Real estate is wonderful isn’t it? You get to buy a property with other people’s money at a dirt cheap interest rate. Your costs are largely fixed while rents keep on going up thanks to inflation. You get plenty of tax deductions. And you get to earn a $250,000/$500,000 tax free profit upon sale in America, depending on if you are single or married. No wonder why real estate is my favorite asset class for people under 40 years old.
But I haven’t done a good enough job over the past eight years telling you about the negatives of owning real estate. The main reason why is because I’ve been bullish on the asset class – coastal city real estate in particular. What a shame it would be to have convinced you out of buying years ago, like some doom and gloom sites who only focus on the negatives.
After a massive run up in property prices, my bullishness has turned neutral-to-slightly-negative. Supply is rising. Valuations are expensive. Rents are falling in places like NYC and SF (where I’m a landlord). While mortgage rates may finally tick up, although they’ve continued to remain low despite the Fed’s moves. Therefore, I’d like to share a reader’s horror story about being a landlord in the last down cycle. I’ve shared my own horror story, which sounds like a first class trip to Paris in comparison.
Taking A Vegas Gamble
$250K janitors. $9K/month direct deposit easy rental income. It all sounds so wonderful, but it applies to a tiny part of the US, metro areas with concentrations of educated professionals with very high incomes sipping lattes and driving their Priuses to the wine country on the weekends to stay in a nice B&B.
I moved from the Bay Area to Las Vegas in 2004. I thought I was so smart to sell my Bay Area townhouse for $425K, enabling me to buy a single story LV house here for $220K. Then I bought two rental townhomes, new construction for $200,000 each. Cash.
I didn’t see the point of borrowing money and paying interest if I could afford cash. I was going to be a happy landlord, collecting rents and capital gains on my investments. I would trade my one abode in the Bay for a nicer abode here, plus two rental streams. I had retired, early.
By 2007, the builder of the townhome complex had filed bankruptcy with 157 of 300 units empty, and all the other units which peaked at about $250K were being abandoned by people walking from their mortgages.
The banks would often leave them in limbo, vacant, and vagrant squatters would break in and live in some units (new construction, remember). As foreclosures were slowly processed, the going price to buy a unit similar to mine on the courthouse steps for cash was $50K.
All the units that had been purchased with financing were abandoned, there was no point to continue paying a mortgage for even $150K on a unit worth only $50K. The new purchasers at the foreclosure auctions were mostly absentee landlords, out of state, many from CA, but many Canadian, Australian etc. They simply wired money over and instructed realtors to buy some and get them rented.
The median income in this town was under $50K per household, and these people mostly bought a house. The tenant pool was much poorer. And vacancies were off the scale, so lots of property with hungry landlords needed income. Therefore, very poor quality tenants got great deals.
Realtors then told their out of state landlords that the best way to get a tenant who could pay and not have to be evicted would be to Section 8. Get a poor person with a government voucher to move in, and the government pays you 80% of the rent. You collect the remaining 20% from the tenant, except they usually do not pay. A landlord can evict, and lose his income stream, but most often landlords simply take the 80% payment from the government and write off the rest.
Commercial property prices/demand has leveled off
A New Owner In Town
When the builder filed for bankruptcy, the court ordered sale of the remaining 157 units were bought in bulk by an investor for $9M. That works out to about $60K per. They rent for approximately $1K per month, creating an astounding 20% gross rental yield.
That investor experienced high vacancy rates as well so they took in Section 8, and this new construction complex in a new and up and coming area quickly started looking like an inner city housing project. Crime, drugs, idle people milling around all day, sitting in their garages smoking pot, tons of kids everywhere. Domestic disputes. Continuous police presence, you name it. Have you seen The Wire?
The HOA fees started at $42/mo but over a couple years, and three managers later, they were raised to $145/mo. Common areas were destroyed by tenants. A swimming pool bathroom was lit on fire. Pool furniture was thrown into pool. An unsupervised toddler drowned in a pool while mom was passed out in a unit from drugs. Gangs of unsupervised thug kids terrorized residents for fun. The pool has been chained closed for five years due to lack of funds to open it plus the scepter of repeated vandalism. Water to external landscaping was turned off years ago to let the landscaping die, due to lack of money to pay for water.
Landlords experienced continuous turnover and breaking of leases. No one would live there, except people who had no other choice. Lowest credit quality applicants, Section 8’s whose past history caused other landlords to turn them down but desperate landlords would take them here. Gang symbols were spray painted on buildings and fixtures.
Here’s What Happened To My Rentals
I have owned these rentals since 2005. Today my $200K purchases have returned to about $130K in current value from a low of $100K. I have evicted twice, and repeated repairs and turnovers.
