building wealth

How Do You Guys Do It? Part III

February 13, 2013

Whatever. At least they’re not carrying student loans.

You know what the problem with most personal finance advice is?

An obsession with scarcity.

Buy off-brand groceries. Shop at thrift stores and garage sales.* Never eat a meal that you didn’t prepare yourself. Wear clothes until they’re threadbare. Do all this and you’ll have slightly more money than you otherwise would, which you can then use to…

To what?

Pay off a portion of student loans that you were foolish to have incurred in the first place? Build an “emergency fund”, an account whose very purpose is to stay inert?

Unlearn everything. If you heed the standard and repeated advice, all you can hope for is to one day have a net worth of 0. Paying off debt becomes an end unto itself, as opposed to just one step in a lifelong goal of building as much wealth (which is to say, giving yourself as many options) as possible.

Maybe you think debt is uniformly bad, perhaps because of how ominous the word sounds (“Our national debt”, “I’m in your debt”, “How do you plan to pay this debt?”) If that describes you, join us as we journey back to your elementary school math class.

Question 1: Is 5.93% debt bad?

Let’s ask both a) a simpleton and b) someone who understands money.

Simpleton: “Of course. What a stupid question. If I borrow $1000 today, and owe $1059.30 a year from now, how can that be good?

Discerning Human: “Well, what kind of return can I get?”

Other acceptable answers include “What’s my alternative?” and “What would I forgo by not borrowing that money?”

According to Bankrate.com, the average $75,000 home equity loan goes for 5.93%. That’s up a staggering 75 basis points over last week.

What if you were to borrow that $50,000 and use it to…buy an interest in a commercial property? A million-dollar building with 19 partners? A building which you and your partners now own free and clear, and can begin renting out to tenants whose rent payments can cover the price of your home equity loan and then some?

You’d be turning a profit, setting up a system by which you’d receive monthly checks. A lot of work up front, for all-but-effortless money in the 2^nd and subsequent months.

Question 2: Is 19% debt bad? Like, say, what you’d pay on a credit card balance?

Simpleton: (see above)

Discerning Human: Not unequivocally, but almost certainly. Unless I can find an investment that’ll pay me more than 19% – and the less I borrow at 19%, the greater the return on that hypothetical investment would have to be – borrowing money at that high a rate is only going to bury me.

Yet tens of millions of people do this every day. They don’t think of the shopping excursions and restaurant bills that comprise their MasterCard balances as “borrowing money”, even though that’s exactly what they are. And if you aren’t resetting your balance to 0 at the end of every month, you’ll never be anything but poor.

But cheap money, like the kind a responsible homeowner has access to, is one of the prerequisites for building wealth.

Everyone, no matter how successful, borrows money. Microsoft is not what you’d call a struggling company, given that it made $17 billion on revenues of $74 billion last year. Yet Microsoft has $12 billion in debt on its books. Almost all of it is long-term debt, and Microsoft gets to borrow at lower rates than you do, but the principle is the same: it takes (other people’s) money to make money.

But I can’t do that. I don’t have that kind of equity in my home. I don’t even have a home. I live with my parents, make very little money, and still have a bachelor’s degree I’m paying off.

Well, what do you want from us? Rousing applause for having made awful decisions? If you’re 80 pounds overweight and you smoke, you probably shouldn’t heed the fitness advice in Shape or Men’s Fitness, either. What’s your point?

This is why people, not all of them dumb, hold mortgages. Sure, you could wait until you’ve saved up enough money to pay cash for a house, holding yourself up as a paragon of debtlessness, but whatever for? It’ll take you decades to save that much money, and what would you be doing in the meantime? Renting. And renting pays -100%, every time.

Even the people who dispense narrow-minded personal finance advice hold mortgages, knowing that borrowing money at 3.6% for 30 years is better than paying cash for a house. Not only because it takes so long for most people to get their hands on the kind of equity that would enable them to pay cash for a house, but because of the other opportunities they’d be unable to put any cash toward while saving up for said house.

You want a tangible goal? One more beneficial than the goal of spending as little money as possible? Get the rate at which you can borrow as low as possible. When your credit rating enables you to borrow at lower rates than other people do, your potential spread increases. To the person who can borrow $1 million at 3%, a 4½% investment can be worthwhile. To the person who can’t borrow $1 million at less than 8%, the roster of possible worthwhile investments shrinks to almost none.

