How to select an investment property

Posted on August 25, 2021August 25, 2021 by Laid Back Investor

As I mentioned in a previous post, I selected Kansas City and Pittsburgh as my two primary rental property cities. I personally visited them both to get a feel for the city overall, to meet with different real estate agents, see properties in person, etc. There are a few groups of criteria I use when selecting an investment property.

Neighborhood criteria

I rented a car for a couple days in each city and drove around to narrow down my target neighborhoods:

Do I feel safe there?
Is there a cute business district or popular shopping area around?
Are there a lot of rundown or boarded up houses?
What is the crime rating on Trulia (look for Low or Lowest)? Depending on the city, the neighborhood view might be less useful than the rating for a specific property / block. Another great site is SpotCrime.
And most importantly, would I live there myself?

Property criteria

After reading many books and listening to countless podcasts, I’ve refined my specific property criteria into the following:

3 bedrooms – I’ve found that people looking for 1-2 bedrooms are more prone to rent apartments instead of houses and families looking for 4 or more bedrooms are more likely to buy instead of rent.
1.25+ bathrooms – 1 bathroom can be fine but if there’s a lot of inventory, bumping up the bathroom count is a great way to narrow down your list and will be more attractive to renters.
Basement and garage – More space to use is a bonus for your renters and they may stay longer if they have room to grow and store more belongings over time.
Elementary school rated 5+ (others 3+) – Better schools generally means better areas, and you’re more likely to rent to families and have more potential buyers in the future. I’ve found that higher rated elementary schools are most important as the improvements there will trickle upward into junior high and high school as better students and more engaged parents move up.
No boarded up houses within 2 blocks – If I’m not there in person, I confirm via Street View.
Seller must allow an independent inspection and bank appraisal – Some real estate providers will try to talk you into using their own inspection or use their lender to avoid the extra scrutiny (both are red flags).

Financial criteria

Finally, once I know where I want to invest and the types of properties I’m looking for, I’ll run the numbers:

Purchase price above $100k – easier to get traditional lending through a bank or a broker, and you’re generally in better areas that attract better tenants.
Purchase price below $175k – I’ve found that if you go much higher than this price point, the numbers will rarely, if ever, work because rents don’t grow as fast as the price.
1% rule – this is a back-of-napkin rule that means if rents are around 1% of the purchase price, it’s a strong indicator that the numbers will be good. For example, having rents around $1,500 for a $150,000 house is a great start, whereas rents around $900 for the same house would be a quick pass. Work with a real estate agent that can project your potential rental rates to do this most accurately.
$200+ monthly cash flow after mortgage payment and all expenses – Take your potential rents and subtract the mortgage payment and estimated numbers for the following: property management (8-10%), vacancy (~5%), maintenance (~5%), and capex (larger repairs, ~5%). Be sure to include your property taxes and estimated insurance costs in your mortgage payment as higher taxes will quickly turn a seemingly good deal south.
10%+ cash on cash return – take 12 months of your estimated cash flow from above and divide that by your down payment and closing costs to get this number.

Where to invest in real estate

Posted on August 25, 2021August 25, 2021 by Laid Back Investor

Local vs Out of State

First you must decide if you want to invest locally around where your primary residence is or out of state. Many people on the coasts find it hard to invest locally because of the higher costs and they feel forced to invest out of state, while others may have more options. Here in Chicago and suburbs there are houses available at all price points and rental rates so I could have invested locally. I ultimately decided against it because I knew that if I had a rental property nearby, I would constantly drive by and check on it. This may not be a dealbreaker for most people, but I personally wanted my real estate to be more passive and hands-off so I started looking elsewhere.

Choosing a City to Invest In

As I mentioned, the coastal cities are really tough to invest in. If you are interested in purchasing property there, it’s more of an appreciation game you’re playing instead of monthly cash flow. A lot of midwest cities are able to hit the mark for cash flow though.

Here is a common list I see posted on various websites (in alphabetical order):

Atlanta, Georgia
Birmingham, Alabama
Cincinnati, Ohio
Columbus, Ohio
Detroit, Michigan
Indianapolis, Indiana
Jacksonville, Florida
Kansas City, Missouri
Memphis, Tennessee
Milwaukee, Wisconsin
Oklahoma City, Oklahoma
Pittsburgh, Pennsylvania
Tampa, Florida
Toledo, Ohio

There are many more out there as well, so treat this as a starting list of ideas and branch out from there if none of these seem like a good fit for you.