The latest blow is that it turns out the HOA was managed for many years by a local community manager who didn’t have a license. The reserve study shows it should have $1.6M in reserves, but has about $200K instead. A $900K construction defect lawsuit was won against the builder’s insurance co, which should have provided some relief, but all that money was ‘spent.’ Legally spent, by overcharging by managers, contractors and other helpers. The State Dept of RE has ordered audits, fined the HOA, and has a case pending against the board president who it turns out started a pest control company then and made sure to get a $6K contract for his little company from the HOA. All the absentee out of state landlords pay their dues and really have no idea what is going on.
I suspect soon I will get a letter saying a new manager or receiver has been appointed. He’ll turn around and tell us the HOA is woefully underfunded and special assessments of an extra $1K a month are now required to keep the HOA afloat.
More supply in these six cities than in any time during the past 20 years
Profiles Of My Tenants
My tenant applicants have been: DJ, prostitutes (legal), exotic dancer, cab driver, etc. Here are the financials for one example: he earns $1700/mo and has $700/mo car payment. No thank you.
Another application was for roommates, three young people each with incomes of $1000/mo (McDonald’s) who wanted to pool their resources to rent for $1000/mo. Big question is how do you afford this if one of you moves out? Uh. No idea. When I pointed out that move in cost would be one month rent plus one month as deposit, and each of the three would need $660 cash they realized they couldn’t afford to move in.
These are not isolated examples, this is reality. This is the tenant pool in this market. They simply do not have the income.
My own home that I bought in 2004 for $220K is again worth roughly $220K today. At the bottom it was worth $100K and many around were foreclosed. At that time I bought two more, at $100K, and so clearly I have a gain there, which offsets my losses on the townhome disasters.
My point is this happy landlord dream with continuous work, toilet repairs and many other repairs (yes I do it all myself) has earned me perhaps a break even on capital, and perhaps a rental yield of 5%. And the break even required gains on the townhomes I bought in 2012 to offset the ones I bought in 2004/5.
It all sounds so wonderful in blog land. So happy, effortless. I gather that many of the people who have discovered the joys of this investing have never seen a crash or downturn. Or a destroyed unit. Evictions. Tenants threatening your life by calling in the middle of the night firing guns to scare you, because you filed to start eviction and they have no money to pay.
Maybe it will never happen in La La Land. But maybe it will, and you’ll question why on Earth you tied up so much of your capital and your life to an extremely illiquid asset. If you want real estate exposure, consider buying a REIT or diversifying into real estate crowdfunding instead. Your sanity will thank you in the future.
The production boom in Seattle looks abnormally high
Buyer Always Beware
I hope this reader’s story gives you a clear idea of what could go wrong when the real estate cycle turns south. Here’s a property owner who paid cash for three properties in 2004 and had to buy two more properties in 2012 just to break even 13 years later! What’s worse is the amount of stress and heartache he had to go through to manage the properties. If he had to stretch to buy all those properties with a mortgage, I’m pretty sure his entire retirement nest egg would have been wiped out.
If you’re close to retirement or in retirement, the last thing you want to do is spend your free time worrying about your assets. I’d much rather go on an around the world cruise and earn income 100% passively. Sure it sounds like the reader could have hired a property manager, but if you’re already bleeding cash, you aren’t as amenable to bleeding even more cash.
The longer you are an investor, the higher the chance you will experience bad times. It’s easy to feel good about your investments after such a prolonged bull run. Just know that when the storm hits, the floor drops out as the herd gets scared. At that time, you’ll wish you had a tremendous amount of liquidity like the investor who bought 157 units for a mere $9M with a 20% yield (BURL in effect!).
Recommendations
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Updated for 2020 and beyond.
“If you want real estate exposure, consider buying a REIT” That is the same conclusion I came to in 2010 after 5 years of horror and losing near 600K had I invested in an index fund instead. I don’t know how some of these landlords keep their sanity.
A friend of mine just recently got interested in purchasing a rental property and I totally trampled on his dreams. Spent the last 3 days going through all my records during that time and documenting it for him to see firsthand.
My father ended up giving away one of his rentals to a university after one of his tenants shot the other dead in it.
Sometimes we even get burned on a primary residence. We bought a luxury home then moved a year later to take a better job. Oil prices tanked and we are now renting the house x 4 years. The lesson I leaned – ALL real estate is risky, not only rental.
Oof! That sounds awful. While predicting a downturn is really difficult, there are signs to look out for before investing in an area. If I had to be a landlord, I would want to have a SFH in a middle class area. And for my tenants to not realize I was the owner, because my property manager should handle everything.