*Shopping at garage sales is a stupid idea anyway. You’re going out of your way to shop, i.e., spend money, despite not knowing what’s for sale. “Ooh, a lightly used bassinet! And only $15! This’ll be the impetus my husband needs to finally agree to having a child!”

Filed Under: Capitalism Tagged With: building wealth

How To Go Broke In Real Estate

January 18, 2012

One month, she tried to pay in canned goods and STDs

Every other post, you guys write about making money through real estate. It’s not that simple.

We never said it was. If your wealth plan consists of nothing more than buying the cheapest house you can find and then placing an ad on Craig’s List for a renter, of course you’re going to fail. Here are some other handy tips to turn passive income into passive outgo:

1. Don’t do your homework.

If you want to become a residential landlord, it takes 5 minutes to determine how much units are going for in your selected neighborhood. And another 4 minutes to see how much competing landlords are charging. Once you do, you can easily calculate cash-on-cash return on your investment (which is your down payment, divided into the rents you receive less the operating expenses and mortgage payment.)

You really do make your money going in, a truism that applies to most investments. Do the prep work before you get started, and you won’t be in the position that so many failed landlords end up in: a couple months later, losing money every month and not understanding why, then running the numbers and realizing that the only way to make cash flow on the property is to charge 3 times market rent. Which no renter will pay, and which you won’t be able to charge until the lease you made the current renter sign expires anyway.

2. Maintain a personal relationship with your renters. We know one gregarious, outgoing guy who built his wealth in the glamorous business of hair removal. When the money started coming in, he began buying houses. His pleasant demeanor is killing him as a landlord. He collects the rent personally: that is, when the renters feel like paying. He admits that at least one renter’s kids call him “Uncle Pete”, which means the battle’s already lost. When we asked if he bought the kids Christmas gifts, he laughed but didn’t answer.

How to fix this? Staying detached isn’t that difficult. Friends are friends. Accounts receivable are accounts receivable. There’s no reason why the twain need to meet. Uncle Pete could have saved himself aggravation if he’d hired a property manager.

We can’t say property managers are worth their weight in gold, because many of them are overweight middle-aged ladies who weren’t adept at selling real estate for commission and thus chose to work on what’s essentially salary. But a good property manager will save you myriad headaches.

Property managers usually charge 8-10%. For that they’ll find you a renter, collect the rent, and deal with all the unforeseen problems that come up so you don’t have to (calling someone to fix the dishwasher, et al.) It’s worth their cut just for you to not have to deal with collecting the rent yourself. Not because collecting rent eats up a lot of time, but tracking down even one late tenant will make you appreciate the value of a property manager.

Say a tenant wants to beg you for an extension, or explain to you that he wants the late fee waived because he needed money to buy his daughter a new pair of crutches for her polio. He can’t do so if he doesn’t know how to contact you (or better yet, doesn’t even know your name.) Instead, everything goes through the property manager and it’s not your problem. She’s experienced at this and knows how to keep the relationship purely business. She can be a good cop and shrug her shoulders when the tenant begs for a break; “I really would love to help you, but the landlord’s being obstinate. You’re right, he’s such a jerk.” Or she can be a bad cop and put her foot down. “These are the rules. You’re welcome to leave in the middle of the night and have us hold onto your security deposit, if you’re that kind of person. Did I mention my daughter’s married to a police captain?”

3. Don’t do due diligence.

In the early 21st century, there’s no excuse for not knowing as much as you possibly can about a person who’s in a position to defraud you. Google a potential renter’s phone number, and you might be able to find his long-dormant MySpace page on which his friends have left posts discussing the awesome strain of Panama Red they recently smoked. A simple name search can lead to the endlessly fascinating WhosArrested.com (WARNING: you can spend hours on there.) Confirming that a renter is clean and responsible – or at the very least, isn’t waving any red flags in your face – isn’t that hard to do.

Ultimately, be cold and antiseptic. Remember, it’s business. Save the wimpiness and the malleability for your child-rearing and your other personal relationships. Ruthlessness isn’t a necessary condition for building wealth. But letting yourself be a doormat is a sufficient condition for losing wealth.

