Should we pay off rental properties first before primary residence, ultimately, where should the debt be? So overall, I don’t really believe in owning and primary residence, unless you have too much money. You don’t know what to do with it. I’m a believer of renting. I wrote a big article on this. It’s simple, passive cashflow.com/home.
I mean, do the math for yourself guys? Actually, I have a calculator for this. It’s at that URL symbol pass the cashflow.com/home, but it’s this big calculator I created where you’re able to put, you know, what is your rents? What is your mortgage payments? And then it kind of compares the equity build up.
And then what would happen if you would’ve just done something simple, like buy some rental properties, how much the equity would grow and it kind of compares the two scenarios. And whenever you’re trying to figure what should I do? I would recommend just putting it on a spreadsheet and figuring out what the math says first.
So whether you pay off the rental properties or the primary residence, it really doesn’t matter from like a numbers perspective because. Once you buy a property, it just goes in your portfolio anyways, the way I see it. But from a liability standpoint, I would rather encumber my rental properties with debt first because that’s the higher liability, but you know, here’s the problem.
This is why you don’t really want to. Pay off your debt, because especially if you own your primary residence and you want to outright every litigator out there knows exactly what, where you stand with your debt. There’s like things I subscribe to that I can kind of pinpoint how much equity everybody has in their house.
I mean, that information is out there for the taking. And when you pay off your primary residence, I mean, you’re a sitting duck for all this liability. Of course, there’s other things that you can do that we talk about our masterminds, like your vocable trusts and doing that some homestead stuff. But I think you’re going about this, the wrong way of like, well, what should I pay off?
What you want to be doing is. You want to be looking at your return on equity? There’s my handy-dandy chart that I show a lot of people, but you know, when you first had that rental, you’re making a lot of money, maybe 30% on your rentals, but as the appreciation happened and you paid down your mortgage and maybe you paid additional payment, don’t do that.
Because your return on equity is going down. And most people like after they own it, a decade or two, they’re making like single digits in terms of return on equity. I have a calculator on this@simplepassivecashflow.com slash R O E. I’ll put it into the Facebook group here too. So you guys can download that.
That’s the name of the game as investors return on equity case in point here, I mean, I’m living in this house. That my landlord owns outright. They are getting almost like one or 2% return on equity. I mean, heck for that much pain in the butt worrying, if I’m going to move out or not, they probably better be off in a saving spot and making I’ll be double what they are now.
It makes no sense to me, but Hey, I’ll rent from people like that and I’ll be on the winning side of it.
To be an accredited investor, a person must have an annual income exceeding $200,000 ($300,000 for joint income with your spouse) for the last two years with the expectation of earning the same or a higher income in the current year. An individual must have earned income above the thresholds either alone or with a spouse over the last two years.
Net worth exceeding $1 million, either individually or jointly with their spouse. Note – this is often the harder one to achieve as we find high incomes are not uncommon.
An entity is considered an accredited investor if it is a private business development company or an organization with assets exceeding $5 million.
Also, if an entity consists of equity owners who are accredited investors, the entity itself is an accredited investor. However, an organization cannot be formed with the sole purpose of purchasing specific securities.
In 2016, the U.S. Congress modified the definition of an accredited investor to include registered brokers and investment advisors. This continues to open up with new changes – If a person can demonstrate sufficient education or job experience showing their professional knowledge.
https://youtu.be/z5WHIa5FFng
Pondering how a person can be called an Accredited Investor? Do you need to be one to get access to private investment opportunites?
An accredited investor is an individual who has the institutional knowledge, experience, net worth, and/or financial sophistication to evaluate an investment opportunity.
Defined by the United States Securities & Exchange Commission as someone who makes a minimum of $200,000 ($300,000 if filing jointly) or has a net worth of $1 million dollars excluding personal residence – although one could easily do a cash out refinance or HELOC to get the equity out of the primary residence in order to put you over the $1M threshold if needed.
Importance of being an Accredited investor
The significance of being an accredited investor is that you can invest in things that those with less money, cannot which are mainly deals such as Reg D 506C offerings which are mass marketed and therefore can only allow Accredited investors.
Alternatives to having accredited investor status
If you are not Accredited don’t worry! Most deals out there are done through private networks and not mass marketed – these Reg D 506B offerings are accessible to “sophisticated investors” which has a much more nebulous definition but essentially says you know what you are doing even if you don’t have that much money.
In Reg D 506B offerings which require you to have a pre-existing relationship with the sponsor, you have the ability to invest if you can qualify as “a sophisticated person investor” which has a more ambiguous definition but essentially says you know what you are doing even if you don’t have that much money.
These laws were put in place long ago to “protect” the average person (non-Accredited investors) from predatory activity. The irony of this all is that there is no protection for the average Joe, or pension funds for that matter, against investing in a wildly bloated stock market at record valuations and being mislead by a commission based financial planner. Every major trader out there knows we are in a bubble but there is no protection for individuals dumping money into their retirement accounts to buy mutual funds. It’s an archaic system which makes little sense and I have always felt that it was the little guy (non-Accredited investor) that need access to good private alternative assets the most!
Certainly, there has been some recognition of this fact. The 2012 JOBS act made it easier for Main Street America to participate in “alternative” investments via crowdfunding and made it easier for sponsors to advertise previously unknown opportunities. However, we have a long way to go because it is not practical for a syndicator to raise private capital with current crowdfunding laws because the maximum that can be pooled together is very small.
I am not a fan of crowdfunding websites. When I invest personally, I need to know the lead syndicator personally. None of this “we met at a local event and he pitched me his deal”. If a guy does not have a list of solid investors they must lack the track record. Also I did a podcast with Amy Wan a syndication attorney talking a lot about this topic.
How do I get qualified as an Accredited investor?
For Reg D 506C offerings where third party verification is required… the steps involved with qualifying include a bank statement from a financial institution that has been approved as a bank, a mortgage (with a qualified purchaser), joint net worth or income of more than $200,000 to qualify as an accredited investor, or a non-bank financial information, including the net worth of $1M not including equity in your primary residence. (Because your home is not considered a good investment in our community)
Types of investments an accredited investor can make
Now that you’re an accredited investor, you started asking yourself “what type of investments should you get into to increase your net worth by getting away from retail investments?”
The golden rule is to work with investment firms that have a proven track record.
Potential SEC changes
Some rule changes rumor to pushing the threshold for Accredited investor status to $5 million or more of net worth. Or creating a new level of investors such as Accredited investor plus.
Go ahead and start your journey towards becoming an accredited investor.
0:00 Investors sent in their property lists. And we are going to figure out which ones to unload first based on my rules of return on equity. So for those of you guys don’t know what return on equity is, it is a metric that not a lot of investors go by. But I and a lot of other sophisticated investors monitor very closely as we’re always pruning our investments, a big misnomer out there that people talk about a lot is buy never sell, which I think is half true. investors need to look at return on equity and figure out which assets to sell, refinance, or maybe use a HELOC on, basically you’re trying to find her dead are lazy equity, that’s not doing anything. And we are going to go down this list, I’m going to show you how to do this in this little example.
But like when you first buy a turnkey rental, you’re making around 30%. At least I’m thinking, you can check my math here at school passive cash flow, calm slash returns. And I walked through a little whiteboard example showing everybody exactly how I come up with that with cash flow, mortgage, paid down tax benefits, and any bit of appreciation. Let’s go through this list right here. And let me show you how you manipulate this spreadsheet. Again, this is one of the cardinal sins that most investors make is they never sell and they have a huge equity position, which tends to happen over time. But they need to get that equity moving. One of the biggest mistakes I always hear is like well up cash line, it’s like, well, yeah, your cash flowing a lot. But your return on equity sucks. So you got to do something about it.
So this investors very smart, they realize that they need to get this equity working hard, certainly harder than that at their day job. And we’re going to help them do that. So first formula I’m going to do here is just setting the status, all right, the value of the property is $1.1 million, what I’m going to do is I’m going to apply a 90% multiplier, just assuming that maybe this is just a little bit too high, and to account for closing costs and commissions. From there, we are going to subtract the debt service, so they currently own $352,000 on this property. And that is how we come up with a rough estimate of how much Lacey debt equity. So I’m going to cascade that down a spreadsheet.