Once you have your list of potential cities, you need to narrow them down. Here is what I personally look for:

Strong population growth
Strong job growth
Stable and diverse industries
Low property taxes
Landlord-friendly state

You can use websites such as city-data.com to review each city’s specifics.

I personally chose Kansas City and Pittsburgh for my investment properties.

Different types of real estate investing

Posted on August 25, 2021August 25, 2021 by Laid Back Investor

Once you’ve decided that you want to diversify your portfolio with some real estate exposure, the next step is figuring out how. There are many ways to invest in real estate. Let’s talk through the primary ones.

Buy and hold – This is the most common and straight-forward investing approach. It’s simply buying a house, renting it out, and holding on to it for the long term.
Fix and flip – The method popularized by TV shows where you buy a house under market, rehab it, sell it for a profit within a year
Turnkey – Similar to fix and flip except the companies will place a tenant after remodeling and only sell to investors instead of the open market.
House-hacking – This is where you buy a small (typically 1-4 unit) building and live in one of the units while renting out the others. This is a great way to reduce or eliminate your personal housing expense while also getting your feet wet on becoming a landlord. This method can also include renting out individual rooms within a condo or single family home too.
BRRRR – This stands for Buy, Rehab, Rent, Refinance, and Repeat. The key to this method is accurately estimating your rehab expenses and the after repair value (ARV). If you’re able to find a property where the purchase price and the rehab costs combined will equal 70% or less of the ARV, you can refinance the property and get back all of your invested money to reinvest again somewhere else.
REITs – REITs are purchased and traded just like regular stocks. You generally get paid higher dividends though.
Crowdfunding / Syndications – If you don’t want to own property directly, you can invest with a group that is buying rental properties and pays out over several years. Crowdfunding is generally open to the public with some financial requirements, while syndications are generally smaller groups that you sometimes have to be invited into.
Wholesaling – Work with motivated sellers, contract with them for a certain price, and then sell the contract to others at higher price. You’re essentially paid a finders fee and never own the property directly.
Buying notes – Take over a distressed loan and become the bank. You then have to work with the homeowner to come to new affordable terms that make the investment worthwhile.

Saving for college

Posted on March 7, 2021March 7, 2021 by Laid Back Investor

I think saving for college used to be an easier equation for most parents, just know how much school costs per year, and save up for four year’s worth. Now, it seems more complicated for several reasons:

College costs have grown much faster than inflation and cost of living increases in parents’ salaries
There’s a general backlash against students being riddled with college debt long after graduation
Trade schools or alternate specialized schools that take less than four years are increasingly attractive
Politicians at the state and federal levels occasionally push for a free public college education
Some countries provide free college education to foreigners already and with how easy it is to keep in touch now, this feels like a more realistic option than ever

With all this in mind, we decided not to tie up all of our college savings in the traditional 529 college savings accounts. There are still great tax advantages to 529s so we didn’t entirely give up on them either. I used one of those online college estimators, which all estimated between $100k and $150k per child, and decided on the following plan:

While paying for full-time day care and preschool, we didn’t explicitly save for any college expenses (kids are expensive!).
Once they entered public elementary school, we took 1/3 of the previous monthly payments and put them into a 529 account (we decided on using Wealthfront instead of a state-specific plan). We’ll continue the 529 contributions until we’ve contributed $20k/each (regardless of how much interest it’s earned along the way).
The other 2/3s goes into our overall savings and investment planning. I experimented with individual college savings accounts but it got too messy with money moving around that I decided to stop that and simplify our overall strategy.

With this plan, the 529 accounts should end up reaching $30k-$35k by the time they graduate high school. No matter what happens with college education costs or what our daughters decide to do with their lives, this seems like a good bare minimum amount to spend on education. For the rest, we’ll use money we’ve saved elsewhere, pay with current income, or perhaps even borrow for them at low rates.

Saving for retirement

Posted on February 21, 2021February 22, 2021 by Laid Back Investor

The first step to saving for retirement is to understand what retirement really means. It’s no longer just an age, it’s the time when you have enough income from other sources besides work to be able to support you and your family.

