SS185: Avoiding Over-Leveraging in Real Estate Investing

SS185: Avoiding Over-Leveraging in Real Estate Investing

When purchasing a property, one of the important decisions you will make is how you will finance the property. In this episode, Charles discusses overleveraging and why you should avoid it.

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Talking Points:

  • I had a mentor years back tell me that when you begin investing in real estate, it is OK to overleverage your first properties. But, as you grow your portfolio, you must be more conservative when leveraging future properties.
  • My first 2 multifamily deals were financed over 90% loan-to-value, but the debt was fixed, and the properties cashflowed within 60 days of my purchasing them.
  • Today, our firm purchases larger apartment complexes with passive investors through syndications, but we also purchase smaller complexes ourselves without any passive investors. With these smaller complexes, we speak directly to many mom-and-pop owners, and one thing that is consistent with these owners who have owned their properties for 10-15+ years is that they have little to no debt on their properties.
  • Over-leveraging looks great on paper, but the more debt you have dramatically increases the risk of the deal.
  • Our firm sometimes receives deals from syndicators, hoping that we will partner with them, and we always save the underwriting and the deal package. Sometimes, these deals go south. When I mentor investors, we review a couple of case studies of failed deals (deals that were foreclosed on). One of the recurring themes in most of the failed deals was a flawed debt structure. They took on too much debt, or the debt was floating rate debt, or the term/the length of the debt was too short, and they could not refinance.
  • How Can You Mitigate Risk When You Invest in Real Estate?
  • Conservative Financing: If you are getting into your first rental or you are house hacking, you probably will be putting down very little, but the loan-to-value is only one aspect. Opt for a fixed interest rate, 30-year loan. If you are purchasing a 5+ unit apartment complex, which is considered a commercial property, your bank will most likely only offer 5 and 10-year term loans. In most situations, the interest rate will be fixed for the entire term of the loan, and then you will need to refinance. I would opt for the longest term available, which is usually 10 years. In 10 years, you should be able to build enough value in the property to conservatively refinance it, even if interest rates are higher.
  • Invest For Cash Flow: Make sure the property cashflows at the time of purchase or verify there is a quick path to cash flow. If you are getting a deal on a property, there will usually be some issues at the property. I would ensure these are minor, especially with your first few properties. If this is your situation, focus entirely on correcting those minor issues and getting the property to cash flow. Cash flow offers a buffer against any market fluctuations and other unforeseen events.
  • Maintain Adequate Cash Reserves: If your property requires renovation, ensure you have this money set aside at closing. Add to your cash reserves every month. I would keep 6 months’ worth of mortgage payments and property expenses in reserve in addition to the renovation funds. If you are aware of any future repairs that need to be made, you will want to increase your monthly deposit to your cash reserve account.
  • Continually Evaluate Your Property’s Performance: Make sure your property is performing well, and immediately correct any issues as they come up. If you have a problem tenant, work to correct it immediately instead of waiting until it becomes a bigger problem. Maintain strict tenant screening. Keep a close eye on rentals in your area. What is the condition of the units for rent? What is the asking rent? How can you increase your bottom line? Maybe updated neighboring units are renting at a much higher rent. It might be worth renovating your units to maximize your property’s value.

By utilizing these strategies and maintaining a conservative approach to leverage, you can build a more resilient real estate investment portfolio.

Transcript:

Charles:
Welcome to Strategy Saturday; I’m Charles Carillo, and today we’re going to be discussing avoiding over-leveraging in real estate investing.

Charles:
Now, I had a mentor years back tell me that when you begin investing in real estate, it’s okay to over-leverage your first properties, but as you grow your portfolio, you must be more conservative when leveraging future properties. My first two multifamily deals were financed over 90% loan to value, but the debt was fixed and the properties cashflow within 60 days of my purchasing them. Now today, our firm purchases larger apartment complexes with passive investors through syndications, but we also purchase smaller complexes ourselves without any passive investors. Now, with these smaller complexes, we speak directly with many mom and pop owners. The one thing that is consistent with these owners who have owned their properties for 10 to 15 years is that they have little to no debt on their properties.

