Mastering Real Estate Investing

Hello, and welcome to this Master Class by Xillion. Today, we'll be focusing on how to invest in real estate. If you have any questions, please feel free to ask either during this Zoom call or on Twitter. We'll be happy to answer all your queries. So, let's get started!

I'll be your host for this class. In the past, I've collaborated with a partner to discuss stocks, but for this session on real estate, I will be the primary speaker. Let's delve into the process of real estate investing.

A brief introduction about myself: I am the co-founder and CEO of Xillion, a platform dedicated to helping you amplify your wealth through informed financial decisions. At Xillion, we have identified seven essential steps to achieve financial freedom, based on over a decade of research. The most critical step is earning, as it lays the foundation for financial independence. Following this, saving is key—setting aside a portion of your earnings enables you to accumulate wealth, which you can then invest. These three steps are fundamental to achieving financial freedom.

The next steps involve managing your expenses, borrowing wisely, and planning your financial journey. Real estate investment involves significant borrowing and leverage, which we will explore in detail in this master class. Finally, once you've built your wealth, protecting it becomes crucial.

So, how does Xillion assist you in this journey? We offer various services:

1. 401K Optimization: If you're in the U.S., maximizing your 401K is crucial for financial independence. We offer a product that helps you fine-tune your 401K to its fullest potential.
2. Vacation Planning: Planning for a vacation next summer? We can help you track and manage your vacation spending.

Join us as we explore these steps in more depth and guide you on your path to financial freedom.

Let's consider a scenario where you're planning to spend $5,000 on a vacation. How will this impact your long-term financial goals? At Xillion, we offer a tool that helps you track and align such expenses with your financial independence objectives.

Should you buy a home or continue renting in a scenario of high interest rates? We provide insights and tools to guide you through this decision-making process. Additionally, when it comes to emergency savings, opinions vary—some suggest saving for 6 months, others for 12. We offer a scientifically developed tool to help you determine the right amount to save for your unique situation.

Investing in stocks or real estate? Xillion has tools for both, assisting you in determining how much to invest in each and whether a particular investment decision is right for you. We go above and beyond to help you take control of your financial life.

One unique feature we offer is the Money Score. This is akin to a credit score, but more comprehensive. While a credit score reflects how well you manage borrowed money, the Money Score encompasses your entire financial portfolio—the money you earn, invest, and save.

Discover your Money Score today by visiting Xillionapp.com. We also offer a Debt Navigator product to help you manage various debts, from credit cards to home and car loans, advising you on which debts to prioritize.

Additionally, Xillion provides access to qualified mentors. You can set up video calls or send messages to discuss any financial queries, be they about real estate, stocks, or other concerns. Our goal is to enable you to manage your finances in less than 10 minutes per week. We understand that you might be busy with family and work commitments, so we strive to make financial management as efficient and straightforward as possible.

Visit our website for more information. You'll find a range of products, some free and some paid, that offer insights into the economy and articles to help familiarize you with financial concepts. These resources are designed to enrich your understanding of finance in a practical and accessible way.

Now, let's move on to discuss my real estate experience, which I will outline succinctly.

In 2008, I made my first foray into real estate by purchasing our first home. It wasn't initially intended as an investment. At that time, with property prices declining, interest rates rising, and the economy faltering, I did some calculations. We were paying around $1,800 to $2,000 in rent, and we realized that buying a home would cost us roughly the same, but allow us to have a larger space for our growing family. We settled on a townhome in Boston, Massachusetts, financed through an FHA loan requiring only a 2.75% down payment, which was incredibly low. The house, valued at about $280,000, required a down payment of just $6,000 to $7,000. With a 7% interest rate, we eventually refinanced, but the property was in move-in condition, needing only a carpet cleaning.

Fast forward to 2013, I ventured into another real estate deal in Northern Virginia. This time, it was a partnership with a friend who is a realtor. We bought a townhome, each contributing 5% towards the 10% down payment, and secured a loan at a 4.5% interest rate. My friend's realtor network proved invaluable in managing the property. We will delve deeper into the importance of location over just a good deal later in this session.

In 2015, my journey brought me from Boston to the San Francisco Bay Area in California. We sold our Boston home and purchased a single-family home in California with a 3.5% interest adjustable-rate mortgage, putting down 20% due to the competitive market. Following the adage, "buy a bad house in a great neighborhood," we chose a fixer-upper. The house, built in the late '50s, had only been owned by one family. Although in poor condition, we renovated it, spending a high five-figure sum, and it looked almost new by the time we moved in.

