Let’s face it, when it comes to houses, one size (or shape, or style) certainly doesn’t fit all! The same goes for your investment strategy.
Depending on your circumstances, some real estate strategies might be better for you than others.
For instance, let’s invent a hypothetical man named “Don”. Don is a wage earner with less than 3 years left before his planned retirement from his job, he should think twice “flipping” properties this year, as it will trigger ordinary taxable income which will be taxed at his current (likely much higher) tax bracket.
He might be better served with a buy-and-hold strategy for the next 3 years, where gains are deferred until after Don retires, and taxed at capital gains rates in lower tax brackets.
On the other hand, “Meredith” is plodding along at her J-O-B (her full-time gig) but she isn’t happy with the career progression or the money she’s making, so she decides to supplement it with some current income. An extra few thousand bucks a month would certainly help to pay the monthly bills, allow her to save up for a car that doesn’t strand her alongside the highway every other month, or help a family member go to college.
In these scenarios, Meredith’s best approach would likely be to do some wholesaling when she’s not at her regular job. With some determination and the right guidance, Meredith’s regular job may become a distant memory, she may be making more than she ever expected, and this strategy may be exactly what’s right for her, at this time.
You get the idea. So what kind of real estate investment fits you best?
What are your primary needs? Are you relying on your real estate investments to be your primary source of income, a supplemental source of cash flow, or are you able to sacrifice cash flow now for more upside in future years?
What’s the best investment strategy for you?
If you haven’t already done so, give the above questions some serious thought.
You want to have a clear strategy (or strategies) before you start down a path that may be interesting and fun, but doesn’t deliver the desired financial results at the desired time.
When choosing the best investment strategy, remember that this isn’t a decision that you will have to stick to for the rest of your investing career. Rather, it’s about finding the best strategy for the situation you’re in NOW which is likely a different situation than the one you will be in two or three years from now, particularly if you take action and make some smart investing decisions.
Let’s revisit the above example of Don the wage earner, who is approaching retirement in the next two to three years.
He has enough money to live on comfortably each month, but would like to keep busy once he retires from his job, plus would like to supplement his retirement income with some extra money so he can enjoy his freedom from the job and go on a couple of cruises a year. He’s been watching his favorite HGTV show and wants to jump into the “Fix and Flip” game because it looks cool, and an extra $20,000 would allow him to take his wife on the cruise they’ve been dreaming about.
Let’s run some simple numbers and see how it plays out for Don…
Don buys a wholesale property for $100,000, put $15,000 into it, and then sells it 2 months later for $135,000, net of closing costs and commissions. That’s a nifty $20,000 profit, which is certainly nothing to be ashamed of. But if he’s in a 40% tax bracket vis-à-vis his W-2 earnings at his job, he’ll owe Uncle Sam about $8,000 when tax time comes around.
Alternatively, it might make more sense for Don to buy that property at $100,000, put just $5,000 into it so it is rental grade (not retail grade), and rent it out for 3 years, until he has retired (or at least 1 year, so he qualifies for capital gains rates). Don can collect some nice rental income during that time and would likely get useful tax deductions (like depreciation) as well. When he’s ready to sell, he can then put in the additional $10,000 to get it into retail condition. And it’s likely that the property will have appreciated in value as well, perhaps selling for $160,000, net of closing costs and commissions.
Now he’ll have a profit of roughly $45,000, but because of favorable capital gains rates, he might only be liable for the same $8,000 in taxes that he would have if he flipped the property for a $20,000 profit.
Let’s summarize the math on this one, using estimates for Federal & State tax rates:
$20,000 profit at 40% ordinary tax rate = $8,000 in taxes. Don nets $12,000
$45,000 profit at 18% capital gains rate which is about $8,000 in taxes. Don nets $37k
The point is that depending on your individual circumstances, one strategy might be a much better fit for you than another and your ideal strategy might, and almost certainly will, change over time as your circumstances change.
Introducing the 3 Key Real Estate Strategies
As you can see from Don’s situation above, the ideal strategy is most likely tied to what the financial needs and goals are at the time. Don didn’t need the cash to live on as he was still earning enough money from his job to pay his monthly expenses. His goal was to get started doing something he wanted to learn (the “fix and flip” model), while setting himself up to earn extra money so he can take his wife on cruises once he retires in about 3 years. For him, the smartest strategy was not to go after the most obvious model (fix and flip) just yet, but to do a hybrid of two models, the “buy and hold” model and the “fix and flip” model.
Please note that the individual models such as “fix and flip” are just vehicles we use to achieve the desired real estate strategy.
Let’s take a step back and focus on the most important thing; our top-line strategy
Here are the three main real estate investing strategies. Each of us should identify which one of these fits our current situation, and that strategy will then help us identify which models, or vehicles, we should use to succeed with our strategy.
Maximize the Cash Now
This strategy is the one of choice for many young people who are just starting out and may not have found their career calling yet. Or, like Meredith above, perhaps the 9:00 to 5:00 job isn’t sufficient to pay all the bills, so there is a need to generate significant current income. This strategy is about maximizing the real estate opportunities to extract the greatest amount of cash within the upcoming weeks and month, typically in one lump sum.
The top models to achieve this are:
Get a Stream of Cash Flow
This strategy is for those who don’t necessarily need a large sum of cash immediately and would rather make more over time. This investor will spend the energy up front to create a stream of income that will likely far exceed the total that they could obtain by using the “Maximize the Cash Now” strategy above, but will spread that cash flow out with periodic payments (typically monthly) across many years. Investors who want to supplement their existing income with additional layers of income (often passive income where they don’t have to do much if anything each month to keep the income flowing), will adopt this strategy.
The main models to achieve this are:
- Vacation Rentals
- Single Family, Multi-Family, and Office/Retail Rentals
- Notes secured by Real Estate
Defer Cash to the Future
Not all investors want or need cash now. Over history, some of the wealthiest people have gained such wealth by investing early (often with only a modest amount of money invested) and waiting for the investment value to grow. Huge real estate developers and home builder companies purchase land on the edge of town and wait for the town to expand towards them, suddenly making their land more valuable. But it doesn’t take millions of dollars to participate in this strategy. Often times rural land can be bought for under $10,000. The key is identifying a good deal and then having the patience (which is sometimes easier said than done) to wait for a big score in 5, 10, or 20 years from now. This strategy is about letting (or helping) the property appreciate in value.
The key models for achieving this strategy are:
- Land Development
- Land Speculation
- Rentals in the Swanky Neighborhoods (believe it or not)
I urge you to re-read the 3 key investment strategies above, and then really put some thought into which one is right for you right now. Don’t get caught up in which one you would like to do someday, but rather focus on which one is the one that suits you best for this day, this month, this year. From there, you can decide which vehicles or models can best get you to your desired results.
I have mentioned some of the models and vehicles above. There are others as well, but the models mentioned herein represent what greater than 95% of all real estate investors do. Within each model are sub-models, techniques, and niches that you can spend literallty a lifetime learning about as you make money and find success. For now, let’s keep it simple; decide which investment strategy is for you at this time.
Next week, we will go deeper into these three investment strategies, and discuss more about the vehicles to get there. In the meantime, if you’d like to discuss your specific situation with me, feel free to contact me at email@example.com or 602-538-7331.
Find your path and achieve your freedom…one step at a time.