I appreciate the look at the dark side of RE investing. You often hear things about real-estate like “there are more millionaires in real-estate investing than any other business”, which paints a very rosy image. But people don’t brag about their failures, and so we’re only left reading about the people who were good enough (or lucky enough) to get it right.
I started looking into real estate investing myself after reading about a bunch of success stories. I bought books and read everything I could find. I found out that real-estate investing is a lot harder than it looks. However, as investment sites like fundrise grow, I may take a different angle getting into the real-estate game.
Great article. Thanks for bringing us potential real-estate investors out of the clouds and back to Earth.
I see many blaming others for the plenty of woes. But it is because you refuse to risk more by upgrading homes. It’s unlikely another 2008 will repeat itself for the next decade, maybe in 20 years. It’s not the idle people’s fault you bought a couple homes into section 8 neighborhoods. At $1000/month over a yr you’ll have $12000. Minus 5% for repairs. After half a decade you’ll have collection $240000.
Now spend the money collected in rent to buy a better home in better neighborhoods. Upgrade to restaurant managers, waiters and waitresses, bartenders.
You get the tenants you pay for. Buy in section 8 neighborhoods get section 8 renters. Double the amount you spend on a home to a hipster neighborhood and get hipsters renting. And when you collect enough rent after 5 to 10 yrs upgrade again and get professionals renting. These are the easiest and the best. They pay on time always. It’s on you, not them, for not upgrading to safer, better neighborhoods. You won’t get professionals in section 8 housing, and vice versa.
Steve, tell us about what you’ve done in real estate land. Have you had a perfect run so far?
I’ve surveyed and talked to real experience for years so I knew exactly what I would experience in the coming couple years ahead. I started in hipster neighborhoods. All my properties are walkable distance. I don’t do direct deposit since there is usually something minor, a small problem regularly. I can’t make the luxury rentals work because it is out of my walking way from my hipster rentals. I’m not gonna drive 1hr round for a single rent payment. Who would?
Section 8 I questioned from being yelled at from porches merely walking around, and already mentioned above. I questioned it. But landlords know all sorts of landlords. And did the section 8 landlords sell it like it was gold. Business talks about it became contentious every time. I really had my doubts still. It’s so cheap you get steady rent everyone told me. No worries. I took one cheap section 8 property with the expectation it wouldn’t work out. So I bought on the edge of hipster meets section 8. I sold very very quickly at no profit and no loss.
If you read the article carefully, this was not a section 8 neighborhood originally.
Also, I would wait until you have gone through at least two boom-and-bust cycles before you cast the first stone. Watch how fast the hipsters scurry if there is another stock market crash, many are living off of their parents, who can tolerate it because their retirement portfolios are up 2-3x over the past decade.
OTOH, I would never buy property in LV, the town is basically a drug & prostitute paradise. That part I believe everyone knows prior to buying there. Miami is similar that way, lots of booms-and-busts, with partying being the main industry. Choosing the right city and neighborhood is critical!
When I read the Lala blogs about how real estate investing is awesome, I think they are being overly optimistic. But when I read a story like this and see people commenting that real estate is horrible and that you should stick to REITS and crowdfunding only…I think it is being overly pessimistic. There is a middle ground here. I am very new to real estate investing as I only bought one property so far. It is in the Midwest and I live in NYC (where I couldn’t afford to invest). However, I made sure to choose a location which is stable and the quality of the tenants are nothing like the ones in this story. Obviously, you never know who you’ll get but you can mitigate your risks if you choose the location properly. Not familiar with Vegas but it seemed like there was so much development at the time and the neighborhood was not an established one which leads to more risk.
You mentioned that you were bullish on real estate in coastal cities. And in a previous post, you are now bullish in the heartland. Do you think directly investing in real estate in the Midwest is a good idea (after doing your due diligence of course)?
All you’ve got to do is give it time, and bad things will happen as a real estate investor. The key to financial freedom is to forecast your misery, and take steps to get out or get ahead of the game before the misery becomes overwhelming.
With my new BURL philosophy, I do like the Midwest and Southern real estate. The key is to have a large enough return to make the investment worthwhile.
We own two 70s era condos in the (Roseville/Citrus Heights) Sacramento area. They’re affordable rent-wise vs. the surrounding neighborhoods but not dirt cheap. As such, they tend to attract low-income families who are unwilling to live in the true ghetto (in South Sacramento, mostly) but can’t afford anything better in the nicer area. We paid cash for both of them. Prices have risen about 130% since then. So far so good.