Charles:
Over Leveraging looks great on paper, but the more that you have dramatically increases the risk of the deal. Our firm sometimes receives deals from syndicators, hoping that we’ll partner with them, and we always save the underwriting in the deal package. Sometimes these deals go south. When I mentor investors, we review a couple case studies of failed deals, deals that were foreclosed on, and one of the recurring themes in most of the failed deals was the flawed debt structure. They took on too much debt or the debt was floating rate debt, or the term the length of the debt was too short and they could not refinance. So how can you mitigate risk when you invest in real estate? So number one is conservative financing. Now, if you’re getting into your first rental or you are house hacking, you probably will be putting down very little, but the loan to value is only one aspect.

Charles:
Opt for fixed interest rate a 30 year loan. If you’re purchasing a five unit plus apartment complex, which is considered a commercial property, your bank will most likely only offer five and 10 year term loans. In most situations, the interest rate will be fixed for the entire term of the loan, and then you’ll need to refinance. I would opt for the longest term available, which is usually 10 years. In 10 years, you should be able to build enough value in the property to conservatively refinance it, even if interest rates are higher. Number two is invest for cash flow. So make sure the property cash flow’s at the time of purchase or verify. There’s a quick path to cash flow. If you’re getting a deal on the property, there will usually be some issues at the property. So I would ensure that these are minor, especially with your first few properties.

Charles:
If this is your situation, focus entirely on correcting those minor issues and getting the property to cashflow immediately. Cashflow offers a buffer against any market fluctuations and other unforeseen events that are usually outta your control. Number three is maintain adequate cash reserves. So if your property requires renovation, ensure you have this money set aside at closing. Add your cash reserves every month and that would keep six months worth of mortgage payments and property expenses and reserve in addition to the renovation funds. If you are aware of any future repairs that need to be made, you will want to increase your monthly deposit to your cash reserve account. Number four is continually evaluate your property’s performance. Make sure your property is performing well in immediately correct any issues as they come up. If you have a problem tenant work to correct it immediately instead of waiting until it becomes a bigger problem.

Charles:
Maintain strict tenant screening. Keep a close eye on rentals in your area. What is the condition of the units for rent? What is the asking rent for them? And how can you increase your bottom line? Maybe updated neighboring units are renting at a much higher rent. It might be worth renting year units to maximize your properties value. So by utilizing these strategies and maintaining a conservative approach to leverage, you can build a more resilient real estate investment portfolio. I hope you enjoyed. Please remember to rate, review, subscribe, submit comments and potential show topics@globalinvestorspodcast.com. If you’re interested in actively investing in real estate, please check out our courses and mentoring programs@syndicationsuperstars.com. That is syndication superstars.com. Look forward to two more episodes next week. See you then.

Charles:
Have you always wanted to invest in real estate, but didn’t have the time, didn’t know where to find the deals, couldn’t get the funding and didn’t want tenants calling you. Since 2006, I’ve been buying income producing properties and great locations that provide us with consistent passive income. While we wait for appreciation in the future and take advantage of tax laws while we’re waiting and unlike your financial advisor, we invest alongside our investors in every property we purchase. Check out to investwithharborside.com. If you like the idea of investing real estate, if you like the idea of passive income partner with us at investwithharborside.com, that’s investwithharborside.com.

Announcer:
Nothing in this episode should be considered specific, personal or professional advice. Any investment opportunities mentioned on this podcast are limited to accredited investors. Any investments will only be made with proper disclosure, subscription documentation, and are subject to all applicable laws. Please consult an appropriate tax legal, real estate, financial or business professional for individualized advice. Opinions of guests are their own information is not guaranteed. All investment strategies have the potential for profit or loss. The host is operating on behalf of Syndication Superstar, LLC, exclusively.

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