2:17 Just cut and paste that down. And I’m just gonna sub this up to see how much of a problem we have here.
2:24 So about $2.3 million in equity. And on some kind of one to see a high level what we’re we’re at, actually, I have to figure out the some of the values of the property minus the some of the bolts course I’m missing out the Commission’s but I just kind of want to see where we’re at. So that’s 2.8. So that’s how much those loans and commissions and closing costs, whether or not that loans but the commission closing costs are what I call friction costs, are taking out almost half a million dollars right there.
Maybe one day, I’ll be one of those douchey luxury real estate brokers and only work with clients selling two to $3 million houses, maybe I don’t want to do that with my life. But anyway, figuring out, let me sell them. This is the amount of equity and this is the amount of purchase price. So I’m gonna go this number divided by this. And currently there are right about on average 57% equity, which is not good. Usually, at full power, you’re going to be at 80%, just to typically be the max leverage, but it’s definitely getting to the side where I mean, it’s a good thing, you got a lot of equity, but it’s a lot of debt equity. So next process is like alright, figuring out which of these properties that we need to go first. So what I’m going to do is figure out what the how much money we’re making money we are paying
3:55 for via let’s just go by that. So on this first one, we make money with the rent. So that’s the primary residence to start off with.
4:06 This one’s bringing in 5000 bucks a month. And I’m also going to subtract these he wastes they put it down. And this is the reason why we don’t like conference. So you always have to pay these things. I don’t know exactly what this means by extra costs here, I’ll just add subtracted and also subtract out the Buffy mortgage peanuts, I would run these numbers a little bit differently. But that’s good enough for government work is what I say. That is how much money they are making believe on a must be on a monthly basis. So let’s multiply that by 12. So they’re making 30 grand. So you want to take that their return on equity is calculated by how much money you’re making, divided by how much equity you have in the deal. So if your denominator which is the number at the bottom goes up, which in this case, it’s the $475,000 this number gets smaller. It’s
5:00 smaller, so they’re making about 7% on this property right now, that’s not good. So as we cascade this stuff down, there were a ton of equity on the primary residence is obviously zero, because not making any money, you’re probably losing money, that is a liability, right? They’re not an asset for these properties actually losing money. But to the pier, here’s kind of where the art comes into play, you can either look at it from perspective, all right, which property has the worst return. And so that is obviously this one and this one here, but we’re humans, and this is art.
So obviously, like, there’s some utility to having a primary residence because that’s where your, your house resides. And that’s where you live. So maybe you don’t want to sell that one. First. Again, we’re trying to find the border operations border that we got load, so or refi. The next thing I’ve kind of take into account secondly, after the return on equity is how much equity requires you to extract out of it. So if you know say, this one, we’re losing the most amount of money, this is probably first on the chopping block. But because it’s so small, it’s not may not be worth the effort. And likely, what we want to do is we want to list multiple properties on the market. And kind of the attitude of you know, some of them were more in a hurry to sell some we might fold out for even better price. So the way I would do this kind of spot checking this is the first time I’ve seen this, the first two that stick up in my head are this one. And just I want to highlight the lowest three from a return equity perspective, but I want to highlight the big ones, which ones are going to really move the needle. And that is, which ones are the ones with the biggest bang for our buck, which is definitely these three. So fortunately, there’s no overlap here, other than the primary residence as a primary residence, that’s probably have to go but I don’t want to upset mama bear.
So we’re just gonna leave that one on gone, we’ve got plenty of equity to play with here. So there’s no obvious winners, which ones to put on the chopping block, but just kind of I’ve done this buttock a zillion times. And what I would recommend selling would be this one first may not be the lowest return on equity, but it’s certainly a nice little pop there. And I would sell this one, but then I would sell this one, and I would sell this one, this one, these are all kind of the same. And then at some point, when a boss says, Okay, I guess or what do you take maybe one of these rentals, take the money and buy a bigger house, right? So this is where you buy a mansion does a good job up to this point, right? I mean, this is where people say, Well, you shouldn’t buy all this like do dads or like expensive stuff, but man like you earned it, you did a good job here, go out and buy a big ass house for all I care. Next, what I’m looking at is an act. This is probably where we got to get the investor on the line. I don’t know the full story on these properties. I don’t know what all these are, to be honest, these duplexes and fourplexes, maybe stick on the market owner occupied. Now even though I list them as five, knowing that these gonna, these are going to be four times as hard to sell as these other single family holds. And this is why for higher net worth investors, I don’t recommend getting a two to five unit. I just say if you’re going to do single family homes, it’s great because you have great exit strategy. As a high net worth investor you’re going to go to syndications very quickly. So you don’t want to be screwing around with this stuff. Because the the duplexes and triplexes fourplexes huge send it selling it to the cheapskate investor who wants to find the deal and their pain, you’re just gonna bang your head on the wall, especially when you get to one of these guys who are like think that they’re a pro, but they’re just a douchebag, who wants to retreat you for all these little nitpicky stuff. So I would list even though I haven’t listed as five, I probably list it like soon just and not be too motivated to sell it. Somebody wants to pay your crazy price for B and that’d be my general consensus with all these properties right here. Just put them all on the market, see what happens.
But generally, you’re trying to go make a go at this order. This is really your motivation. Whereas when I’m saying like these guys, they just want to sell it, or they want a little bit of a price concession do Just do it. Or as these other ones you might want to stick to your guns or stick to your price that you think that it’s valued out here. The other side of this is like alright, where as you start to extract this money out this money right here, it’s $2.3 million. You can’t it’s got to be hard to invest that in the beginning, especially if you have no contacts. You don’t know who to trust, but you’re basically you’re trying to do is build a appointment schedule right here and I’m just doing it very simplistically, you know, you got 2020 2021 2022 for most investors under one to $2 million dollars net worth. I’ve never done any rental properties never syndication before. I would say no stick to like a few deals at first, right? That’s 15 grand minimums, and maybe deploy to
10:00 hundred thousand dollars in the first year. But after that, hold the horses a little bit right pump the brakes. Of course, if you have if your net worth is higher than that for $5 million plus this, the other side of you got money sitting in the bank doing nothing, right. So you may want to push it a little bit harder being more aggressive. Now this is a just in time exercise here, you want to sell these acids and hot potato them into deals, minimizing the full period or the time it just sits in a bank not doing anything. So I would imagine selling these properties probably in a period of two to three years. It’s taken a while.
So I’m just gonna run the rental value ratios real quick on these properties to say I probably should have done this earlier. But this also helps determine another way of determining which properties to model first. She besides the probably the best right here. These other ones are well under 1%. Yeah, on both of them should unload him yesterday, people always ask like, Well, I have a rental property in California. And I’m like, Alright, stop right there. rents value ratios, California ain’t gonna work unless you’re in a war zone. To get more nitty gritty here, it’s if it’s under 1% to value ratio on load, unload that thing, it’s just not even worth it. Especially when a lot of you know other properties that we’re buying, like, you know, one well over 1% of the value ratios in broad markets with force appreciation. So I guess for this client, this client is pretty high net worth. So I would probably make this deployment schedule a little bit aggressive. So assuming that a cash saw half a million dollars every year on this. And so all the assets by the time 2024 comes around, I probably do something like 500 grand, that’s roughly kind of like the how you would patient deployment schedule.
And this is where other more advanced concepts come into play. And like, you know, to lower your bid put me not making anything like infinite banking, which users will life insurance in a tax free via goal. Yeah, this just shows an example on figuring out your return on equity. What are you trying to sell first? And then what are you trying to deploy it into? Another piece of this is where I help clients all the time, and where I kind of empower people in the mastermind. And you can learn more about that it’s simple passive cash flow.com slash Johnny. But it’s like you know, you don’t want to sell these assets, you got to be mindful where number one your adjusted gross income is, you don’t want to be looking up into the next tax bracket. And guys, if you’re under 200 $300,000 AGI, don’t freak out about it. Most of my clients are well above that, that’s when you have to seriously think about no BGG con when you sell these assets and kind of take the capital gains slowly over time. And then also, if you’re, you know me, you may be taking money out of your retirement accounts too. That’s another thing to think about. So when you take money out your retirement accounts, it also shows up as ordinary income. So another thing that’s at play here is you have a portfolio like this, you would likely have a good amount of passive losses from the depreciation of these.