It’s definitely not a passive investment. Screening tenants is an exercise in picking the best of the worst, credit and income wise. We tried property management but that ate into margins. Repairs can be costly and tenants conflicts are stressful. And the HOA is totally out to lunch. There’s just a certain level of stress that comes with maintaining rental properties, especially on the low-end.
On balance, we would do it all over again. After HOA, property tax, etc, cash flow is not amazing but it’s still a solid monthly amount that doesn’t take a huge chunk of time and energy when averaged out over the year. But yeah, choose wisely. Do a ton of online and in-person research.
This is crazy. More examples of experiences that landlords face every day, but are unimaginable by most! There’s a new book on Amazon along these same lines, titled “A Day in the Life of a Landlord”. Stories about situations that landlords experience, written by a landlord. I checked it out on Kindle Unlimited. Some crazy stories!
Wow! What a story, I’m sure he can’t help but think what is SF town house would be worth had he stayed put!
Reinforced my idea that new builds are risky and real estate is a lot more difficult below the surface.
Best way to get into Real Estate? Buy a home to live in and rent a room out, tax efficient and low risk.
Sam
P.S. Would love to read about commercial real estate as this I hear is another beast.
Landlording is difficult. I’ve had 2 evictions in 2 years and so many stories to tell. However, getting lucky with appreciating properties and positive cash flow makes all of the issues laughable. I always thought I was just a laid back landlord, but it may just be that I was lucky with my timing. I feel for this guy. Buy and hold would have worked well here. One day I thought of selling my 4 properties in nice areas and buying 10 properties in a shitty area, and I’m always glad I didn’t.
No risk, no gain. I have yet to live through a big downturn and I believe we are seeing more optimism right now than reality. “Be fearful when others are greedy and be greedy when others are fearful”.
One of the ‘rules’ I was taught by a mentor early on and has served me well is to only buy quality properties that you would be comfortable living in (with your family) if it ever came to that. While your returns (both cash on cash) and appreciation rate may be lower, and there’s of course no way to completely protect yourself from downside risk (and headaches), you’ll likely avoid the real disaster stories like the one shared here. Thanks to the author for sharing and best wishes going forward.
Very wise advice indeed! Buying inexpensively in an unattractive area is going to decrease your pool of high quality long term tenants. I also highly recommend purchasing close to mass transit and other amenities. Every rental property I own is less than a 10 minute walk from a train station.
What I commonly find when talking to other landlords is that they tend to underestimate operating costs (taxes, repairs, insurance etc) and fail to realize that vacancy (even for a month) can be a killer.
Luckily in the Bay Area there are so many qualified tenants with high paying jobs and if you hold a property for 10 plus years in most cases you are going to experience a really nice bump in appreciation.
Good honest view. I’ve had similar experiences over the past 25 years. I’ve been schooled in House court, held hostage by section 8. Learned the in and outs of buying bank owned property and dealing with the Lazy think they know it all real estate brokers. “Which don’t own rental property themselved”. With all the get Rich real estate books, late night tv ads. It is very possible to gain wealth through real estate long term but it’s not as easy as it sounds. A lot of hard work! You need to learn to fix most everything or pay crazy money to someone else. I handle myself in housing court but You must have a good Attorney. THEY WILL protect you when deals go bad and they will somewhere along the line. MONEY WELL SPENT.
IF your young and want to try this real estate get Rich scheme. Buy your 1st 2-4 family owner occupied.Put down 5-10% in an area your familiar with. Learn the ins and outs of your new house. Gain experiance dealing with tenants. Understand housing Tenant laws for your state. Don’t be cheap Use Tenant screening service. 35 dollars or so well spent.
AFTER a year or 2 but another 2-4 family if you like.
Keep it simple.. Buy low, sell High..
Wow. That is an eye opening experience. We’ve probably all heard stories like these but for you to stick through it the entire time is really impressive.
Time to start browsing the listings on crowdfunding real estate sites instead. haha.
And we just bought our first rental property…
Although you never know what changes can do to an area, like your story points out, investing in knowledge (and a network) is key before hitting it with a rental property.
We bought a rental in an area with a high employment rate, a scarcity in good rentals (like the one we bought) and a high demand of living in this area.
Additionally, we actively connected with lots of people in the RE market to learn the ropes and work together with a solid property manager with a lot of knowledge on the market there.
Q: what would have happened if he stayed in the Bay Area, and invested there instead in 2004?
A: he’d be a multi millionaire by now!
