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Real estate vs Equities
Old 08-06-2014, 07:52 PM   #1
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Real estate vs Equities

I'm a big fan of the bogleheads forum but I also read biggerpockets (real estate) often too. I personally favor equities because it allows greater convenience and mobility.

However, the real estate investing argument is pretty strong when it comes to cash on cash returns. I was wondering how the people on here decided to favor one investment over the other? I'm sure a lot of people here have primary residences but i'm talking more about investment real estate.

The pros and cons of real estate over equities that I can think of..

pros:

Potential higher returns due to leveraging and real estate appreciation

Investment backed by hard assets.

Natural inflation protection in most areas

Fairly easy to pass down to heirs

Good tax incentives for rental income and depreciation rules

cons:

Tenant hassles

Undiversified risk

Hard asset that is better managed locally

Vulnerable to disaster or accidents.

uncertain appreciation which may underperform inflation
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Old 08-06-2014, 07:55 PM   #2
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I spend one hour a year re-balancing my portfolio. How many hours a year do you spend on real estate?
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Old 08-06-2014, 08:02 PM   #3
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I spend one hour a year re-balancing my portfolio. How many hours a year do you spend on real estate?

Zero, because I favor equities.

I'm just playing devil's advocate a bit because i'm sure there are forum members on here who made their fortune on real estate. I'm curious to know how and why they decide for real estate over equities.
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Old 08-06-2014, 08:32 PM   #4
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I spend a lot more time on my real estate. I do farm out the management for most of the properties so I don't deal directly with tenants much. Those same tenants add thousands of dollars to my net worth every month through the mortgage pay down. I also pay very little in taxes for my income level, because I write off depreciation and other expenses, including travel to visit the properties and scout out possible acquisitions. As the mortgages are paid off, my income (and sadly my taxes) increases.

Furthermore, rental income is a lot more steady than the stock market gains. I never have to worry about selling off assets to eat when market values are down. I'm not looking over my shoulder at the stock market five times a day, worrying about the next correction or sequence of returns risk. The SWR concept is pretty much irrelevant to me.

I do own between 20 and 25 percent equities as a percentage of my net worth. The dividends have been fairly steady too. The appreciation is nice when it happens.

Any questions?
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Old 08-06-2014, 08:47 PM   #5
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Any questions?
Do you specialize in SFR or multi family units?

If it's SFR how did you determine which areas to invest in..do you go for cash flow over potential future appreciation?

What cut does the property manager take from gross rent?

Thanks.
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Old 08-06-2014, 09:12 PM   #6
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I like Real Estate, but I also have a pretty good portfolio of ETFs.

My NW has increased considerably after I started investing in RE. I was originally thinking of retiring at 65 or so, but I have shortened it down to 56. And I could leave now. I make 6 figures after all expenses are paid from my rentals. I manage them all myself, which adds another 20% or so. I also do all my own maintenance, showing, advertising and accounting and taxes.

A property manager generally takes ~10% of the gross rents. Plus a fee to place a tenant, plus an add-on for maintenance. Plus they make money when they evict and have to re-rent. Do not get me started on the inadequacies of a PM. All you need is the ability to follow directions and you can get great tenants.

Much of my income from the rentals is tax free, I get over 50K in depreciation each year. I write off my F350 diesel truck 100%. I also have some corporate deductions as I am incorporated.

I have 5-four-plexes, and two duplexes. The two duplexes and one four-plex is paid off, and I will pay another 4-plex off next week. I had the duplexes since 2000. The four-plexes I bought one every year from 2008 to 2012. When I bought them, I was looking for 15% cash-on-cash returns after mortgage payments, and 10% plus cap rates.

I am also a poster on Bigger Pockets, and also my own blog, and I even have a post coming out on BP next week. I should also be in an upcoming Podcast there at some point soon.
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Old 08-06-2014, 09:38 PM   #7
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Property management runs 8 percent of collected rent, plus some fees here and there. I only have single family houses. I'm not a "player."