But you also have to, as I go into this, it’s complicated, right? But it’s just something is what I do, right, this is what I do for folks and help them understand it so they can make their own game plan. But as they start to deploy into these deals, hopefully they’re doing cost segregations. In these deals, where they’re getting at least half of what they put in to inject brand, they load up 200 grand in deals that hey, Bobby should be getting more than $100,000 of passive losses, which they can add to their current passive loss, a stock fold to then use to offset these capital gains, but they do happen to that’s kind of getting three layers deep there. But these are the things to be aware of. And I think every investor needs to understand that. I don’t think that this is the responsibility of your CPA, like the CPAs job is to do your taxes for you. Not plan this stuff. This is your job guys, family offices, on millionaire families and above, people that do this for you. But look, when you’re under 10 million bucks, you got to do it all yourself. And fortunately, most CPAs out there just don’t know how to do it because that’s why the CPA has a day job off. their net worth is not over 123 $9 they don’t do this stuff.
And that’s where we can kind of help but for free freebie go to simplepassivecashflow.com/ROE to download a spreadsheet very similar to this is more of a worksheet that you can plug your investments in and see where you have your lazing equity at to help you determine which properties to sell. What’s the poop down here what needs to go? It’s an unlock sheets the spreadsheet you guys can have. So you can again search out that debt equity and don’t be an unsophisticated investor that just buys properties and holds it till it’s paid off. I think that’s one of the worst things you can do especially from like a liability standpoint. I mean, if you have a paid off property, everybody knows where to see. Yeah. And that gives me
15:00 Tax any legal advice here this whole video but just giving you guys good information and yeah check out what we have to offer it simple passive cash flow calm. See you guys later bye!
0:00 But what’s the real play here, especially for guys who have less than a million dollars net worth. So people who are buying gold right now or buying it as an alternative to having something liquid that hedges against $1 collapse, right.
That’s why people own gold, but you can’t gain purchasing power with gold, you only retain it which is worth doing. But when you pair gold with debt, now that’s different.
Let’s say for example, I go pull a couple hundred thousand dollars out of a piece of real estate and I take half of it, I put it into gold, and then the gold doubles in dollar price because of inflation. Now my gold will pay off all my debt and so the debt and the dollar go together.
And the problem with going into debt to buy gold is you have to make the payments unless the thing that you go into debt with provides the payments then when you pair gold with debt, and real estate, now you have a chance to outperform in an environment where the dollar is falling.
And so that to me is the way to play this game right now because all of the pressure to support the entire global economy is landing squarely on the dollar.
0:00 It seems like everyone is talking about the market being at peak right now. And personally, I think things rings true for multifamily, even more so than other asset classes, given the situation, how do you personally decide how much to invest in opportunities today versus staying liquid to invest potentially greater opportunities in one or two years, my investment philosophy is when I have liquidity, I’m going to invest it again, some of the rules that I follow is I don’t invest more than five or 10% of my network into any one thing to get diversification that way.
I’m spreading around my portfolio in two big ways. The first way is different geographic areas. And then the second is different asset classes. I mean, most of my holdings are in apartment complexes and some mobile home parks. But I haven’t really branched out too much into self storage or some different asset classes, I definitely have done a bunch of development. And getting more into that.
But diversifying into different opportunities is is a good way, I think for anybody. And that’s what I’m doing for myself. As far as A, B and C class properties. I think I’m kind of moving on from class C and Class C, I think everybody gets a little blue eyed over there, you can get 10 plus percent cash flows, but it’s a hard clientele like classy tenants, they’re hard because they don’t have too much cash savings and collections is very difficult for that type and often new trading a lot of sweat equity, especially as offered Of course, for that, but even as an LP investor investing in C class deals, cash flow is very hiddenness.
One way I balanced staying liquid, I use infinite banking. So if you guys want to learn more about that go to simple passive cash flow, calm slash banking, but it’s a technique that a lot of wealthy families will do to use life insurance as a means to not pay taxes because it’s a little tax loophole. You don’t pay taxes on life insurance, and when it is life insurance, it is very hard to get sued for that money.
0:00
So if you didn’t use a home office in your home exclusively for business, and then you don’t want to have to face the capital gain consequences when you sell, you would need to stop using that home office for business purposes for at least two years.
0:28
Hey simple passive cash flow listeners. Today we are going to talk about cost segregation and not for those looking to cost sick. They’re 200 unit 300 unit apartment complex. But how can we use this for our single family home rentals, smaller rentals or possibly even our primary residence? Again, this is the passive investing show simple passive cash flow, where we are trying to a lot of our highest and best use is that our date our day jobs, but how do we optimize things are investing so we can get out of the rat race and a lot of times I can see you guys getting out of it in less than five or 10 years. So today I have a cost segregation expert David Britten soul on the line. Thanks for joining us, David.
1:13
Thank you.
1:15
Yeah, so in the past year, I’ve kind of found that cost segregation studies are a little bit of a racket, a lot of companies and firms will do it out there typically charged around the same price. But there’s a difference between a legitimate cost segregation study. And one of those big things is actually having a site fitted visit, which David has actually flies out there himself, and he does these things. But yeah, can you expand on? I mean, there’s a lot of companies doing this, right, David?
1:47
Yes, there are in the last, I’d say 12 to 15 years is when a lot of them popped up. I’ve been doing this for 20 years. And in the first five years I was doing it, there was practically no one west of the Mississippi River that was doing it.
2:04
Yeah. And also on the smaller end, I mean, on our apartment projects, where it makes total sense with economies of scale and 100 200 300 unit apartment complex. But when you start to get into a single family home, like a lot of you guys will have $100,000 turnkey, it may not make sense. So there are some options out there that you might want, you can pay, you know, 400 500 bucks, and they do a little desk review. But David, can you talk a little bit to the legitimacy of those cost segregation studies and how those guys operate,
2:38
what they tend to do is they will ask you for the measurements of certain things that they want to segregate. And so essentially, you have to do it. And then you give it to them, and they’ll put it into a report. That’s the way I understand how they do it. We don’t do it that way. I actually go to the site and do the engineering myself, when it comes to these smaller projects, especially if there are new architectural drawings that we can use for the engineering.
3:08
And is there some kind of checkbox when you submit the cost segregation study to the CPA? Where, yeah, I actually did a sidewalk? Or is there any kind of designation that you need to do on your end?
3:21
Well, I do put it in the report that we visited the site. When I say we, it’s essentially it’s me, but I have an engineer who does the pricing on the value pricing of the assets that I bought segregated from studies where we don’t have blueprints. And also I photos, document everything. So when I’m on site, I’m taking pictures of all the components of the property that I want segregated, which obviously cannot be done if I don’t visit the site.
3:52
So you had out there, travel costs are included.
3:57
Do actually I did I build those separately on top of the stated fee? Right?
4:01
So you touchdown and what actually do you do on these trips to so people can get a sense of what goes into a cost segregation study?
4:12
Well, I mean, I have to look at the entire property both inside and outside. And so I photograph everything that I want to segregate. I measure everything I want to segregate in the case of situations where there are no drawings to work from. And that’s both inside and outside the house. And I have measuring equipment that assists me in doing that, such as the laser beam for the interior stuff and surveyors wheel for the exterior
4:38
stuff. If we kind of left people at the dock there what a case, cost segregation study is, but in a very high level, it’s a report that allows the CPA to now aggressively right off the property. Most single family homes you can write off a property and 27 years so 127 of the depreciate Over 27 years old, she called straight line depreciation row with a cost segregation able to aggressively write it off. Oftentimes, you can take one third of the entire building value in year one.