Moral of story: invest in prime locations
This is exactly why I wrote a blog post a week ago about why you shouldn’t invest in real estate until you know what you’re getting yourself into. I’ve been fortunate with my properties, but they’re decent homes in nice neighborhoods. They would never come close to the 1% rule even if bought during foreclosures. I’m just content to have others pay off my mortgages and enjoy the tax advantages of being a landlord. Thanks for sharing.
Sorry to hear that. Sequence of returns really screwed you over.
I’ve been relatively lucky. The only property that isn’t doing well is our primary residence, a condo. We purchased in 2007 and the price just got back to what we paid this year. I averaged down during the intervening years so our real estate investments are doing pretty well. Definitely need to sell some off soon, though.
Real estate is not easy and it is definitely not passive! I have had bad tenants, a stolen HVAC unit, and even a case of a boxing speed bag installed too close to the wall!
If you are lucky, get the right tenants, and have the right team, it can work. I use a property management company, and I’m glad I do. I repeat, real estate is not passive!
A stolen HVAC??!? What…they’re huge! That’s crazy!
I don’t know… doesn’t sound so bad.
Still think my pitbulls + dead tenants + police + greedy lawyer rental story was worse.
I’m 36 years old and have built a portfolio of 40 units in a non coastal Midwest city. Unemployment in the area is low, tenants are stable and maintenance labor is cheap. The rentals provide a great source of (mostly) passive cash flow and a good balance between capital preservation and appreciation. I am conservative with debt and have a <50% LTV currently, but with a large blanket LOC on top for opportunistic investments.
I started buying in 2008 and had a few horror stories but none like this. It is surprising to read that this development in Vegas hasn't recovered to pre-2007 levels like most other areas of the country.
I lucked out in the ’80s. We bought the four-plex I was living in. Thus I knew the neighborhood and other tenants. Then I bought the duplex a block away. Only real nightmare was a single-family house a half-hour north of town. Tenant’s son took over when the dad bought a house further north. The kid was problematic and had to evict then remodel the house afterwards. Even that wasn’t particularly bad, so I guess I’ve been blessed.
Bottom line is that landlording requires on-the-ground, local knowledge of rental market conditions to mitigate risk.
Wow that’s rough. That’s why I invest in REITs instead. :)
Curious which ones you favor?
I am 100% in VNQ since it’s tracks the whole sector, but interested in other ideas.
I have a decent size position in OHI. It focuses on the aging of America and has a 7.5% yield.
I’m waiting for it to get back to around $30 a share or under to accumulate more, but not sure it will get there.
We have a few of Canadian REITs. For US we own OHI like Sam and a few other health care REITs.
Great thanks. Adding to watch list.
REITs are pretty volatile so might be worth putting in a good till cancelled limit order.
Two comments: A) Vegas is tough, lots of transients….B) Bad real estate can ruin 10 years of your life/finances…
Good post!
Thanks for the confirmation to limit my exposure in real estate. While I have a primary and a rental I will get rid of the rental when a good opportunity arrises. I’ve done well in real estate but really feel that a primary residence is generally the only option other than public REITS assuming you live in a good real estate market. When people look at their return on investment from real estate they overlook the huge amount of money they have laid out over the years on the property.
Great article. It’s amazing how many people think real estate is EASY. I’ve seen it all from the elderly woman who pays on time, to the drug dealer who gets in a shootout at one of my properties. It’s a TOUGH business, and never goes according to plan!
Currently in the middle of figuring out life as a landlord isn’t all roses. I’ve had to give 30 days’ notice to one tenant and I’m embroiled in contractor drama. She was doing a bad job so I fired her. I expect I’ll get taken to small claims court over what she claims is the unpaid balance. Ugh. So stressful.
Seems folks skimmed over the intro where you say this is a READER’S story. :)
But yeah that sounds like a nightmare nonetheless. My brother has a few rentals and while it’s definitely not entirely passive, he’s had some good luck so far and will likely continue to invest in real estate. It helps that the job market here tends to be very good, since we have 20+ corporate HQ’s here.
Lol i was thinking midway if this was Sam’s story because he has never mentioned these before but I went back to read up and missed the intro not only once but twice! Haha such fail Lily.
*Shudder*
On days like this I am glad that the only property I own is my primary residence. I am not cut out for tenant drama. I like me my index funds – they never talk back, or call me in the night, or own a gun.
nicely put!
My parents retired to Las Vegas. At the worst of the housing crisis, the house next door was foreclosed. The new owners rented out to Section 8 tenants. They were a nightmare.
One neighbor said he was driving home at 11 PM and found a toddler in diapers crawling on the street. He would have driven over the child if had not been paying attention.