If you haven’t already, create a detailed budget to know what your monthly and annual expenses are. The main categories to budget for are: housing, health care, transportation, any schooling expenses, monthly recurring expenses, annual expenses, your monthly disposable expenses (food, shopping, etc), and any traveling expenses. Many people and investment sites then recommend that you reduce this amount a bit to account for less taxes and other expenses in retirement. A common multiplier used is 85%. I personally don’t reduce the amount as I’d rather aim high just in case.

Once you have your annual expense number that you need to replace, simply multiply it by 25 to get your magic retirement number. Why 25 you ask? Because that follows the 4% safe withdrawal rate rule of thumb. There was an extensive study (called the Trinity Study) that ran a ton of scenarios over the entire time of the stock market to determine the safest withdrawal rate. “Safe” is defined as the amount you can withdrawal every year and your money is virtually guaranteed to last 30 years. This includes retiring right before the Great Depression and other similar stock market shocks. It’s a hotly debated number in the investment community. One of the authors themselves recently came out and said he actually withdrawals confidently at 5% (so you could use a multiplier of 20). People aiming to retire early will definitely want their money to last longer than 30 years, so you may want to withdrawal at 3.5% for your money to last 50 years (28.57 multiplier), according to a recent analysis. I personally still use 4% as my target.

Now that you know your expenses and your target retirement total, let’s look more specifically at your different types of retirement income and their pros and cons.

Tax-advantaged accounts are primarily your 401k and any IRA accounts that you have. You should try to max out your contributions for both of these if possible. The downside to be aware of is that you will get heavily penalized if you withdraw any money before age 59.5, so if you plan on retiring early, you should plan on supporting yourself using different income stream(s) until you reach this age. Also note that once you hit age 72, you are required to begin withdrawing money from these accounts, so keep that in mind to reduce your withdraws from other types of accounts.
Brokerage accounts (or other types of private investments) are yours to do whatever you want with, so these will likely be your main source of income if you retire early. A big advantage to buying stocks with your brokerage account is that you can focus on ones that pay a dividend. Dividends are money that can go directly to you without having to sell any shares. You typically reinvest these into additional stocks while you’re still working, but you can change that once you retire.
Real estate investments are a great source for passive income. Any net income you have after expenses can directly come off of what you need to withdraw from your other investment accounts. As the mortgages are paid off over time, you’ll get a jolt of new passive income without any additional work too.
Social security is the biggest unknown to me. It should be something I can lean on to reduce other savings goals significantly, but it’s become such a political hot potato in recent years that I’m afraid to include it in my retirement planning. If it’s still around and paying well, the only downside to my planning is that I’ll have extra money, which seems safer than trying to rely on it. Note that you can’t get social security before age 62, so if you’re planning to retire early you can’t count on it at first, and also be aware that your payments will be lower since you’re contributing less than if you retired later. If you start collecting social security between ages 62 and 67, you’ll get a reduced payment because you haven’t reached “full retirement age”. Lastly, if you are able to delay collecting social security until age 70, you’ll get additional money in your monthly payments for life.

In summary, here’s what I did/do:

Created a separate area of my budgeting spreadsheet to estimate what my family’s total annual expenses will be in retirement.
Next to that, I list out the total annual net income from our investment properties and subtract this from the annual expenses.
Then I look at other investment draw down in two ways:
- First, I take our total current investment balances (combining tax-advantaged with all others) and multiply by 4% to see how much potential income we could have if we retired today.
- Second, I project out each year’s total balances using our current savings rate and estimated market returns (~7%), and I do this for as many years as it takes to hit the magic retirement number.
Then when I update my monthly budget, I’ll update the current balances, see if things are getting better or worse, and then play with all the numbers to daydream different early retirement scenarios.

Benefits of real estate investing

Posted on February 14, 2021February 15, 2021 by Laid Back Investor

Once you’ve simplified your investments and you’re contributing to all of your tax-advantaged accounts, it’s time to start looking at other types of asset classes to diversify your investments. My personal favorite is investing in real estate. There are lots of ways to invest in real estate, such as fixing and flipping, purchasing notes (basically becoming the bank and receiving payments), buying into a private syndication (a mid-size company that handles buying, selling, and managing properties), purchasing REITs (Real Estate Investment Trusts — kind of like syndications on a larger scale, and you can buy and sell like stocks), and buying and holding individual houses.

After about 18 months of doing research, reading forums, listening to podcasts, and reading books, I decided that I wanted to buy and hold single family homes. There are many benefits to this strategy, and I’ll go into the big ones below.