5:12
That sounds about right. In most cases, yeah,
5:14
you guys can check out simple passive cash flow.com slash cost sag, also embed this video in there too. But that’s pretty much the the guide to what cost segregations are. If you want to see how that ties into your own personal taxes, go to simple passive cash flow calm, slash tax. But let’s get into the good stuff, David. And before we do is throw down the disclaimer that you and I are not CPAs
5:41
I am a CPA.
5:43
Okay, you are? Yeah, cool. Well, I’m not one, and I’m not a tax attorney either. But we are just giving out infotainment here, right. We’re not giving any professional advice based on your personal situation, but just some ideas that have David has seen some of his clients do. And so let’s start off with the top right, like, can you cost segregate out and aggressively extract the depreciation on a primary residence that you want to live in? Let’s talk about that, that you cannot do,
6:16
you’re not allowed to depreciate your own home. The exception to that would be if you have certain areas that are used exclusively for business. But even then it may not be advisable to do that. Because if you are segregating out a certain portion of your home for business, a home that you own, because then when it comes time to sell the home, if you sell it again, you will actually have to deal with a capital gain on that portion of the home which might more than offset any deductions that you would have gotten for that area of of your home. That’s the one thing in the tax code is actually more of an advantage to renters and into homeowners, where a renter may use a bedroom in the two bedroom apartments. And we’re using exclusively for business, they can take all those deductions that are allowed and don’t have to deal with recapturing any depreciation because they didn’t take any depreciation because they don’t own it.
7:18
Now, what are some of your clients doing to do they turn it into a rental property or commercial property first, and then they move on after let’s talk about like, what are some folks that you’re seeing doing?
7:30
Yeah, you can do that. And what’s the way the law works is that as long as you lived in the home for at least two of the last five years that you’ve owned it, then it’s considered your principal residence. So if you did use a home office, in your home exclusively for business, and then you don’t want to have to face the capital gain consequences when you sell, you would need to stop using that home office for business purposes for at least two years.
8:00
So how did they get around? Like, I mean, can they move back in? What’s kind of the trick there?
8:04
Oh, well, if you’re talking about a separate rental property, then yes, if you have a, let’s say you live in one home and you have another one that is a rental property, and you’re facing a large capital gain, then what you want to do is move back into that other homes that was your rental property and live there for two years, and then you avoid the capital gains.
8:26
So let’s just say you you bought a house to live in actually, this was my case, for my first rental I bought back in 2009. I lived in there for a year. I rented it out for the next I think two or three years. But you’re saying if I would have just moved in for one more year, I would have been able to not have to pay the capital gain on the whole thing.
8:48
Right, you need to do live in it for another year for some stonework to have the last five, right now you still would be facing depreciation recapture. But you wouldn’t be facing capital gains.
8:59
Okay. So let’s talk about this other idea you and I were talking about so they have a larger home like maybe a million dollar property that they own. And you’re saying that they are renting it out for a year turning it into a quote unquote, commercial property, in that time costs, egging it out, pulling out the passive losses or the depreciation as and putting in their back pocket for passive losses. So when they do have a different real estate capital event, they can use that, but then they’re moving bright back into the property. unpack that for us how that’s possible.
9:38
Yeah, especially with the new rule laws that came out two and a half years ago. It allows for 100% immediate write off, technically, it’s depreciation, but you can take 100% of the value of everything we segregate and write it off in the first year. And then as long as you Don’t dispose of the property. So let’s say you rent it out for a year, and then you’re and then after that you move into it. You don’t have to recapture the depreciation until you sell. And let’s say you don’t sell it for 20 to 20 years. So you’ll have depreciation recapture in 20 years. And that assumes anyone even remembers what happened 20 years ago, but technically, that would be the way it would be recaptured. And certainly, it’s nice to get the deduction Now, while you’re in a high tax bracket, sell it 20 years down the road, when you may not be in the same high tax bracket. And on top of that, you have the time value of money of 20 years.
10:42
And for a lot of people that might be building their retirement home, right, they’re gonna plan to be in there for the rest of their life. But that’s kind of an ideal scenario.
10:51
Right. So then you never end up recapturing that depreciation. Yeah,
10:57
I’ve heard of like the I’ve gotten some legal advice, which I think is a little too aggressive, where they say, well, you just need to have the intention to rent it out or turn it into a commercial property. But you’re being a little more conservative here, you’re kind of guidances rented out for an entire year. Yeah. What’s your thoughts on that?
11:18
Well, most leases are going to be for a year. So typically, you rent it out, it’s going to be for a year, and then at that time you decide I think I want to live in it. And I don’t see how the IRS can really argue against it. Unless it was very, very obvious prior to you buying it or prior to you renting it out that that was your intention. And even then I don’t know if it matters, the fact of the matter is you did turn it into a rental by actually renting it out. Now, if you rent it out for only a week, then I would say no, but if you rent it for a whole year, I don’t see how they can argue against it. Right. And
11:57
a lot of this stuff isn’t tax evasion, right? I mean, you’re following the letter of the tax code.
12:03
Correct?
12:05
So kind of going back to some people have a lot of single family homes like turnkey rentals, they typically cost $100,000. Yes. How much does it cost segregation cost? And does it make sense to do it on a smaller property? Is there a certain rule of thumb that you have on
12:22
in general, it’s hard to say that there’s an exact rule of thumb, but I have done studies on single family dwellings that were purchased for under $100,000. And actually, they work and one of the reasons is because we’re able to do those studies, generally for under $2,000. And the benefit that will be realized from a cost segregation study will exceed the cost of doing it by enough of a margin to make it worthwhile.
12:53
And that’s in a situation where the owner is looking to own that property for the longer time horizon 510 years plus,
13:02
yeah, that’s true. If you’re planning on disposing of the property a year or two later, it’s probably not worth doing the study on
13:11
on a couple of our Mississippi assets. We’re not super bullish on the market, we elected not to do the cost segregation, because I mean, the way that the projects are going, they’re going well, so we’re trying to unload them in the first few years. And yeah, our attorney or tax attorney kind of advises the general rule of thumb from there and is if you’re, if you’re looking to hold on to the property for more than three years, it makes sense to do it, but it’s less, it probably doesn’t make sense. But of course, that’s on a larger hundred 20 unit apartment or the cost segregation study might be $5,000. You know, that’s peanuts compared to the hundred thousand dollar this case? And we’re talking about, right? Yeah, that’s true, I would say three or four year time horizon. Sounds about right. And also what you want to take take into account is your expected tax bracket. So if you’re in a high tax bracket this year, but you think you’re not going to be in high tax bracket, even next year or the year after, then it may be worth doing because you get deductions in the higher tax year, tax bracket year and then you’re recapturing the depreciation in a lower tax bracket here. So in a way, it’s a little bit of a form of arbitrage. Right right. So let me kind of break this down for folks an idea that I had recently. Yeah, I guess maybe one day I’ll own my own house. I’m not a big fan of owning houses here in Hawaii or California especially where the rent to value ratios are nothing good. Right. Maybe one day all this investing will pan out and I can actually buy my wife a house instead of just renting. But if I were to buy a you know $3 million house which isn’t is probably the equivalent of somebody. A million dollar house in Alabama here in Hawaii. Just use a round number $3 million. Sharon Hawaii, I mean, I think that the land values are our majority of the price. So right, I would say one third of the $3 million is actual the building value, which you could depreciate two thirds of it being land. So that means a million dollars is possible to depreciate and going by the general rule of one third of the building value is depreciable. In the first year, with a cost, say, if I brought you out to Hawaii, which I’m sure you would like, and I don’t spend too much time here, and I’m not doing a study, you have to you have to tell me that you can’t tell me that. But um, yeah, pay, pay a few thousand bucks, do a cost segregation study, and then get a third of that million dollars. So $300,000 of passive losses in my pocket to use whenever I want.
15:51
So it’s always whenever you want, it’s wherever you can go, that’s the thing about passive losses is you have to be able to use them. Otherwise, sometimes, you can get caught in a situation where they’ll be suspended and carry forward until you can use them. Now, speaking of Hawaii, real estate, one thing that I have noticed, because I’ve done studies in two islands there, and that is the big island real estate tends to be less expensive than the other islands. So that can be something to consider. Yeah, well,
16:23
I don’t want to live there.
