partnering up

i've been talking to a few of my friends about the advantages in partnering up in real estate endeavors. the main advantage of this is that once you get to a certain size, the cash that you can generate can start funding expansion. consider this, let's say that i was 1 out of 10 individual investors, each of us operating separately. if i wanted to add another holding, i could take the income my one property is generating, let's say $5,000 a year, plus another $45,000 out of my pocket to get 20% down plus closing costs on a new property worth 200k. now, i'd be cash flowing $10,000 a year, which is great, but i had to have that $45,000 just sitting around.

consider that the 10 of us individual investors formed a partnership, then with each of us contributing nothing but the $5,000 from our investments, we could each participate in 1/10th of a $200,000 purchase that would cash flow $500. the ROI is the same (10%), but this was done without any additional infusion of capital.

of course, there are some downsides to doing this. your partnership agreement must be well drafted and you need to deal with people you know and trust. even then, there are times when folks will want to get out of the deal and take their pieces with them. you have to have all of those details sorted out. it can be messy. especially when you are talking about lots of people.

change of plans

well, after much deliberation, i decided against paying off rental property #1. the reason for this seems kind of at odds to my approach on finding good cash flow and yield on my investment. you see, the property has about 7 years left on the note, and the rent that we collect is just enough to offset all the expenses related with owning the property. if we were to pay off the property, we would easily see a positive cash flow out of the property. i took that cash flow and projected it over 7 years. it came to be roughly equivalent to the lump sum amount that we'd have to pay in order to payoff the property.

this means that by doing nothing, and leaving our money essentially just in cash or some vehicle that at least keeps up with inflation, we'd be in the exact same position in 7 years whether we pay off the property now or not (assuming no appreciation). in one situation, we'd be out that cash, but it would slowly be building back up, and in the other, we'd have that cash on hand and the property would pay itself off.

instead, if we found some other vehicle for that capital that i was going to use to pay off the property, we'd actually come out ahead (assuming that the capital retains its original value). for example, if we purchased another property, that cash would be converted to equity, and any return on that cash would actually improve our position.

this seems to be a 180 degree reversal from what i was advocating before, which was to seek out investments with good cash flow. though the cash flow would not be as good, it actually makes more sense in the longer term. after 7 years, our cash position would be less, but we'd actually be cash flowing 1.5 times what we would cash flow by paying off the property.

big decisions

i've been looking at our finances and looking at ways to improve our cash flow. on thing that has been jumping out at me is a rental property that we purchased about 8 years ago on a fifteen year note. the cash return on this property is pretty close to 0%, though, we obviously are increasing our equity position with tenants paying down the note each month.

in 7 years, we will own the property free and clear, and it will start returning us around $1,000 a month (after property management, hoa fees, insurance, and taxes) in cash.

we could pay this down early and start getting the benefit of this return today, though this would be a pretty big drain on capital, it's hard not to consider. the annual return would be around 12-13%, the only real concern that i have is the opportunity cost of putting all that money into play. over the long term, it's hard to refute this as the best play -- we have the money earmarked for investment, anyway. the other option would be to put that toward another property, but the cash return on that would probably be half.

it seems like a no brainer, but i'm still on the fence about it. when my wife and i got married, we joked that she is responsible for all the small decisions and i'm responsible for all the big decisions, and up to this point there haven't been any big decisions.

stay tuned . . .