For the average person, anything consistently cash flow negative is risky, at least in my opinion. In the SF Bay Area, the rental numbers make no sense. I don't remember a time when they did. Many landlords here are working jobs in part to support their rentals. I traveled to Phoenix on business 20 years ago, as it was coming out of the last major recession. Real estate had been hit especially hard there, so I was able to get 1 percent of value in rent every month from the start.

The numbers no longer make sense there, although I picked up a few in 2009-2012 that easily made 1 percent. I do have one rental property here as well.

I try to balance cash flow and future appreciation. I don't buy in bad areas and in Phoenix, most 2-4's and small apartments are in areas you wouldn't want to live, so I have stayed away from them. Three and four bedroom houses with decent schools and good commute locations are my focus.

In my opinion, the biggest long term threat to a small landlord business is operating expenses growing much faster than rents. That's been a problem in Phoenix, where rents until recently were relatively stagnant. The key to consistency in cash flow is to own a lot of properties. That way a vacancy or a major rehab is a minor speed bump and not a brick wall.

If I had had any sense or money in 1994, I would have been buying shopping centers, strip retail, and office buildings as the RTC was finishing up the disposition process in Phoenix. The Pollack family made tens of millions on their acquisitions from back then.

I'm looking in other areas now, but I'm having a hard time generating any enthusiasm for the hunt. At some point, sitting back and enjoying what you have becomes more appealing than adding to the portfolio.
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Old 08-06-2014, 09:44 PM   #8
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My property management company charges me any commission they pay a cooperating agent when they lease a property. They use outside vendors. Senator is spot on about property management. Most of my time spent on the real estate is managing the managers. I have fired several, and I think I now have the best of what's out there. I cannot manage over 20 properties from 750 miles away, sadly. Whether it is financial advisors or property managers, no one manages your assets as well as you will.

I retired at 53. I have two small pensions with COLA's, but I would probably have to move into one of the paid off houses to live comfortably off of those.
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Old 08-06-2014, 10:54 PM   #9
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Positive:
The main reason for having rental properties for me is the relatively consistent return on cash even during prolonged periods of down markets. I have found better returns in commercial then in residential. Plus you're not typically dealing with as many tenant issues. My goals is that rental property should make a little better return then equities in the long run after considering vacancies and appreciation (no management fees).

Negative:
You really need to know what you're doing to buy commercial properties right. Unlike residential you have to know your area business community so you're not just dependent on listing with brokers. Also never buy unless you already have a tenant lined up or there's already a long-term (solid) lease in place. There's always a fresh supply of new potential residential tenants but commercial can be far and fewer in between, especially during a down market.

Positive for some, negative for others:
The plan is for my investment properties will be my part-time job/hobby during FIRE/ER.
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Old 08-06-2014, 11:49 PM   #10
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My problem with commercial is the business cycle and that pesky problem of the newer and better competition down the street. If your shopping center loses an anchor or a nicer center is built on the next intersection, you could lose a lot of tenants fairly quickly. A downturn in business will force a lot of small retail, office and light industrial tenants to down size or go out of business. That credit tenant on the absolute net lease may decide to close your location or may turn into the next bankrupt video chain.

People have to live somewhere. Yes, your rents may stagnate or go down and your vacancy may go up, but you are not likely to suddenly experience 50 percent vacancy or be made obsolete by the better property.

Don't get me wrong, I would buy commercial properties if I could get them at prices and cap rates that would not cause me to lose them or become partners with the bank when the SHTF. Commercial did not drop sufficiently in the last downturn to get my attention and cap rates in the mid single digits as we see today give me a nose bleed.
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Old 08-07-2014, 07:16 AM   #11
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DW and I are about 40% in RE and 60% in Equities. We own 4 SFR's free and clear - so not a big player by any stretch of the imagination. We bought them all either from foreclosure sale or to settle an estate. They all needed a fair amount of repairs but I am handy and actually enjoy working on houses. My day job is money lending (and collecting it back) so I am a pretty good fit for the landlord business. My BS detector is pretty accurate and if I am wrong I can admit it and take steps to correct my error.