Passive income — this was the main reason I first got interested in real estate. After subtracting expenses and additional budget savings, the leftover rent goes directly into your pocket (called cash flow). With enough rentals, you can eventually replace some, most, or all of your income to accelerate your path to a more comfortable retirement.
Leverage — Another word for using other people’s money, or in the context of real estate, getting a mortgage. Would you rather buy a single house for $100,000 or five houses, each with $20,000 down payments? While you have to be sure you’re not over-extending your finances (called being over-leveraged), the returns are always better when you’re using leverage.
Mortgage pay down — Also known as “tenants paying your mortgage.” Assuming your property has cash flow, the tenants will be fully paying your mortgage for you. Of course there are times when the rent isn’t coming in, but that’s one of the things you budget for in the good times. Eventually the mortgage is paid off and your cash flow can easily double or more!
Appreciation — This is the value of the house gradually increasing over time. While not as guaranteed as it was before 2008, over the long-run, the value usually at least meets or beats inflation. Some areas have less appreciation but more cash flow if that’s more important to you.
Tax deductions — I don’t know the specifics here as my CPA handles the details, but there are benefits to property ownership that you can take advantage of.
Control — This is the main reason I decided to do buy and hold for single family houses over the other real estate strategies. I can control every single thing about each property, understand the trade-offs, and have full say over what happens. For example, I could raise the rent to increase my cash flow, I could patch a roof instead of doing a full replacement, I could add a bathroom to increase the equity and rent, and when I’m ready to sell, I can list the home on the normal MLS to sell to an individual (vs multi-family that generally sell to other investors also trying to make a buck).

Simplify your investments

Posted on February 8, 2021February 9, 2021 by Laid Back Investor

I’ve tried out a ton of different apps or tools to manage my investments, from change round-ups to bank monitoring services, from individual stock investing to various fund investments, and the biggest lesson I’ve learned is to keep everything SIMPLE, for ease of maintenance and to keep your own sanity.

I’ve devised this ladder of how I handle my money. Nothing Earth-shattering here, but I think it’s important to start with this for the investing category.

First and foremost, you must contribute to your company’s 401k program to at least the percentage that is matched by your employer. That matching is free money and a great multiplier on your own investments. For example, if their match is up to 3% and you contribute that 3%, you are getting an automatic 100% return on your investment right away, which you will not get anywhere else.
Next, you’ll want to ensure you have around 3-6 month’s worth of expenses in an emergency fund of either cash or less-risky investments that you can sell quickly if needed. A wise uncle once told me that with a proper cash cushion you’ll be more comfortable taking risks at work which can help catapult your career.
Once you have those two basics done, next you should prioritize paying off all credit card debt that has an interest rate higher than 5%. Reason being is that you’re not guaranteed more returns than that (or anything really) in any other investing options. In other words, if you do steps 4-6 before this one, you’ll be earning less than you’re paying in credit card interest, so you’re actually losing money overall.
With no looming debt over your head, now’s the time to take the money you were paying towards credit cards and increase your 401k contribution by 1-3%. You could start with 1% more, see if you’re able to survive easily, and if so, keep upping the percentage until it starts to feel a little uncomfortable.
Once you’re at a good place with your 401k, or potentially even maxing it out ($19,500 per year as of this writing), the next investment you should consider is contributing to an IRA. There are two types, a Roth IRA and a Traditional IRA. A Roth IRA is better because the earnings grow tax-free while a Traditional IRA grows tax-deferred, meaning you pay regular income taxes at your future retirement tax rate. There are some eligibility requirements for contributing to a Roth IRA, so check those to decide which one is right for you. With either type of IRA, you can pocket up to an extra $6,000 per year and save on future taxes.
Lastly, once you’ve gotten this far, you can start looking into investing in stocks directly using a brokerage account. This used to be hard for the average person to do, but there are lots of companies that make this easy and cheap (or free!) these days. You can invest in individual stocks, index funds, or better yet (in my opinion), a robo-advisor, which I’ll cover in a future post. There is no cap to the amount of stocks you can buy, so as you get pay increases or bonuses throughout your career, you can continue up this investment ladder rather than falling prey to lifestyle inflation.

How I manage our expenses

Posted on January 9, 2021February 15, 2021 by Laid Back Investor

What better way to start off this blog than with how I started getting more serious about my family’s expenses. The very first thing you have to do if you’re not already is have a centralized place to track your daily expenses. For me personally I use mint.com — it’s one of the first players in this space and while it’s not perfect, it’s pretty darn good and you can customize a lot of things to meet your needs.

