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Where Is The Profit In Your Deal?

   By: Donna Robinson

When we see Donald Trump on TV, we see a guy who is living the high life. Money, women and fame - all thanks to real estate. By media standards "The Donald" is a rich, successful real estate mogul. But, even he would have to admit that sometimes, he makes more money doing television than in real estate.

Whether you want a nice positive cash flow each month, or a cash profit on a quick resale, the only honest and ethical way to get there is EQUITY. Equity is the property value over and above the total amount owed on the property.

You may think that an investor who owns say, 50 houses, is probably very well set financially. He he might be...but if this investor has refinanced his properties to take all the cash out, or he paid too much to begin with, he may find himself on the brink of foreclosure or bankruptcy if vacancy rates climb.

One the biggest dangers I see today is the incredible pace at which home owners and investors are pulling equity out of their properties. (or worse, buying properties that have little equity to begin with)

Many investors are buying properties without even understanding how crucial equity is to their profitability. And homeowners who get 125% loans on their homes are asking for a foreclosure.

Regular readers know that I harp on the idea of keeping a minimum of 20% equity in every property you own. And the best reason to take lots of cash out of a property is for the purpose of paying down debt on other real property.

Every week I get calls from investors who are desperate to get a fix on why they are losing money on a deal. The number one reason I see over and over, is a definite tendency to take too much cash out of a property, which can kill your positive cash flow.

It's not flashy, it doesn't sell as well as telling someone they can make $10,000 by next week, but buying, holding and accumulating equity is the absolute bottom line rule for success if you are a small investor. I don't want to burst any guru bubbles, but the facts are the facts.

Let's take my mom for example, who happens to be one of my favorite investors and also by far, the most conservative one I know. She owns 5 houses all paid for free and clear. All are rented for an average of $525 per month. (Her location is Cedartown, GA., relatively low cost compared to Atlanta) Her personal residence is paid for too.

Mom is bringing in $2,625 per month in rent. Taxes and Insurance will get about $600 of it, leaving $2025. Over 12 months that is $24,300. Not too bad. Added to other income and investments this makes for comfortable, reliable retirement income.

On top of that, her passive income will increase over time as her rent goes up. And, she is earning a solid 5% per year appreciation in the value of each property. Some of her houses have doubled in value over the past 12 years. In terms of equity, mom is worth a pretty good chunk. In a good market, I'd guess about $800,000 just for those 5 houses and her residence.

She took about 15 years to do it. Nothing fancy, just classic real estate investing. Anyone could do the same thing easily in 10 years or less. But Mom knows that even when a property is owned free and clear, there are still unexpected events and costs that will eat into your cash flow.

She represents the vast majority of the conservative, "never-been-to a-seminar-in-my-life", types who make up the bulk of the real investors out there. Some have 5 houses, and some have 75. I once worked for a guy who had about 150 income properties. He was debt free and had untold wealth in his equity. He had spent 30 years building this portfolio, buying good deals as he came across them.

Like Mom, he also is careful to save money, avoid wasteful spending, and keeps his equity in tact, so that his cash flow is in a safer range.

Equity gives you breathing room when the unexpected strikes. You might have a tenant that skips out on you, or a tree falls on the roof and your deductible is $1000. Practical real estate investing requires equity for long term safety and security.

In contrast, many of the best known real estate gurus have been broke and even filed bankruptcy. They could have used more equity.

Many people don't know that real estate “guru” Robert Allen, the author of "Nothing Down" and "Creating Wealth", which ignited the investing boom in the early 1990's, went bankrupt in July of 1996.

It appears that his no money down deals loaded him with too much debt. When interest rates went down and the rental market got soft, there was not enough real equity there to pay the bills.

Remember investing guru Robert Huff? Well known in the 1980's, he wound up in bankruptcy too.

There are many gurus and investors who like to argue that equity sitting in a property is money that is not being used. I understand their point, but I respectfully disagree. Taking equity out of a property also creates a situation in which that property requires more cash flow to sustain the costs. Then, when unexpected vacancies, higher taxes, or bad tenants come along, the investor is left with too much debt and not enough income to support that debt. The result can be catastrophic for the over-leveraged investor, some gurus have discovered.

Even "The Donald" has been broke. His restructuring of massive debt on his New York City properties during the late 1980's was the basis for his "comeback" to real estate glory. He got into a hole about 100 feet deep and then managed to get himself out. The book he wrote about the experience was a best seller that made him famous.

Mom probably won't be writing any books, but if she did, she would caution Mr. Trump not to be over leveraged. She will probably never be as famous as "The Donald" but what 'cha wanna bet she has more equity...

Donna Robinson is a real estate investor, author, and consultant located in Atlanta Georgia. You may read more of her articles on her website at http://www.RealEstateInvestorHelp.com or you may contact her by email at drobinson@reihelp.com or call 404 542-9903.


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