16:26
There’s nothing it’s a very rural area, right?
16:28
Well, no, Kailua Kona is, is barely happening. And I did a study of a five bedroom Airbnb that also had two other residential rental units attached to it, they only paid I think $700,000 for the property, and it was only maybe a 10 minute drive from downtown Chicago.
16:50
Yeah, out there, I would, you know, just kind of shooting numbers out there, I would say it probably be half half the price of the land to the building value. I kind of did a lot of research about this back in the day when I was a city engineer where we had to make offers to property owners to buy little slivers of land. And it just seemed like if you’re in a high priced area, the general rule is one third of the property is the land or the building value two thirds is the land value. And then when I look at my, my rentals in Georgia or Alabama, it’s the opposite.
17:27
Maybe actually, even less, what’s common here in the mainland, with the exception of maybe areas that are high price, like New York City or San Francisco, is that most accountants will will assign a value of about 20% of two of the purchase price to land. And that even includes where I am here, and it never seems to get challenged. So that’s why even where you are, I would imagine if you talk to your accountant, if you bought a $3 million house, they might assign 40% to the land value, even though in reality, it may be more of like two thirds, like you were saying
18:06
any last kind of tax tricks you kind of seen lately, that’s been maybe not talked as much.
18:13
Well, one thing is if you’re if you’re looking at all into commercial property, one thing that that came about within the recent passage of the cares act back in March, is that if you have a commercial property, or let’s say you buy one, and then you renovate it, the renovation of an existing building now qualifies as instead of 39 year property, which is for commercial property, it now qualifies as 15 year property and is eligible for the bonus depreciation, which allows you to write off 100% of your tenant improvement in the first year with the exception of certain things that would be considered structural, which would essentially amount to the four walls around the building the concrete floor and the roof. Any stairwells, elevators and escalators or anything that’s load bearing. Otherwise 100% of the tenant improvement will qualify as it can be completely written off in the first year.
19:21
Awesome. David, you want to get your contact information out there. We will also put it in the show notes. We’ll put this on simple passive cash flow calm slash cost sag. For you guys pull this video and want to
19:35
do my phone number here at the office is 480-963-2872. And we have done studies in 39 states. So we’re at some point we’re hoping to get the other 11 But anyway, one thing I’d like to add if I can is to kind of go into what exactly we are doing what what cost segregation entails. And what it entails is the identification and segregation of the value of various assets that are contained in the building as well as outside of the building that qualify for accelerated depreciation. And in a nutshell, everything outside qualifies because everything outside is considered a land improvement. So we’re talking concrete sidewalks, driveways, porches, patios, curving asphalt, landscaping, fencing, all that stuff qualifies for cost segregation. For accelerated depreciation inside, most flooring will qualify such as carpeting, vinyl, tile, vinyl sheet vinyl, laminate flooring, what will not qualify is wood flooring, or ceramic tile or any other kind of hard, titled, kitchen cabinetry will qualify the power to the appliances in the follow fi the the appliances themselves, the baseboards, and just ceiling fans, the whole host of things qualified to be accelerated outside segregated and outs from cost of the building and then accelerated depreciation.
21:17
And the reason why bring guys like David on the show is he’s the actual guy doing the work. And this is all small businesses, right? We are kind of the anti institutional investing world where there’s just middlemen upon middlemen upon middlemen, most cost segregation firms is just a bunch of salesmen, affiliate marketers, or David’s actually got going on to it. And if he has like a project in Nashville, and he’s going to do my go to Huntsville, and do your rental property. He’ll bill accordingly. And he’ll he’ll split the travel costs. I’m sure he’d love the Hawaii to.
21:52
Yeah, yeah, I guess I’ve done one there. Big Island and one in Maui. And yeah, so it’s and yes, I don’t I don’t stay for an extra week in June before. Right. I’ll do that.
22:05
Right. So yeah, I mean, a lot of the simple passive casual brand is kind of going off of value and getting the highest quality. Again, a lot of tough things we talked about today had to do with taxes, and we’re not giving any tax or legal advice here if you guys need a CPA referral and shoot me an email Layne at simple passive cash flow.com and if you haven’t connected before, let’s get on the phone and connect man looking forward to talking with all the investors out there. Thanks David. Thank you very much. This website offers very general information concerning real estate for investment purposes every investor situation is unique always seek the services of licensed third party appraisers inspectors to verify the value and condition of any property you intend to purchase. Use the services of professional title and escrow companies and licensed tax investment and or legal adviser before relying on any information contained here in information is not guaranteed as an every investment there is risk. The content found here is just my opinion and things change and I reserve the right to change my mind. Above all else, do your own analysis and think for yourself because in the end, you’re the only person who is going to look out for your best interests.
People always ask like, well, should I do a 15 year mortgage or a 30? I’m like, well, you take as much debt as you can, because that’s the whole point of why you’re doing this with the lowest required payment possible.
Because you can always accelerate if you want to, but you just you lose control of the property, if you lose control of the cash flow, and the bigger the payment, the harder the cash flow is. And this is why we’ve been brainwashed that you know, that’s bad.
And actually, if you want to hedge yourself or something that’s coming in the future, you want to take as much debt now so that when inflation’s happens, it’s worth barely nothing. Yeah, banks want you to stay in debt because that’s how they acquire streams of income. Right? investing isn’t about buying low and selling high investing is about acquiring streams of income, what I call acquiring the efforts of others.
When you go to invest in real estate, I’m not interested in owning a property that goes from 100,000 to 200,000. I’m more interested in having two $100,000 houses that have two tenants instead of one because now I have twice as many people working for me
You print too many dollars and people lose faith in the dollar. The only reason we’re able to pull this off is because we issue the world’s reserve currency and the whole world has to suck up all these dollars. The problem is if someone were to come along like a china and say, hey, we’ve got 20,000 tons of gold, not eight, and we have a big manufacturing economy, and we’re willing to back up our currency with gold, then everybody would move out of the dollar and into gold, and the dollar would collapse. All those excess dollars would come home, and we would end up in America with hyperinflation. And that’s the kicker, right? You hear all the stories about Zimbabwe and all these other countries have ever had hyperinflation, they don’t have that kicker that the United States has. Yeah, I mean, our exorbitant privilege is that we have the ability to print as many dollars as we want, spend as much money as we want, and the rest of the world has to provide it for us because there’s always a bid on the dollar just like there’s always a bid on goal.
0:00
Introducing the new remote investor, incubator and ecourse we had the mastermind and we are going to break off from that being mostly an accredited investor group. And I wanted to create something that was helping out the little guy get started guys getting their first properties. And we’re calling this the incubator group. Get More details at simple passive cash flow, comm slash incubator, but basically what we’re doing here is we’re getting a group of professionals looking to build your network with others starting this journey to financial freedom, the ecourse that’s going to accompany this group is going to have eight modules in a closed membership site plus two bonus modules and download kit all geared toward educating the remote investor in this group, we’re going to have biweekly zoom video calls. And if you join up, you’re gonna get all past turnkey rental recordings. Now these calls are designed to ask whatever questions you have and hear the other questions from other investors in your shoes and we’re going to run this like a boot camp style. This is going to be a five month program. We’re gonna walk you through the best practices for tax and legal as you acquire your first remote rental. We’re going to walk you through the due diligence and offer process we’re going to have staff membership coordinators for extra support to get you over the sticking points to connect you with
1:16
one of the biggest
1:23
you guys were basically spoon feeding this to you if you’ve been on the fence and it’s time to get your first rental property go to simple passive cash flow calm slash incubator and by the way for those accredited investors, we are looking for new members go to simple passive cash flow calm slash journey and join the flagship simple passive cash flow mastermind there after the pandemic to new world out there having a network around you is so much more important.
1:58
This is the story of About a dude named Lane he moved to the mainland and bought one place to stay. And then one day he went try to rent them out. And then he became one real investor.
