of 4-5 hours/week dealing with his properties and that’s with outsourcing many tasks to property managers.
2. You can’t just compare the mortgage payment to the expected rent to estimate how much money you’ll make.
“For quick math, you can use the 1% rule to estimate that a $150,000 house can probably rent for $1,500,” he said.
Then, it’s easy to plug some numbers into a mortgage calculator to see that the mortgage payment on a $150,000 house may be around $850.
If you can rent it out for $1,500, then you’re pulling in an extra $650/month. Right?
Wrong. Many new-to-the-game investors stop there and ignore:
- Expenses: a property with $1,500 in rent may need $750/month in repairs.
- A Property Manager will cost 10% of the rent payment, so $150/month.
- CapEx: you should set aside 5-15% of the rent payment for future improvements.
- Vacancy: your property won’t always be occupied, so assume a 5-10% vacancy rate.
These additional factors bring your extra $650/month to a negative cash flow of $250/month.
3. You make money at the buy.
The only way to guarantee positive cash flow is to pay cash which is dream-crushing and obviously not an option for most people. The more you finance and the less you put down upfront, the more at risk you are of negative cash flow.
Many of Aaron’s properties have run at break-even or slightly negative cash flow which means that, as an investor, you’re left hoping for appreciation. If that’s the case, then you’re only making money when you sell.
It’s incredibly important to find good deals (which are hard to come by) so that there’s instant equity in the property. This is where much of Aaron’s gains have come from. Even with a few duds, he estimates that he has earned well over 200% returns on his money.
That sort of return hasn’t come easy, though, and may become harder for new investors to achieve as Charlotte property values continue to rise.
4. If something can go wrong, it will.
Most people are aware of Murphy’s Law and that owning properties will lead to unexpected expenses. To prepare for this, Aaron recommends having a big buffer and more cash on hand than you expect. “If a $10,000 expense pops up tomorrow, would you be able to handle it? If not, don’t invest in real estate.”
Even if you have extra money on hand, the stress of certain situations can be an even greater “unexpected cost.”
Aaron shared 2 horror stories as examples.
- “I was watching the news and saw something about a murder. As I looked closer at the crime scene I was like, holy crap, that’s our house.”
- “Prior to having a full-time Property Manager, we were on vacation when one of our roofs started to leak. I had to beg my best friend to drive to the house and drape a tarp across the roof during a thunderstorm. I felt terrible and it ruined our vacation because it was all we thought about.”
5. Owning 12 properties may be easier than one.
Aaron started out buying single-family homes and then quickly realized that multi-family properties presented a bit more upside with surprisingly the same, if not less, effort.
For starters, qualifying for a mortgage may be difficult because the bank or lender is going to go off the money you make from your regular job and may assume there’s no income from the rental property. On the other hand, a multi-unit property may qualify for a commercial loan which may be easier to obtain and will be underwritten based on the cash flow of the property.
Additionally, since Property Managers are paid a percentage of the rent, they are much more interested as the number of units increases.
Lastly, there’s the added benefit of diversification. If one tenant decides to leave in a 4-unit property, it’s not as big of a deal than if it’s a single-family home.
6. It’s possible to invest in real estate without becoming a landlord.
As a dad of 3, I have come to favor simplicity ahead of maximizing returns. If you’re like me or, for whatever reason, you don’t think you have what it takes to be a landlord, you’re in luck because there are many options to share in the upside of real estate without dealing with the direct headaches. I would recommend consulting a Financial Advisor to fully understand the pros and cons before jumping in, but here are a few alternative options to consider:
- REITS
- Limited Partnerships through brokers, friends, family, etc.
- Real estate investing platforms like Cadre or Fundrise
7. Research…a lot.
When I asked Aaron how he finds his properties, I expected to hear about Zillow, Redfin or another new technology platform. Truthfully, I was underwhelmed by the simplicity of his response. “I drive around,” he said.
If a property is listed on a major website, you can assume that a lot of people are viewing it at the same time which makes it harder to find a good deal. There are cases where a property may be mislabeled and therefore overlooked, but that’s rare. “Instead, I closely track recent developments around the city and figure out which areas are likely to grow in popularity.” Things like Light rail extensions, new company HQ’s and the MLS HQ in Eastland are important to keep a pulse on.
“It’s also helpful to network and get to know people…especially Realtors. If you’re only doing this part-time, you’ll have to keep in mind that you’re competing with others who do this full-time, but once you show others in the industry that you’re serious, you’ll get more attention.”
Interested in learning more?
“Some things you can only learn by doing,” Aaron said, “but a few of my favorite resources are BiggerPockets.com, The Weekend Millionaire (book) and the Apartment Building Investing Podcast with Michael Blank.”