Initial setup and evolving categorization

With Mint, you connect all your bank accounts, credit cards, loans, investments, and property and you’ll get a pretty good snapshot of your overall income and expenses very quickly. They will auto-categorize your transactions into a dozen or so groups but about 5-10% of the time they guess incorrectly, so you do have to monitor new transactions and update categories as needed. For your initial setup, just go through the Transactions tab and review each transaction and update accordingly (this may take awhile but it’s worth it!). Once it’s up and running, I set a reminder to review them once a week so I don’t have to do too many at once.

Next, head over to the Budgets tab. It’s been so long that I don’t know if they set up any initial ones for you, but this has been where I’ve evolved my strategy the most over the years. I initially put budgets around nearly every category and sub-category because it only tracks progress against defined budgets, while everything else goes into an untracked bucket at the bottom called…”Everything Else”. Policing expenses that granularly ended up being too high maintenance for me. It’s great to see everything in one place though. It allows you to be very aware of where your money is going, and allows you to trim back unnecessary expenses. I ultimately decided that I didn’t need to see my known, mostly fixed cost, recurring expenses so I removed those budgets entirely (and now I categorize those as a custom Recurring Bills category). After several other variations, I ended up consolidating a lot of the other budgets into some top-level categories (which include all expenses for sub-categories) that I can manage most easily.

The final budget categories I landed on are:

Auto & Transport
Food & Dining
Shopping
Travel
Entertainment
Health & Fitness
Kids Activities

Overview and disposable adjustments

Some people may want to stop there, at least for a while, but I continued. I created a separate spreadsheet with three sets of columns for income, savings (always save for yourself first), and then expenses. Under expenses, I have housing (including any car payment), itemized recurring expenses, and then the top-level categories from Mint with the budget amounts listed, which I bucketed as “Disposable”. Now you have an overview of everything in one place and can see how much of your income is spoken for already between housing and recurring expenses and how much you have leftover for any additional savings and the disposable categories. It’s very likely that you’ll need to adjust your disposable budget amounts to ensure you’re spending less than you earn (minus what you save). I personally combine the last three categories above under “Other” in the spreadsheet view as they can be pretty fluid between each other. Make sure you go back into Mint to update the budget amounts there once you’ve landed on the right mix.

Finding hidden expenses

Many people skip this next step but I think it is pretty critical. With everything we’ve discussed so far, you have a good grasp on your monthly cash flow (income minus expenses), but you don’t have a handle on annual expenses yet. Some of them may be obvious while others are not. What I do is have a second tab that tracks every expense over $100 in each month, and I split them into recurring and non-recurring columns. I look for these from the Budgets view so I don’t include any recurring expenses in there. At the end of the year, you have a great list of where you spend your money.

With this list, I group any similar ones and create a new Annual Expenses list on the first tab of my spreadsheet with associated costs. Now you have additional costs that you need to be saving for. I divide the annual expenses by 12 for a “monthualized” amount that I need to weave into my budget. This amount should be put aside into a savings account each month, or if you’re fortunate enough to get a bonus at work, you can put aside a chunk of this at the beginning of the year. You will likely have to adjust your disposable budget amounts yet again to ensure you can afford these somewhat hidden expenses.

My annual expenses, for example:

Any annual memberships (AAA, museums, etc)
Birthday parties (these often hide as just expensive restaurant transactions)
Car and any other insurance not included in your mortgage payment
Car registration for city and state
Child aftercare, seasonal activities, and summer camps (it’s easier to shoulder the expense if you spread out these costs over the whole year)
Donations
IRA contribution (I do an annual contribution but you could do monthly)

Summary and maintenance

In summary, do the following to get control of your budget:

Centralize and categorize your transactions
Determine which budget categories you want to review regularly
Look at what you can actually afford and adjust budget amounts
Seek out non-monthly recurring expenses and ensure you budget for them

It sounds like a lot, but it doesn’t take a lot to maintain. Here’s what I do:

Once a week, review all new transactions since your last review. Update any transaction categories as needed, then look at your budgets to see if you’re on track or need to slow down spending in any of them.
Once a month, review the previous month and see how you did. Look at the budgets to see where you went under or over, then review all transactions in each category to look for new hidden recurring expenses. Over time you’ll get better and better, I promise!