My plan is to use the rental income stream to provide income flow from age 55 to at least 60 to avoid touching retirement accounts. I doubt once I'm 70 that I will want to dink with tenant issues so around 65 or so we'll start to sell them off, with the plan to have them all sold by 70.5 and RMD's start.

We spent about $150k to purchase all 4 (gotta love cheap housing in the midwest) and before taxes and expenses we gross 2375 a month, or 19% gross return. And yes they are all stick built.

So to answer the OP Q as to how to pick RE vs. Equities - I guess I dont favor one vs the other, I think they are both an important part of my long term plan. My advice to anyone considering landlording is to be sure to smell the prospective renters car - cuz however it looks / smells will be how your house will look in a year or less
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Old 08-07-2014, 07:25 AM   #12
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I like to be handy, so I've thought about SFR. But I hate the landlord business. I'd have to have that aspect managed by someone. That would reduce my return significantly.

Therefore, I spend no time in RE. I do have a position in REITs, however.
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Old 08-07-2014, 09:29 AM   #13
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I am glad that many people are afraid of rentals. It makes for less competition when I buy... It is risky, but your risk can be contained, and you are in control of most of your risk. Unlike the stock market. You are forced to 'buy and hold', not sell on a whim.

The time spend is really dependent upon the tenant quality that you get. Credit score and income will tell you 90% of what you need to know.

Income will tell you the tenants ability to pay rent. Credit Score will tell you the tenants desire to pay rent. You need both. Never accept less that you need.

Lower quality tenants are more demanding, more drama. Never boring. I used to be a Section 8 renter, not anymore. I have a few of the drama stories I have posted on my blog. Stuff like fingers being bitten off, murders, domestic assault, etc. Lots of fun stuff.

With my 24 rentals, I spend 10 hours a month, tops. If I have a turn, add another eight hours per turn. It does provide a solid 6-figure income. But I only pay taxes on less than half of that due to depreciation and business expenses. This is income that I will use between age 56 and ~65.

I plan on selling at least one in a 1031 exchange and buying a place for myself at final retirement. I will rent it for a couple of years, even if slightly cash flow negative, and move in at some point. Then, I will probably sell one per year until they are gone.

By then, all my SS and pensions will be coming in, and my investments should be very solid too.
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Old 08-07-2014, 09:55 AM   #14
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I'm a big fan of Real Estate, but I also invest in equities. My first rental was a SFH from 92' to 04'. I made about 5% annual ROI and over $400K in appreciation. The total vacancy during the 12 years of ownership was 3 days. Very steady and reliable income.

Today I have 3 rental Condo's which I've owned for 3 to 4 years. The ROI is between 8% to 9% and the properties have almost doubled in value. Total vacancy is ZERO. I do all of my own management and the average total time per year I put into my rentals is about 10 hours.

I have been very fortunate with property and tenant selection and I'm sure all landlords haven't had it as easy as I have.

For me, the gain has been equal to or greater than equities and far more predicable. Your Mileage May Vary!
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Old 08-07-2014, 02:27 PM   #15
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Real estate is smart investment. I don't have the patience to be a landlord, so I allocate to Vanguard index.

I have spread out some of in-laws' money to REIT also, through ETFs.
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Old 08-07-2014, 03:04 PM   #16
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I am glad that many people are afraid of rentals. It makes for less competition when I buy....
You're welcome, Senator.

If it works for you, that's great. Not my cup of tea though.

Senator, since you have 24 rentals, do you have to be "on call" all the time? Do you travel at all? Do you ever envision moving? I'm just wondering. Can you hire a management company if you want to travel for a month, for example?
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Old 08-07-2014, 04:23 PM   #17
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I got out of liberal arts college with my philosophy degree and went to work compounding custom composts for a mushroom farm. Perfect fit shoveling horse ****. Did a little law school stint, worked on VWs, never anything that brought in an appreciable amount of money.