The kids of the Section 8ers would have picnics on my father’s front yard. My father would try to shoo them away and they would give him attitude.
The wife/mother of the neighbors on the other side of my parents had cancer. They moved away because the stress of dealing with the Section 8ers was adversely affecting her recovery.
My dad’s water bill went up. He suspected the Section 8ers of tapping the outdoor water spigot with a hose. He put a lock on the spigot and his water bill went back to normal
He never knew how many people lived in the house. He suspected 3 families and close to 20 people: 3 adult women, no adult males, more kids than you can count.
They didn’t have a car which made life pretty difficult in Las Vegas. It was 2 miles to the nearest supermarket. They would ask my father for a ride to the supermarket. My father would give them a ride if he was going to the supermarket but wouldn’t make a special trip just for them. That caused friction between them; they thought he should chauffeur them around because he had a car and was retired.
After the foreclosure, it became impossible to figure out who owned the house through normal internet searches. The neighborhood watch captain asked for donations to hire a lawyer. My father kicked some money in. The lawyer did some research and filed some complaints based on the aforementioned incidents and more. Soon after that the Section 8ers left.
My dad looked in the house after they left (they left the front door wide open). It looked like a bomb had gone off. They had stripped the copper electrical wires out of the wall. Broken toilet, torn carpets, closet doors off the hinges, broken windows, etc.
After the Section 8ers left, the house sat vacant for a few years. More vandalism; maybe some squatting; maybe some drug use. I don’t know. Eventually a couple moved in and have been trying to DIY renovate the house for a few years. Whenever I visit, I see some improvement on the exterior of the house.
My parents have passed away now. I inherited the house. I’ve been in no hurry to sell because I figure the market is soft. Neighborhood has improved since 2008/09 but still not as nice as when my parents bought in 1999. I don’t rent it out because I’m not sure of the quality of potential renters. I don’t want the hassle of a deadbeat renter. Plus I have not fully cleaned out the house. LV housing market is heating up though so maybe I’ll put it on the market.
Make sure to read the insurance policy closely. Some require the house to have someone living there (defined as 1 overnight) every 30-90 days. If they find out otherwise, you may not be covered.
Thanks for sharing. That is brutal but it is good to hear of the bad that can come out of buying rental properties too. When it’s good it is good but when it is bad it is terrible. My parents were landlords for a while and it was enough to make me run.
I’m really sorry to hear that! It sounded like a good retirement plan, but highlights a few issues that we all need to be aware of: (1) don’t purchase based on projections, purchase based on real, past performance; (2) being a landlord will suck at times; and (3) diversify, diversify, diversify!
Best of luck going forward. I hope you can exit from your investments with some gains if that’s the path you want to take.
Wow. That was an incredibly bad situation. We are working towards FI ourselves, trying to get there on one income. We’re interested in investing in rentals in the future, and I agree that most blogs are either all the positives of it or tell only how absolutely terrible it is. We have tried to make sure we know all the sides of owning real estate and being landlords, but I can’t imagine having to buy two more just to break even after 13 years! We live in an area that does tend to have an abundance of section 8 housing, so I have worried that similar situations may arise. This is definitely an eye opener of how bad it can go.
Thank you so much for sharing your stories, Sam! It sounds like what happens in a horror movie except that it happened in real life. Seeing how the rental market in DC does and having a bit of experience in landlording, I’ve been wanting to up my real estate game in the near future. But part of me is still nervous about the downsides of rental properties.
There are two things that I really dread about being a landlord: evictions and threats from tenants. They suck so much time, energy, and happiness out of your life. What you think is a great investment turns out to be what’s causing some of your biggest headaches. It’s nice to hear about all the real estate success stories, but sometimes we just need to ask at what costs.
Holy hell Sam, that is nuts. I can’t even imagine withstanding against that and I’m impressed you were brave enough to buy even more during the bottom. It’s definitely offset some losses but that discipline.
I live in Seattle and they are definitely overbuilding apartments and condos here. It’s for the Amazon hires but what they don’t seem to know is that only 10% of Amazon hires can AFFORD to live in those high end new builds.
It’s not a secret there is an apartment glut (or will be) by these developers (most are oversee management companies from Canada and HK believe it or not!)
Asset class matters and we have our stake in Seattle traditional single family home because I believe thats more stable long term. They’re not building single family homes in Seattle. They’re building high density housing, a lot of it and very expensive, for the pending population influx.
It is a tricky business! I have had my ups and downs with my rentals as well. I think there are a number of techniques that can help alleviate some of the risks:
1. Always buy below market. Get a great deal on a rental and you will be ahead of the game. It is really tough to get a great deal with a new house.