2:12
Hey simple passive cash flow listeners today I have Russell gray one of my mentors that kind of got to me where I’m at today. How long has it been almost like four or five years now since we first met I listened to the real estate guys, podcasts. You guys check it out in iTunes, Google Play. It’s one of the few podcasts out there that wasn’t designed to put you into some syndicated deal. It’s more of an educational podcasts that I clicked on to a long, long time ago. And I eventually met up with these guys join their mastermind a few years back and things like there’s so many influences you guys had on kind of what I do today like interacting with my investors one on one phone calls, which I still do, but you guys can still go on the website and book that if we haven’t had a chance to talk but should you say Russell gray, how’s it going?
2:57
Good. Happy to be here. Excited to end Congratulations on your success. It’s always fun when people come into our world and then take the things they learn and act on them. You know, our motto is education for effective action.
3:08
Yeah. And the kids always come back right one of these years I got to come back to the goals seminar, which you guys do I think, what every January, February Yeah, I mean, I originally went to your guys secrets of successful syndication, which is a great precursor on how do you do bigger deals, but I think most people will say your guy’s goals seminar, people who come routinely say, that’s your guy’s best at that you guys put on, you know,
3:29
we don’t do a lot of events where we looked at the marketplace and looked at what people needed and what we felt like we were qualified to do, and we tried to stay in our lane. But you know, after the 2008 crisis, we just thought there was going to be a huge opportunity in private capital and syndication was going to be the way to go. And we didn’t see many people out there really teaching it or doing it and those that were were more interested in raising money than they were interested in and really seeing people become successful real estate entrepreneurs. So we did that course back from the time we were working with anybody Real estate investors and you know, we still do that or you know, encouraging people to be syndicators ultimately real estate, whether you’re doing it in your own account or you’re doing it on behalf of other investors as a business or whether you’re investing passively through a syndicator however, you’re approaching it. It’s just a vehicle to accomplish your goals which presupposes you know what those goals are. And so before you start investing, you need to have a team before you have a team, you need to have a market that you think has the right conditions to deliver the kind of financial program you’re looking for. And before you can pick that market, you have to have an idea what you need your money to do for you. So you need a personal investment philosophy and that personal investment philosophy grows out of your personal goals. So we do that. And then we do the annual summit, usually for 17 years in a row on a cruise ship this last year. We had to do it. We call it summit on screen or somebody in place because we did it virtually but it was great. We had Kiyosaki and Chris martenson and Adam Taggart, G, Edward Griffin and Peter Schiff. And Tom Hopkins, you know, a whole cast of the regular real estate thought leaders that we’ve had. So it was another great event. But those are primarily it. I teach a sales training class once a year that we cancelled this year because of COVID. And the rest of the stuff that we promote are really things that we see other people doing that we think they’re doing well.
5:17
So check out the real estate guys and subscribe to the newsletter, Russell writes it himself. And I thought I’d bring you on and kind of talk about some of these concepts that you’re talking about in your newsletter. And this is what frustrates me about mainstream media is nobody reads more than 500 words, right? Nobody has that capability to do stills it’s always on based on headline. And I guess the first topic I’d like to unpack for people is this repo market. And you know, if you haven’t heard about this before, I mean, I haven’t started to read your content, probably like what the heck is this? Right? Yeah. For people who have no idea what this is, maybe take us back to when this story first broke?
5:52
Yeah. So there’s a lot of components to the financial system. Think of it like an automobile or a big building. You know, there’s different systems. There’s different pieces of substructure that kind of put the whole thing together. And some of it is, you know, you see it, you understand it, there’s like if you get in a car, you see the steering wheel, you can see the controls, you operate the seats, there’s things you see. And there’s a whole lot of stuff going on under the hood and in the chassis that you don’t see. And so the financial system is like that after 2008 when things that were way off the radar of most people, even myself and I was in the mortgage business at the time, you know, these derivatives and mortgage backed securities and collateralized debt obligations, and all these structured investment vehicles and all this stuff that was happening in the bowels of the financial system under the Wall Street gamblers, operating all that machinery, I took a real interest in it and I started realizing like I if I start watching this stuff, I might not understand it. But at least if I see smoke coming out from under the hood, then I’ll know that I should call somebody smarter than me like you know, a financial system mechanic and go Hey, what the heck is this? Well, that’s what happened in September. I saw a headline that interest rates in the repo market had spiked to over 10%. Well, you know, anytime interest rates spike, it’s because people are charging a risk premium. It tells you there’s more risk in the system, you just look at what interest rates are, the lowest interest rates typically are treasuries because you’re borrowing and getting paid back in dollars, and you’re borrowing from the people who issued the dollars. And so they’re considered to be the safest investment you can make. And we could debate whether that’s true or not, but from an interest rate perspective, that’s the way it is. So anything that moves out the rings of risk from that center point of the riskless investment you add interest to as risk premium Think of it like an insurance premiums, that’s kind of way interest rates work. So spiking interest rate tells you that there’s more risk in the system. So it’s like okay, I looked at it so there’s there’s something going on, right because these interest rates are 10 times what they should be and they boomed and the feds response was to pump in 100 $200 billion a day. And of course, you know, we hear these big numbers all the time. And we think they just kind of go in one ear out the other. We don’t have any context to understand. But back at the height of the 2008 financial crisis when they were doing quantitative easing, which was basically papering over bad debt by printing money, they were printing at 5 billion a month, and in September way before COVID-19, way before economic shut down. The Fed was pumping in as much as a trillion dollars a week. clearly something was wrong. So I dug into what the repo market is and just to keep it super, super simple, it’s basically a pawn shop for banks. So imagine a pawn shop, you’re short on cash, and you’re like, Okay, what do I have, I got a, I got a watch or I got a gun or I got, you know, some old jewelry, and you go down to the pawn shop, and you basically sell it to the pawn shop operator, but you have the ability to redeem it in a certain period of time and they charge you interest for the use of the money but presumably, whatever you are Hawking your asset for is important enough that the premium you have to pay to get access to that is there. And of course, the interest or the rate that you pay is, you know, kind of based on the risk. So anyway, so banks are showing up in the repo market and they’re bringing in their treasuries and they’re Hawking them. They don’t want to sell their treasuries or they don’t want to be divested of them who have the right to get them back it basically seeing the banking system is low on cash. That’s what activity in the repo market is and just like maybe you’re not proud to tell all your friends Hey, I had to Hawk my watch, right? the banking system, they’re not like proud that they had to go Hawk their treasuries to raise cash, it’s an indication of dollar shortage in the system. And the Fed accommodated that by printing a lot of dollars, and
9:42
what did they need that liquidity for to pay off their notes? So why did things come to that? Do that
9:47
something’s going wrong. I mean, you don’t know it’s the smoke coming from under the hood? It’s like, Well, okay, nope, we don’t know. I called Chris martenson because he’s a smart guy. And he watches this stuff, too. And I said, Hey, Chris. In fact, I think we did a show on it with him. I know I wrote a couple of newsletters about it. We did a cruise in the news episode, but I’m pretty sure we did a radio show where we actually interviewed Chris martenson. From peak prosperity. We talked about it. And he was in the same place because yeah, clearly something’s wrong. We don’t know what it is. But there’s a lot of smoke coming from under the hood. So we all agreed, hey, this is something we should be watching the indication that there was a real problems when interest rates spiked to 10%. Because when interest rates went that high, that tells you that whoever is bringing the dollars in lending money that they’re fearing counterparty risk, they wanted 10 times the risk premium. That’s the concern is this person may not pay me back. Okay. So that’s where the concern was. And so why would these banks not trust each other? That’s a concern. So you know, nobody knows what the answer is, but they were pumping money into it right up until COVID-19. And then when COVID-19 hit, they pumped money into everything, and this whole repo thing just kind of faded away, but it was really like the canary in the coal mine and the post mortem on what is been going on in the banking system is probably not going to happen until we get to the other end of this just like a lot of what happened in 2008 didn’t come out into, you know, really a public understanding until people kind of sorted through all the rubble and reverse engineered what happened and explained it. And there were a lot of great books written about 2008. I think there’s gonna be a lot of great books written about 2020. But we’re not there yet. This COVID-19 could be and again, I don’t mean to be a purveyor of conspiracy theories, but there are smart people that I hang out with, as you know, and a couple of them are convinced that this is an overreaction to a real disease for the purpose of being able to take extreme economic measures, printing money, spending money in order to cover up a problem that pre existed and the symptom of that problem was what happened in the repo market. And that’s about the extent of it from my perspective.