The mid eighties had banks falling over and we started buying places with owner-carry contracts. Bought what we could afford, which was pretty much junk that needed lots of work. Got a few fixed up, borrowed against them, rolled the money into more places. Our exit plan coincided with the property value collapse. oops. We enlisted the aid of a trusted pseudo-son to watch our real estate investments - seven locations now with forty-five places after selling off a 5-plex 12/13.

Now we split our time between our Oregon home and rentals location and our La Quinta home. The rentals throw off more money than we spend, we do some property loans which add to the surplus, and we are going to gift one of the multi-units next month. We are also buying 2/3 Vanguard TSM and 1/3 Foreign TSM with hopes that it will appreciate and not throw off much income. Don't have much in the market yet though - a certain resistance to not doing what has worked really really well for us for decades in favor of an unknown we cannot directly control.
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Old 08-07-2014, 05:48 PM   #18
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Senator, since you have 24 rentals, do you have to be "on call" all the time? Do you travel at all? Do you ever envision moving? I'm just wondering. Can you hire a management company if you want to travel for a month, for example?
I have traveled for a week at a time so far. As long as I am in cell phone range, I am all set. Most calls are from tenants that have questions. very few are emergencies, and those should be handled with a 911 call or a call to someone that is able to fix them if I am away. A renter can call a plumber any time. If it is a clogged toilet, it is their expense anyway.

Today's issues were about the worst I get lately.
  • A new renter that needed satellite authorization.
  • Another text from a renter that had a kid last night and wondered what County we were in for the papers.
  • And the final call, so far, was from my last section 8 tenant that is moving out, and should have been out on 7/31. She will be out today.

I also met the builder who just put siding on one of my rentals. they did not put a house wrap on, so they have to tear off the siding and re-install it after the house wrap.

I do plan on traveling after I FIRE. I have companies that can handle emergencies, it's just more expensive. The phone books are full of quality electricians, plumbers, and handyman services.

Anything that is not an emergency, I can do when I get back. I could also have someone else take my calls.

The toughest part of being a landlord is not the maintenance or calls. It's the turnovers and getting great tenants. If you get good tenants, the turnovers are not bad.

It's something I plan on doing from now until I get close to 62-65. It's a great income, I save quite a bit of money, and am able to FIRE about 10 years earlier than what I thought on a 6-figure retirement.
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Old 08-07-2014, 06:01 PM   #19
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Our NW is about 70% traditional (stock, bond, etc) and 30% RE. We went a different direction. We decided early on that since we were very handy we'd use our own homes as our RE investment. We always bought homes that nobody else wanted and sold them after 4-6 years. We enjoyed it and we didn't have tenants, except one time that we bought a house being rented. Think Pacific Heights, the movie.

I know that many pay down mortgages to build RE net worth, but we took an active approach, both using the leverage a mortgage provides and being willing to move often (and live in apartments int he interim to facilitate cash buys). We don't consider ourselves flippers because we always lived in the homes and always fixed them up to very high standards. Flip quality is usually awful in my eyes.

It was pretty risky at first and we're glad we started in the80's and not 2005, but it was also fun. Most would see this many moves as misery, but we enjoyed the change.

PS - our current house goes up for sale tomorrow after 7 years here. On to our next investment!
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Old 08-07-2014, 06:50 PM   #20
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Quote:
cons:

Tenant hassles

Undiversified risk

Hard asset that is better managed locally

Vulnerable to disaster or accidents.

uncertain appreciation which may underperform inflation
Tenant hassles trumps it all.... I inherited real estate. I hate it. The houses are in horrible shape, and I couldn't sell them for 25% of what they should be worth. This, coupled with the excuse of the month from each of them drives me bat $hit crazy. They call me during tax season with totally unrelated questions, they call me when they get traffic tickets, you name it, they call me. I honestly don't think they know anyone else who graduated from high school, so I am their mother. Real estate is NOT passive income. If you have even a teeny bit of tenderness in your heart, they will figure it out and suck the life out of you.
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