In 2020, an opportunity arose to buy a townhome in our neighborhood. We put down 20%, secured a 30-year fixed mortgage at 4.5% interest, and invested about $10,000 in repairs and upgrades, including the unusual addition of air conditioning for the area. This enhancement made the property more desirable, and we quickly found long-term renters.

Currently, I'm part of a partnership seeking to invest in downtown San Francisco real estate. With the city's property prices declining, we're considering properties ranging from 4 to 20 units, with a budget of up to $10 million. This marks a new phase in my real estate journey, which has been filled with refinancing, property evaluations, and various experiences in the field. My constant evaluation and keen interest in our local real estate market have significantly contributed to my experience.

Before diving into the specifics of real estate, I want to provide an overview of general investing principles and how different investment choices are likely to perform based on historical data. Please consider this with a grain of salt, but remember, history often repeats itself, especially in a stable country like the U.S.

For example, savings accounts typically yield about 1% in the long term, and CDs about 2%, even though currently they're offering higher returns. We expect a return to these averages within two to three years. Real estate, on average, offers about a 4% return, possibly closer to 3.5%. So, if you invest $1,000 in real estate, you can expect it to grow to about $1,480 over a 10-year period. Remember, real estate has low volatility but isn't very liquid. If you need to sell, it can take time due to various factors, like moving out renters and staging the property. However, real estate is generally a low-risk, appreciating asset in the long term, despite short-term fluctuations.

I won't delve too deeply into bonds, but it's important to note that the gold standard for investing is the S&P 500. When considering any investment, compare its potential returns to those of an S&P 500 Index Fund. This comparison should be your benchmark for evaluating all other investments. For instance, one of my real estate investments in Northern Virginia, which we sold earlier this year, yielded a 17-18% return over 10 years. I'll include a link to a video in this presentation for more details.

So, why invest in real estate if it typically returns 4% and the S&P 500 around 10%? The key is leverage. With leverage, you might put down 20%, and the bank covers the remaining 80%, which means that 4% appreciation can effectively become 15-20%.

It's also crucial to understand that not every investment is suitable for everyone. Until 2013, my focus was primarily on stocks, which seemed the best investment at the time. However, as stocks appreciated, I began to consider diversifying into real estate. My objective was to diversify my portfolio, which was heavily weighted in stocks, including 401K, ESPP, and brokerage accounts. My strategy was to invest in another asset class, hold it long term, and sell it when it was time for my kids to go to college.

Consider your strengths when deciding where to invest. For example, I enjoy reading extensively about macro and microeconomics, businesses, and companies, making stocks a natural fit for me. Similarly, my wife and I frequently walk around our neighborhood, giving us intimate knowledge of our local real estate market. This familiarity reduces our risk and plays to our strengths. We know the 5 to 10 square mile area around our home better than anyone, which is a significant advantage in real estate investing.

When considering which market to invest in real estate, I recommend focusing on markets you are familiar with or those known well by a trusted friend. Real estate is a long-term game; a commitment of 5 to 7 years is considered short-term, 10+ years is medium-term, and 20+ years is long-term. Therefore, it's not advisable to invest in real estate if you're not prepared to hold the property for at least a decade.

Let's look at the risk and reward of different real estate investments: single-family homes, multi-unit properties, and commercial REITs (Real Estate Investment Trusts). For beginners, single-family homes or townhomes in your neighborhood are the best starting point, as they offer a medium level of risk and reward. Remember, in real estate, a short-term investment horizon typically means 5 to 7 years. Flipping properties is not recommended for those with a full-time job or other significant commitments, as it can be time-consuming.

Regarding capitalization rate (cap rate), which is the income from the property divided by its purchase price, it's generally low for single-family homes. This is a long-term play focused on diversification. Multi-unit properties involve more risk and time but offer higher returns over an extended period. REITs, on the other hand, are quite liquid, allowing you to get in and out with relative ease.

The costs of real estate investing include the down payment (real estate is not inexpensive) and setup costs like repairs or updates. Recurring costs, such as mortgage payments, insurance, and maintenance, can range from 5 to 25% of the purchase price. We have developed a software product to help you understand and manage these costs effectively.

Intangible costs also play a role. On average, each property may require two to three hours of your time per month, equating to approximately one week per year for each property, provided everything goes smoothly. If you own multiple properties, this time commitment can add up significantly. Additionally, managing real estate involves effort, including driving, coordinating with various parties, and handling unforeseen issues, such as challenging tenants.

Finally, remember that your money is locked in when you invest in real estate. The down payment you make is not easily accessible until you sell the property, which could take years. This is a stark contrast to stocks or REITs, which can be sold more readily. Therefore, consider these factors carefully before deciding to invest in real estate.