11:50
If you’ve been following my journey, I’ve been selling my initial real property and transitioning into syndication deals lately. For more purely passive investment strategy. One critic Part of my portfolio is the American Home preservation fund, or what folks in the we call HP for short. George Newbery once apartment owner, operator and mentor to me, is now sponsoring the podcast is private fun, which by the way, also accepts non accredited investors cuts the middlemen out and allows you to invest directly with him to fight the mortgage crisis in America. join him by purchasing distressed mortgages while getting a double digit annual return paid monthly. Find something else better out there. Well, let me know. Feel good knowing that you are helping families stay in their home after buying their underwater note at a huge discount, invest as low as $100 by going to HP servicing comm slash investors. And if you want the free burns on book, please send me an email Lane at simple passive cash flow calm
12:54
Well, that’s your light bill.
13:01
Yeah, so when people say, you know, the Fed is printing money, right, where does the money flow into like bank stocks or
13:07
Yeah, so technically they don’t print money. There’s a fairly infamous or notorious interview Ben Bernanke on 60 minutes, probably back in 2009, or 2010. Trying to explain quantitative easing, and in the one breathy saying we don’t print money. And on the other breath, he’s saying it’s effectively like printing money. But what it is, is they just add digits to a computer screen. So it’s all digital. They just they conjure these numbers out of thin air. And the way they put the money into play is they purchase treasuries. So the US government needs to spend more than it brings in which it’s very good at so that it can issue new treasuries. And when those treasuries are issued, they’re sold on the open market through market makers and those market makers individual investors around the world sovereign wealth funds, governments, other central banks. All by treasuries for their reserves, the Federal Reserve manipulates interest rates by bidding on those bonds also through their FOMC, which is the feds Open Market Committee. And what they do is they set an interest rate target. So when the Fed comes out and saying, Hey, we’re we’re lowering the interest rate, what they’re doing is they’re lowering their interest rate or changing their interest rate target. And the target is what they’re aiming at doesn’t necessarily mean what they hit. And they certainly don’t dictate to private lenders what rates should be. But again, if you go back to my early explanation, that treasuries are at the center of the rings of risk for interest rates. If I raise that interest rate at the core, then everything else outside pushes out, and rates go up. So if that ring that the Treasury is in and the interest rates shrinks, then everything that has a risk premium built on it shrinks to and so mortgages are a ring of risk out from treasuries they’re considered To be very, very safe, but not as risk free as Treasury. So mortgage rates are higher than Treasury rates. And if Treasury rates go up, mortgage rates go up, if Treasury rates come down, mortgage rates come down, alright, so the Fed goes out and they they print money out of thin air actually conjure money onto their computer system, and they bid on the bonds in the open market. And in order to drive the rate down, they have to bid the price up. So it’s just like cap rates on apartment buildings. If your audience is primarily real estate investors as ours is, then they understand that right if I go buy a property, and it’s got a five cap, it’s listed as five cap and it sells for a four cap. It isn’t that the rent changed, it’s that the somebody bid the price up, they bid the price up higher, which means that the return on invested capital the purchase price went down. There’s an inverse relationship between yield net operating income and a cap rate. There’s an inverse relationship between the cap rate and the price of the apartment building, the higher the apartment building price, the lower the cap rate and vice versa. Same is true with treasuries. So the Fed creates interest rates by bidding on those bonds bid it up drives interest rates down. So that explains negative interest rates. Because you say, Well, why would anybody buy a bond at negative interest rate? Because they’re convinced that the Fed is going to come in and bid even more for it. They’re speculating on the price of the bond. They’re not buying the bond for the yield, there is no yield. They’re buying it knowing that the Fed is going to buy even more, and I could tell stories about that out of the news, but I’ll let that lay. Did that answer your question? Lee?
16:35
Yes. So manipulating, so when they create like a $2 trillion stimulus package? Is that their mechanism for putting cash into the system?
16:42
Yeah, well, they buy the treasuries and then the government spends the money. So there’s there’s what’s called a fiscal stimulus, which is when the government and the Federal Reserve and the government are not one in the same if you’re not sure about that read the creature from Jekyll Island G. Edward Griffin does a great job explaining it but the Federal Reserve A private banking cartel and they have a contract or a deal that’s baked into the 16th amendment that allows them to issue the currency instead of the Treasury. That’s why you have Federal Reserve Notes and not Treasury notes, or treasury bills. And they then manage the money supply theoretically, outside of political influence. They’re supposed to be independent. So this was what the system was set up in 1913. Of course, it’s like most systems changed quite a bit over time. And some could argue it’s become a bit corrupt and politicized, but be that as it may, the Federal Reserve prints the money and then they give it to the government by buying the bonds. And then the government puts it into circulation by spending the money. So monetary stimulus is the Federal Reserve, lowering interest rates, which is effectively meaning they’re going to print money to buy more bonds, but it has to be married to fiscal stimulus, which is where the government spends the money and puts it into circulation. And of course right now both of those things are happening. We have a thing Three and a half trillion dollar deficit. So we’re spending gobs and gobs and gobs of money. We’re injecting it directly into people’s bank accounts. And the Fed is printing trillions and trillions of dollars. In fact, I read an article the other day that the Fed has purchased 100% of all Treasury issuance, in other words, every IOU every bond, every borrowing that the federal government has done in 2020. The Fed has purchased China hasn’t purchased it. Japan hasn’t purchased it. private investors haven’t purchased it. Nobody’s purchased it. But the Fed net. I mean, there’s been trading for sure, but net net, the Fed has printed more money or as much money as bills have been issued or notes have been issued by the Treasury. So that’s it. That’s how the money gets in play. Now they’re buying ETFs you know, Bond ETFs are buying commercial mortgages. They’re putting money in through Fannie Freddie. So they do it by funding credit markets. The short answer, maybe I gave too big of an answer, but the short answer is they print money out of thin air, and they purchase debt instruments in the credit markets, primarily treasuries, but now money Other things, and then that money finds its way into circulation, we’re probably a hop skip and a jump before they start buying equities, stock ETFs and so on to prop up the stock market. It’s a full court press to prevent asset values from collapsing because that’s a natural reaction to a cessation of economic activity is asset prices collapse problems when asset prices collapse? It takes credit markets with it, because debt goes bad and that’s the big risk right now.
19:27
So when COVID hit and people lost a third of their portfolio in their stocks, and then it kind of bounce right back up. Is that a byproduct of just more money flooded into the system and not really what the headlines on Yahoo Finance says that, oh, people are sentiments getting better. What’s
19:45
the I mean, that’s ridiculous. I mean, get the Atlanta fed coming out going GDP is going to be negative 40 or 50%. They’re coming out with these unprecedented unbelievably horrible things. We got 40 million or whatever people unemployed, right? Unemployment rate. And then the Great Depression, there is no logical reason based on earnings for companies to stock to be going up. There’s nothing that looks good economically. The stock market though, has become a proxy or a barometer in many people’s minds for economic health. And it’s not true. And of course, it creates a huge amount of income or wealth inequality because the people who own stocks are the beneficiaries of the free money and the people who don’t are on the outside looking in just watching the cost of food and other things that they need go up. So there’s a reason why a lot of people are angry right now whether they understand the economics underneath the disparity or not, but this isn’t a left or right issue. This is a big government, big banking system, big corporation. It’s the big guys versus the little guys and the little guys get crushed when these types of games get played.
