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One of the most common paths to financial independence is the use of real estate and more specifically rental properties as a means to build wealth and grow passive income.  As anyone who has read Rich Dad Poor Dad or listened to a BiggerPockets podcast can attest, the power of real estate as a wealth creation vehicle is incredible and the variety of opportunities available are nearly endless. As with all investments, real estate carries its own risks and in times of crisis as we are now, it is especially important to understand those risks and what impact if any they might have on your investment.  What follows is not financial advice or guidance and instead is my own personal experience investing $100,000 dollars into rental properties in the Midwest so that you can see and judge for yourself how well or not these specific investment strategies have performed in the last year including during the coronavirus pandemic and lockdown.

Rental Property Investing Resources

If you are seriously considering getting into rental property investing then your first step should be to do some research into the topic before risking any of your own money or time.   What follows are some recommendations of specific websites, podcasts, and books that I have personally found useful in my own real estate investing journey and studies. I would recommend first starting some background research into property investment via www.BiggerPockets.com.  BiggerPockets is website and online community for property investors.  They generate a ton of educational content including podcasts, YouTube videos, and books on a wide variety of topics related to real estate for investors of all levels.  In addition to the educational content they also have a very active online community were you can find information on local events and meet-ups as well as post questions that other more experienced investors will answer. After exploring the BiggerPockets website you should then begin a deeper dive into areas of specific interest via anyone of the many excellent books available on the topic of real estate investing.  These books provide excellent examples and step by step explanations of how various property investing strategies work.  I personally really enjoyed the Millionaire Real Estate Investor by Jay Papas (2003) and The ABCs of Real Estate Investing by Ken McElroy (2004).  More recently BiggerPockets host Brandon Turner also released The Book on Investing in Real Estate with No (and low) Money Down (2014), which is also a good how to book for investors just starting out in real estate. In this short blog post we don’t have the time cover all the different factors that determine the success of a given investment, but the resources listed above can provide you with the critical basics you must understand before investing.  Make sure to fully understand critical topics including how to analyze a deal (location, cost, ARV, etc.), how property management works, how to financing your investments, and investing strategies (flip, brrr, wholesale, rental, etc.).  When you have questions or need advice reach out, post comments, find mentors, and see if you can partner with individuals that have been successful in the same area you would like to invest in before.  Learn for others experience, mistakes, and successes so you can accelerate your own efforts.

The Rental Properties

Now that we have discussed the basics and know where to find more detailed information on various real estate investing strategies, let’s now dive into the details of the specific $100k investment I made in the Midwest.  These two properties were purchased in the Midwest (southern Indiana) in April of 2019.  Both properties are older (pre-1930s) construction 2 bed-room and 1-bathroom ranch style single family homes.  Because of their age and location in the Midwest these homes can be purchased for significantly less money than they would cost in other parts of the US and are therefore excellent assets for cash flow generation as will be clear from the tables below.
Table 1. Rental Property Details and Cost Basis
  In addition to the cost of the houses and rehab expenses there were also some one-time expenses required for setting up an LLC for these investments, inspection fees, and water and electrical bills during the rehab of the properties before they were rented out.  In our market renters are responsible for electrical and water bills, but this might not always be the case in every market and every property.  The total of these additional one-time costs was ~$4,000 which left us with ~$12,000 in capital reserves to cover any future unexpected expenses. I should also mention here that, as some of you know, I am an Expatriate employee with a full-time job in Saudi Arabia.  So of course, being a real estate investor and purchasing houses remotely from the other side of the world posses’ its own challenges and risks.  Therefore, to overcome these issues I partnered with my brother who lives in the market where we are purchasing these properties.  He acts as my eyes, ears, and hands on the ground and in return I gave him an equity stake in our LLC.  Partnering can have its own pros and cons as well, but for those like myself that are investing from abroad this can be a very effective way to more safely deploy your capital into real estate and diversify your investments.

First Year’s Performance

So now that we understand the details of the investment properties, how did they actually perform in the first year?  As you can see highlighted in Table 2 below we cleared after expenses $4,118.22, which is a Cash on Cash (CoC) return of 10.2% based on the after rehab value of property #1 of $40,520.  Additionally, as you can see in March of 2020, we lost our 1st renter who returned to live with his parents after losing his job during the coronavirus lockdown.  What surprised use though was the strength of the market and after using the 1st renter’s deposit to clean the rental property (so no money out of pocket) and make it ready to rent again our property management company was able to places a 2nd renter in just 1 week of listing the property.
Table 2. Performance of Property #1 from June 2019 – May 2020
  Our second property, highlighted in Table 3 below, did not perform as well as our first property and we did incur an unexpected major maintenance cost when the furnace went out in October.  Despite these challenges we still cleared after expenses $2468.77, which is a Cash on Cash (CoC) return of 5.8% based on the after-rehab value of property #2 of $42,701.  During the coronavirus lockdown period we also experienced some disruption in the rental income as our renter asked for a deferment of a portion of their rent and only paid $350 instead of the full $695 in the month of March.  Thankfully though they were able to make up the balance along with their full rent in April and have already signed a new lease beginning in June at $715/mo (~3% increase).
Table 3. Performance of Property #2 from June 2019 – May 2020

5yr Cash Flow Projections

Now that we have seen the first full year’s performance of our two rental properties it is important to compare that performance to our expectations and project out what that performance might look like over the coming years as well.  As you can see in the Table 3 below our rental income expectations were off slightly $15,016 versus $15,333 (based on an average 5% vacancy rate expectation).  In this case our vacancy rate was closer to 7% but given the coronavirus situation that occurred this year we are very pleased with the occupancy rate achieved.  Therefore, the primary factor that negatively impacted our performance in this 1-year period was the unexpected failure of a furnace which resulted in a higher than expected maintenance costs (17.7% versus 10%).  Unexpected costs and challenges like this can always occur, but we are hopeful that in the coming years maintenance costs will fall back closer to our expected 10% range.
Table 4. 5-yr Cash Flow Projections for Rental Properties

Rental Properties vs Other Investments

I must say that we have been very fortunate that the impact of the coronavirus on our property portfolio thus far has been minor.  Given the situation this year we are very happy with the return of 7.9% we have seen thus far, and are looking for hopefully even better returns in the coming years.  It is also important to remember that when you are investing in rental properties you also own an appreciating asset.  In our market we typically see a 3-4% appreciation rate for real estate, which is much lower than in some markets, but is why we have lower cost properties and higher cash flows. So now that we know how our first full year of investing in rental properties turned out how does this compare to other investments we have made?  Last year we published a blog post looking at $100k invested in Vanguard’s VTI fund versus using the Magic Formula Investing Method.  You can read the details in our previous article but the result of this real world “experiment” was the generation of 18.8% and 8% returns, respectively.  Therefore, assuming a more conservative 3% property appreciation rate then we would estimate an overall return of 10.9% for our rental property investments which is falling in between the VTI and magic formula returns.  Based on this analysis it would appear that buying Vanguard’s VTI fund is still the best option, but as we know the last few years have been remarkably strong ones for the US Stock Market and historically the market has performed at around 10-12% over longer periods of time.   Thus, when taking a longer 5-10 year look, we believe that rental properties will be able to match or even exceed the returns we are seeing in the stock market.  In fact, we have been so impressed with the resilience of this market and the returns we have seen thus far that we have recently raised additional capital and are planning to begin aggressively increasing our rental property portfolio in the coming months and years. I hope you have found this article and analysis useful and we would be happy to answer any questions or provide more clarification where needed.  We also would love to hear from anyone out there that has their own property investment experiences and how they are similar or different to what we have shared here.

ExpatFIRE

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