When you purchase a property, it's not as simple as buying and selling stocks; there are additional considerations. However, real estate can provide a steady monthly income once you've mastered the game, though the bar to reach this level is high.

One advantage of real estate is the ability to build equity. For example, if you bought a property five to seven years ago, you could use the built-up equity to finance another purchase through a cash-out refinance. This strategy can help you grow your portfolio.

For high-income earners, the debt-to-income ratio is a powerful tool for wealth accumulation. This ratio compares your debt payments to your income. For instance, if your annual household income is $200,000, and your monthly debt payments are $4,000, this amounts to $48,000 annually, or a 24% debt-to-income ratio. Banks typically lend up to 40-50% ratios. If your rental income covers your expenses, you can effectively have the bank finance your investment.

Real estate also offers several benefits. It's generally safe, especially in growing areas with strong job markets. It serves as an investment hedge, diversifying your portfolio. The U.S. government offers significant tax incentives for real estate, making it an attractive option. Moreover, real estate doesn't require specialized skills, lowering the barrier to entry.

Here are some do's and don'ts for real estate investing:

Do's:

1. Buy in Desirable Locations: Choose areas with potential for growth and positive macroeconomic indicators. Even in cities like San Francisco, which might currently face challenges, long-term prospects can be favorable due to factors like location, educational institutions, and the tech industry.
2. Positive Cash Flow: Aim for properties that generate a positive cash flow.
3. Seek Expert Advice: Especially if you're new, getting guidance from experts like those at Xillion can be invaluable.

Don'ts:

1. Avoid Major Existing Issues: Ensure thorough professional inspections to identify any significant problems before purchasing.
2. Steer Clear of Liability Areas: Avoid properties with historical environmental or structural issues.
3. Optimal Property Size: Be wary of properties that are too large, as they may have limited rental demand.
4. Avoid Poor Micro Locations: Even in good towns, certain locations (like next to a busy gas station) can be less desirable.
5. Don't Buy All Cash: Leverage is a key benefit of real estate investing, and buying all cash limits your potential returns compared to using leverage.

Lastly, the long-term growth of real estate investment shows a general upward trend with some fluctuations. This indicates that while there may be short-term dips, the overall trajectory over decades has been positive.

In the 2008-2010 crisis, real estate prices experienced significant fluctuations, but the long-term trend demonstrates an average growth of around 3 to 4%. This trend, derived from U.S. government data, varies slightly between different metropolitan areas. For instance, San Francisco's growth trend is higher than that of Buffalo, reflecting the unique dynamics of each area. However, the overarching theme is that real estate, as a long-term investment (15-20 years), tends to yield decent returns.

Based on my experience and discussions with successful real estate investors, here are some best practices:

1. Invest Locally: Focus on your local market or town. If you're in an expensive area like LA, Boston, or San Francisco, consider partnering in a more affordable non-local market.
2. Desirable Areas: Target areas attractive to young families, as these are usually great for investment.
3. Start Small: Begin with smaller single-family homes or townhomes.
4. Liveability: Choose properties you would consider living in yourself, as this could be an option in the future.
5. Utilize Professionals: Build a network of reliable professionals like plumbers, electricians, and gardeners. Have multiple contacts for each service to ensure availability.
6. Quick Decision-Making: The real estate market is dynamic, so being able to make fast decisions is crucial.
7. Unbiased Opinions: Seek perspectives from your spouse, friends, and other professionals to gauge different viewpoints.
8. Calculated Risks: Real estate is generally less risky than other assets, so a degree of risk-taking is acceptable.
9. Vendor Relationships: Cultivate relationships with various vendors to ensure you have the necessary support when needed.
10. Do the Math: Use tools like Xillion's real estate investment tool to analyze potential investments thoroughly.

In Xillion, you can enter details of a potential property, like the Main Street townhouse example, and the tool will calculate whether the investment is worthwhile. You can adjust variables like purchase price, down payment, interest rate, and rental income to see how they impact the overall investment. This process helps you compare the potential returns of a real estate investment with those of an S&P 500 Index Fund, ensuring you make informed decisions.

Remember, not every real estate deal will be beneficial for you. It's essential to analyze each opportunity thoroughly to ensure it aligns with your financial goals and investment strategy. If you have any questions, feel free to reach out to me at gagan@Xillion.co, sign up for Xillionapp.com, or consult with our mentors who can assist with various financial matters, from stocks and cryptocurrencies to real estate and 401K.

Thank you for joining this session, and I look forward to our next Master Class next Thursday at 1 p.m. Pacific Time, where we'll explore another interesting aspect of personal finance.