20:51
So right now we kind of establish that something’s happening. Something’s under the hood that’s smokin and I just want to kind of speak to little guy, the person listening on the podcast right? Now they’re going to hear that and they’re going to say, Oh my goodness, maybe I should put everything in gold or put cash under my mattress or dig a hole. Well, what’s the real play here, especially for guys who have less than a million dollars net worth, you can’t just buy gold, you got to grow your money to
21:15
well, gold is not an investment. And gold only preserves you against the failure of a currency. So I think the first thing is to understand the context and kind of the sequence of events as this thing rolls out. So we had a health crisis, whether it was real or perceived, whether it was overreacted to you can’t worry about that. The fact is, they shut the economy down worldwide and they’re opening it up very slowly, and maybe it’s going to be open it up a little bit and pull it back. The short of it is the health crisis led directly to an economic crisis and the economic crisis means businesses stop generating revenue, employees stop getting paychecks, which means that businesses and employees that have debts can’t To service those debts. So there’s been some temporary injections and some getting out in front with forbearance agreements and workouts and all this different stuff that’s been going on unlike how they handled 2008. But at the end of the day, those are temporary stopgap measures intended to keep the wheels on the bus until economic activity can restart. It’s kind of like being put on a heart lung machine until you can start breathing and your heart starts beating on its own. That’s where we’re at. We’re on life support, and that life support is coming directly from the Fed. So the economic crisis is the cessation of cash flow, think about having an economic heart attack currencies not flowing because people aren’t able to buy they’re not able to go out they’re hesitant to spend, they can’t make payments, right that that’s an economic heart attack. That’s where we’re at the next level is a financial system meltdown. And that happens when the banking system and the bond markets and credit markets begin to fail. There was some indication there were problems in those markets. For as we talked about in the repo market, they needed huge injections of cash. So there was already problems all COVID-19 was did was accelerate what was already happening and maybe provide cover for an extreme reaction that maybe they wouldn’t have been able to pull off outside of a very visceral, very visual, understandable crisis. People don’t understand financial crises. It’s all geek speak. But you can understand if you go out to the grocery store, and everybody has masks on and you can’t stand the six feet apart and all the restaurants are closed, all sudden, it’s like very conscious, hey, there’s a big problem here. And if you tend to believe the narrative, then you accept it and you accept whatever needs to be done to fix it. Again, I’m not saying that there’s a nefarious motive behind it, but I’m just saying people are a lot more forgiving. Of these extreme debts. Extreme spending measures extreme expansion of the Fed’s balance sheet because they are believed Meaning that we’re in the midst of an unprecedented crisis. And the idea is that extreme times, you know, require extreme measures. So health crisis to economic crisis to financial system crisis where the credit markets collapse, like we had a mini financial crisis in 2008. Here’s the next crisis in order to save the financial system. And to put the economy on life support, the Fed is printing and the government is spending trillions and trillions and trillions of dollars. So to give you kind of a historical perspective, in the entire history of the United States up until 2008, or the entire history of the Federal Reserve from 1913, up to 2008, almost 100 years, they grew their balance sheet to 800 billion after the financial crisis of 2008. By 2012 or so their balance sheet had grown from 800 billion to 4.5 trillion. They tried to taper and they tapered it down to 3.7. They raised it or tried to raise interest rates by 50 basis points half a percentage. And the result was the stock market started to retreat and the economy started to slow down. And so they realized that was going to be a problem. And so they lowered interest rates and they stopped tapering. Soon as COVID-19 hit their balance sheet has exploded to over 7 trillion. So it’s more than doubled since COVID-19. The last four months, the Federal Reserve has gone from 3.7 to over 7 trillion that’s all freshly printed money that is, is working its way into the system. It’s propping up the stock market. It’s keeping interest rates down when there’s tons of risk and people should be charging a risk premium, but you can’t because there’s too much debt in order to stop all that they’re printing dollars. Here’s the thing if you print too many dollars, and people lose faith in the dollar, now you’re Zimbabwe you’re Venezuela. Going back in history, you’re why Mar Germany, the only reason we’re able to pull this off is because we issue the world’s reserve currency and the whole world has to suck up. These dollars problem is if someone were to come along like a china and say, hey, we’ve got 20,000 tons of gold, not eight, or four, and we have a big manufacturing economy and we’re willing to back up our currency with gold, then everybody would move out of the dollar and into gold, and the dollar would collapse, all those excess dollars would come home and we would end up in America with hyperinflation.
26:25
And that’s the kicker, right? You hear all the stories about Zimbabwe and all these other countries have had hyperinflation. They don’t have that kicker that the United States has.
26:33
Yeah, I mean, our exorbitant privilege, if you will, is that we have the ability to print as many dollars as we want, spend as much money as we want. And the rest of the world has to provide it for us because there’s always a bid on the dollar just like there’s always a bid on gold. So people who are buying gold right now we’re buying it as an alternative to having something liquid that hedges against $1 collapse or Just a continuation of 113 year, a downward spiral of the dollar, right. That’s why people own gold, but you can’t gain purchasing power with gold, you only retain it which is worth doing. But when you pair gold with debt, now that’s different. Let’s say for example, I go pull a couple hundred thousand dollars out of a piece of real estate, and I take half of it and I put it into gold, and then the gold doubles in dollar price because of inflation. Now my gold will pay off all my debt and so the debt and the dollar go together. And the problem with going into debt to buy gold is you have to make the payments unless the thing that you go into debt with provides the payments. Now can you think of a vehicle that you can purchase with debt that actually provides the payments to make the payments can you think of one
27:45
of these couple of guys, they built their whole platform on real estate?
27:50
Real Estate and so what I found is that I’ve kind of crossed over and become this bridge between the gold community and the real estate community from a financial strategy. perspective and when you pair gold with debt and real estate, now you have a chance to outperform in an environment where the dollar is falling. And so that to me is the way to play this game right now because all of the pressure to support the entire global economy is landing squarely on the dollar
28:23
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How can I use part of my Roth IRA to buy passive income property, what you’re going to need to do to investor author is you’re going to need to probably move over to a IRA custodian that allows you to self direct. Now, a lot of these guys like Vanguard or fidelity was at something America with these big firms that offer investment options. They have what I call a fake self directed IRA accounts. We’ll call it self directed IRA accounts, but all it really does is allow you to invest in dirt or other garbage mutual funds and stuff like that. They’re not true self directed IRA accounts, what you’re trying to find as a self directed IRA custodian, such as you know, a lot of our investors will use quests, I used to use IRA services, they’re pretty good, cheap option, but these guys they’re just custodians who just hold on to your money and they administer the money. Once you get the money to these guys, then you can invest it or where you want. Of course, there’s you know, you have to follow a prohibited transaction. rules you can Google that I think you can’t buy things like artwork, or there’s all this list of like things you can’t buy. But if you’re buying income property, you should be fine. Some things to know when you’re transferring from your current IRA company to the IRA, self directed IRA custodian, it’s going to be hard, these guys aren’t going to make it easy for you, you know, you’re breaking up with one company, the customer service on that end is not going to be as good as it was on the way and so it might take two or three months, or two or three weeks of you constantly kind of badgering them. But once you kind of get it out of there, and you have it in the account, some of them will set up like a checkbook IRA, where you can just easily make or write a check. The one I had, I had to do all this paper, you know, a couple pages without what I was investing in, and then the key is that they they’re sending money on your behalf and you’re kind of staying out of it so that you don’t blow up your IRA account. I personally am not a big believer in any retirement accounts, Roth IRAs or Any pre tax IRAs unless your net worth is over two to $4 million. At that point, maybe you should do a Roth, a lot of like syndication deals and just real estate in general, you get a lot of good tax benefits from depreciation that comes from the property. When you’re investing within a IRA account or retirement account, you do not get to partake in those advantages. Another reason why I don’t like IRA accounts is because you have to wait till you’re like 60 or 70 years old. I’m trying to live for today I want to, I’m trying to I’m buying income property so I can create mini pensions today and work backwards and create cash flow today that grows and grows and grows so I can buy more and more investments so I can grow more and more. I am probably going to reach retirement, the pinnacle of retirement what we all think, which is more of a financial freedom number well before I hit 60 now not saying that’s for everybody, but I think for a lot of us who are investing the right way, it usually takes five to 10 years of doing this method. To be out of the rat race, and at that point, you’re not going to want that money locked up in some Roth IRA account or IRA. So that’s why a few years ago, I made the conscious decision to never invest in that stuff ever again and I just invest out of my own liquidity out of cash accounts.
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