2. Try to avoid HOAs if possible, again tough to do with a new house.
3. Make sure the rent more than covers your expenses and mortgage. Usually the rents shouls be at least 1% of the purchase price. Again not possible in every market.
4. Property managers are gold!
My rentals have made me more than one million since 2010 thanks to getting great deals, rents, and appreciation (which I don’t count on). I also stopped buying rentals in 2015 because they market did not support them as well. I now focus more on the flipping.
Great points Mark, especially on HOA’s.
HOA’s can be good or bad. If they are funded properly then it cuts down on your maintenance and headaches.
I rented a property for about 7 years before cashing out. Never had one month of vacancy.
Just as a side note Sam, you mentioned the lure of $250k/$500k profit on real estate in the beginning. That only applies to property you live in the last 2 out of 5 years.
Interesting read. Truly sorry for the stories, however, real estate is NOT lala blog lands only… look at how many people made fortunes on it. Interesting class of asset but highlights that there are a lot of risks as well.
A few very interesting takeaways:
1) NEVER pay cash, always use leverage!
2) If you really have plenty of cash, foreclosures could be an interesting way to get in… In a crisis, cash is king… think about prices during the crisis and today’s price…you would have made a fortune but of course timing is key. Oil is a good example as well, is that depressed asset going to be as low as nowadays forever? I’m long!
3) Diversify your revenue stream! Don’t go all in somewhere! Buy one property, buy stocks, bonds and alternative class of assets…
4) Location, location, location and socio economic profile of where you buy. Average salary of town you want to buy, % ownership are data to keep an eye on… Although I love new properties development I actually like to buy in an area where it is already built and I can assess how “hot” the part is. You want public transportation, starbucks, gym etc around. Buying in a “hot” area is more expensive but will bring less risk. Up and coming areas are ok as well as long as it’s been already developed (e.g. Brooklyn in NY etc, are no bets anymore, this is a trendy part of NY now, 15 years ago, no one was so sure about it)…
Thanks Sam for keeping us on our toes, making $ is hard.. Making bets are hard and sharing all these stories and giving your tips are enabling us to (try to) make the right decisions!
I used cash to buy a foreclosure in 2012 in an area I know really well since it’s only 3 minutes from my house. Fortunately for me, the bank had spent a lot of money to get it ready for a buyer who needed a loan.
I have a very nice family as tenants for the last 5 years and they have made it very easy for me.
I certainly know it’s not also so simple.
Dealing with this level of tenant is not something I’m interested in. Of course you never know if your area will become depressed like this and turn into a nightmare.
Las Vegas real estate seems risky to me anyway with the main industry being gambling. If the economy takes a downturn that industry will take a hit.
Investing in towns with more stable economic structure like medical or military installations makes more sense to me.
I don’t think real estate is as frothy as it was in 2007 but I keep hearing about investors wanting out. Who know what will happen but I could see some downward pricing pressure coming soon.
Tom @ HIP
I grew up in the rental business (really a specialty market within it). The question here really is: Did you spend the time learning before you leaped? Most people I have met don’t. People think you can get rich with real estate and you can but it takes time even if you choose right. Buying right is paramount (price and location). Understanding what you are getting into and if it compatible with you and the spouse is paramount. Otherwise, go invest in REITS but spend time learning really before you dive in that area too. I have ignored this rule and often paid the price. Spending money upfront learning about the ins and out of an investment is well worth it.
I’m one year into my landlording experience, and while I don’t have any crazy horror stories (YET), I can say for sure that it’s not a a completely ‘hands off’ investment. Some tenants are more needy ….
One of my tenants is a really sweet mother of two, but she pays me late EVERY MONTH. It drives me crazy, so I’m trying to find the right balance between being lenient and hard nosed.
Transition to electronic payments only and require they set up monthly automatic payments. This way, its clear from the beginning and no one has to bother anyone. Been doing it for 2+ years and I’ve never had a late payment.
We went to the max 10% late fee allowed by our State Law after a tenant was late twice (first one we let slide-don’t ever do that!) and never had another problem.
I would never invest outside a core coastal city (in my case DC for last 15 years) and I never do Section 8. Those 2 things dramatically reduce the risk of a catastophic outcome in real estate. Sam’s story about the frat dudes leaving trash around his rental after they vacated is the worst thing that ever happens to me.
Oh man, this is an investors worst nightmare! We recently considered investing in a rental property, but after running the numbers and learning the area was more depressed than we originally realized, we opted out. We are still interested in considering a real estate investment someday, but that someday is likely off in the distance for now. Thank you for sharing your story!