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“Your health is the most important thing.” Uh-huh.

July 15, 2011

Every d-bag in this picture (the "d" stands for "dirt") thinks he or she is rich.

A few weeks ago, the popular personal finance meta-blog Yakezie held a contest for students, asking them to define richness and answer related questions. Even though our studyin’ days are long in the past, we decided to write an essay anyway and modify it for you folks. If this doesn’t spur some comments, nothing G-rated will.

Do you think becoming rich is easy or hard in America? Please explain your viewpoint.  What is rich to you? Is it a dollar amount in the bank, a lifestyle, or perhaps even a state of mind?  The United States is the richest country in the world. Will there always be poverty?

In the fashion of a corporate customer service department, let’s answer these questions in the order in which they were received.

Becoming rich in America is easy – maybe not easy in absolute terms, but the qualifier “in America” implies that we’re to compare getting rich here relative to getting rich elsewhere.

In the vast majority of the world, getting “rich” means capitalizing on influence and heredity. The most motivated, diligent, dedicated Kyrgyz camel tender or Mozambican copper miner can’t get rich in any meaningful way that we in the Western world understand the term. The opportunities for entrepreneurship just don’t exist elsewhere, for the most part. The opportunities for joining the governmental apparatus and perpetuating it abound, however. (But only if you’re connected.) And while the United States still has its share of nepotism, red tape, political maneuvering and corruption, it’s nothing compared to what goes on in the rest of the world.

Your humble blogger has a slightly different perspective, having been born and raised elsewhere and only arriving in the United States at the age of 25. When I did I had no money, nor did I have any connections – unless you count the hotel waiter I’d met in Miami a couple years earlier who let me crash on his couch when I first emigrated*. My dreams were modest, but they were distinctively American: make enough to achieve financial independence, ideally on my own and without having a boss breathing down my neck.

So what is rich to us? You’re not going to hear us give some bromide about it being health and good friends, or any of that crap. This isn’t a box of Kashi cereal. If non-monetary criteria are what make people rich, then everyone’s rich, and therefore no one’s rich because “richness” loses its meaning.

“Rich” as we define it means not having to worry about worrying about money. It means having assets that routinely outpace liabilities. Beyond a certain level of subsistence, that’s all anyone can hope for. If you gross $100,000 a year, spend money on everything you could possibly want and need and have $20,000 remaining at the end of the year, and can apply that to the following year’s assets, you’re rich. If you make $5 million and have a $6 million hooker-and-heroin habit, you’re poor.

Will there always be poverty? Again, it makes all the difference in the world whether we’re talking in absolute or relative terms. Our poorest acquaintance lives far more lavishly than John D. Rockefeller ever dreamed of. She can communicate across the world instantaneously. She can control the temperature of her dwelling with the press of a button. She can travel at speeds that the richest people of previous generations couldn’t fathom. For pennies a day, she can ensure that her teeth will stay strong and not fall out of her head. She can eat thousands of calories daily without having to spend time doing the backbreaking labor of growing the food herself. Or even cooking that much of it.

So yes, there will always be “poverty” in the sense that someone will be at the bottom – even though that bottom has risen throughout the history of civilization and will continue to. Is that a bad thing? Not if the alternative to having some at the bottom is to have everyone at the bottom. It’s important to remember that everything is transitory. The vast majority of people in the lowest quintile of income don’t stay there long: it’s more a function of the point a “poor” person’s at in his or her life – just out of school for instance, or unmarried and pregnant with one’s sixth baby – rather than a permanent condition of status. Both Control Your Cash principals were poor by any modern definition at 19. And are probably rich by most people’s definition a couple of decades later. We wouldn’t have changed any of it to have lived under circumstances where the opportunity to fail and be poor wasn’t available.

*No, it wasn’t the follow-up to a torrid homosexual tryst. Just because a guy sets foot in Miami doesn’t mean he’s gay. You people are perverts.

**This article is featured in the Yakezie Carnival-Best of Yazekie this Week**

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Filed Under: Economics, Healthy Living, Making Smart Choices, Personal Finance Tagged With: building wealth, getting rich, hippies, richness, wealth, what is rich