You hit on the key here— you ran the numbers and LEARNED THE AREA WAS MORE DEPRESSED than you originally realized. I think it’s critical to really evaluate the characteristics of the area, the job market, the employment and crime rates, and the general “feel” of the place before diving in.
I was very reluctant to purchase a rental property initially, but was convinced because I had family in the immediate area who already owned rentals there and had solid knowledge about the area, the employment outlook, and the general character of the population.
I was also fortunate to buy at the low point of the downturn. The cheap purchase cost meant that I could afford to have professional property management and still clear positive cash flow. Plus, the property has nearly doubled in value since purchase. Rent is at a price point that largely guarantees I won’t ever be dealing with poverty-level renters (and their myriad issues), yet won’t price out the majority of middle class citizens of this bedroom community near the state capitol.
All that being said, it’s still true that there are no guarantees in the rental game. Right now I’m dealing with having to replace the roof, which I wasn’t expecting for another 5 years. Oh, and by the way, new state regulations have kicked in which makes the job cost double what I originally expected. NOT pleasant, and kinda eats up the annual 7% net return I’ve been enjoying on the original investment. Still, given the increase in value, I’m coming out way ahead. However, as noted, it’s really critical to take a cold hard look at your “market” when purchasing rental property.
Real estate is a rough-and-tumble world, and is less efficient than the stock market, because you’re interfacing with individual tenants and buyers, who may have no experience or be professionals. There are pluses and minuses to this reality.
I stay far away from real estate investing besides owning my primary home.
O
M
G
I am the son of a career residential landlord (he was not one by choice – he was forced to retire due to disability). I have seen and heard similar stories to this, though not quite as extreme with the numbers. This is why, outside of my residence, 100% of my real estate investment is in VNQ.
No one likes to talk about the horror stories because it’s not fun to relive them AGAIN… but they’re all out there. RE can be a good path towards wealth but it’s by no means an easy one. Harrowing…
I agree no one likes to talk about the horror stories. I feel the pain of the investor who shared this story. And I appreciate his/her willingness to share, because it is very educational for all of us.
But I hope this kind of story doesn’t completely scare new investors away from a quality investing strategy (real estate investing) when instead it should scare them into taking education and diligent preparation seriously. Every strategy can be hard and harrowing, especially during a downturn. If this story scares people into learning and preparing better, they can avoid this kind of situation and still be happy, profitable real estate investors.
The biggest take away of the story for me is the risk of (1) buying townhouses/condos with HOAs (2) buying rentals in big, new construction neighborhoods.
I like existing, infill type neighborhoods because those neighborhoods tend to already be established with stable owners. A new neighborhood with 99% leveraged first time buyers or investors is risky if the market changes. This story demonstrates that risk.
And condos or town homes tend to be stacked on top of one another. Your success as a landlord is pulled down by the lowest common demoninator landlord in the complex. In this case, the investor could not win because other landlords brought down the tenant pool.
It is much better to own the entire complex or own a stand alone house with a lot and privacy. You can insulate yourself and your tenants better.
Those are very specific lessons. I bet there could have been alternative property purchases even within Vegas at the same time that would have been less of a calamity, even if less than optimal.
I wish this investor didn’t have to experience the pain of this lesson, but it certainly makes it stick much easier for all of us by hearing about it.
These are 2 great takeaways, Chad! I hear you on the HOAs and new development neighborhoods. My husband kept raving about his friend’s condo rental (despite my warnings about owning condos as rentals) until one day a plumbing problem destroyed his floor and the apartments below. He’s been quiet about condos since. It’s not to mention the crazy HOA fees in some places and the hassles the HOA can cause you.
If I were to choose, I would start out with some single family homes to get experience and build equity and move on to small or medium apartment complexes where I can take advantage of the economies of scale. But it’s always easier said than done. And I’m always learning from landlords/investors like Sam and you. :)
Thanks Ms. Frugal Asian Finance!
There are a lot of choices to make getting started in real estate. Location is one of those tricky ones. I think Sam does as good a job as anyone I’ve seen evaluating the pluses and minuses of different macro and micro-level location decisions. The high valuations on the coasts scare me too. I think it can still make sense in some cases, like if you don’t need cash flow and you have LONG staying power, but for most of us there are many other solid locations outside the big cities.
Good luck with your own purchases!
Agreed. I think this article is an incredible PSA for those who buy an ebook and think they are going to get rich from RE.
I absolutely agree Jim! When people ask me how things are going I sort of shut down. Do I have to tell it? Its like going ham on an episode of Jerry Springer. Entertaining to read but no one wants to be on Jerry.