Guest: Jason Hartman
iTunes: Stream Episode
Today’s lesson is on having a strong philosophy when it comes to investing. Jason explains his ten commandments in front of a live audience. He talks about the importance of not being a sucker, having a strong reality check, remembering there’s no such thing as easy money, and much more on today’s show.
5:15 – Commandment number three, thou shalt maintain control. Be a direct investor.
11:04 – Do you save for a rainy day? How does that work in an inflationary environment?
20:00 – Gold, silver, and stocks are not even a contest compared to income property.
29:30 – Government spending creates inflation and real estate investors can profit from it.
35:40 – Avoid cheap properties because it attracts cheap tenants.
40:55 – Buy some properties first before you start thinking about registering complex LLCs.
44:10 – Have a long term plan of 5 years, 10 years.
Mentioned In This Episode:
Hi there, it’s Jason Hartman your host and thank you for joining me for another episode of the Solomon Success show with Biblical wisdom for business and investing. Let’s go to today’s lesson and then I’ll come back on and then we’ll have our main portion with our guest relating to that lesson.
Jason Hartman’s investing philosophy began with his ten commandments of successful living. These commandments were to number one, become educated. Number two, have a professional investment counselor. Number three, maintain control. Number four, use prudent financial planning techniques. Number five, not gamble. Number six, diversify. Number seven, be area agnostic. Number eight, burrow to maximize leverage and accelerate wealth creation. Number nine, only invest where there is universal need and number ten, only invest in tax favorite assets. These ten guidelines form the fundamental under pinnings of his entire approach to prudent investment through income property.
What commandments also tell us is how to invest according to Biblical principles. The core of Jason’s philosophy is to provide useful service to other through providing safe, functional shelter in exchange for monthly rental income. It is this service to others that is the main tenant of Bibical living, which Jason’s philosophy seeks to create. The purpose of Jason’s investing methodology is not to make as much money as can be made by whatever means necessary. Avoiding the temptation to get caught up in the mad scramble for easy money is what Jason specifically structures his philosophy to avoid.
In the first book of John, the apostle writes, “Do not love the world or the things in the world. If anyone loves the world, the love of the Father is not in him. For all that is in the world, the desire of the flesh and the desires of the eyes and bride and possessions, is not from the Father, but it is from the world and the world is passing away along with its desires, but who ever does the will of God abides forever.”
Through this passage the apostle John is teaching us the importance of our motives. When we love our wealth and our possessions more than our God in heaven, all of our good works become sinful. It is only through keeping our actions in the proper perspective that we can successfully work for the glory of God. Jason’s next ten commandment contain more guidelines that are important for prudent investors to understand and abide by in our perceptual walk toward generating wealth through providing useful services to others. By learning and apply these guidelines, it will provide more help and guidance on our path toward wealth and prosperity.
That was today’s lesson. Let’s get to our guest, but before we do that. Please regardless of what platform you’re listening to us on, whether it’ll be iTunes, Stitcher Radio or SoundCloud. Please go write us a review, we’d really appreciate that and check out the free resources at our website SolomonSuccess.com. Here’s today main segment.
So good morning everybody! Thank you very much for coming to Meet the Masters. I’m Jason Hartman, and it’s a pleasure to have all of you, so thank you so much for coming. What do you think, 2013, excited about investing this year? I think, I think, we’re all actually, at this meeting, every speaker likes to get up and say, there’s never been a better time, right? Have you heard that one before? Actually, there was a better time, it was two years ago, but it’s still pretty darn good. So I think there’s a lot of great opportunities out there.
So, all of you are familiar with, by the way, I just want to make sure, and I think probably this is going to be pretty much unanimous, but does everybody in the room listen to the podcasts, the Creating Wealth show? Okay, there’s a few that don’t. So, some of you are probably not familiar with my ten commandments of successful investing. Anybody not familiar with that, by any chance? Okay, so a few people aren’t. So, there were the first ten commandments. Those came out about eight years ago and there is a YouTube video you can find, I think it’s a Mel Brooks movie or something like that, where Moses is coming down and there was actually an extra tablet with like five more commandments and he dropped it. So, we’ll never know what the other five are.
Well, I actually decided to add ten more and this will be the first time that I’m presenting the next ten commandments. A lot of these are not just about how you should buy properties, I mean, so many of you have really taken well to those first ten commandments in terms of diversifying your portfolio. My number three is the favorite – thou shalt maintain control, don’t invest in other people’s deals. Be a direct investor.
The other phrase I use for that is pools are for fools. You know what I mean by that? Any pooled money investment, you are out of control. You are basically trusting somebody else and trusting that they’re not a crook, they’re not stupid, and that they don’t take a huge management fee off the top, taking that money and taking that return away from us as investors and diversification, being area agnostic, all of those things have served us very well, but we need to add to that and these next ten commandments come pretty much from our experience over the years and they come very much from my own mistakes and your mistakes as clients, okay? And it’s not necessarily, these aren’t necessarily from people in this room, but maybe they are occasionally and you’ll recognize, hey that was me! I did that!
So, that’s what the next ten commandments are about is kind of solving some of those problems that maybe those mistakes we’ve made at one time or another, either in our thinking, our philosophy, or the way we execute as investors. So, here we go!
The first one, thou shalt not be a sucker. How do you like that one to start? Everybody is susceptible to that deal of the month thing. You remember the mythology about the sirens, right? Who were the sirens, right, the sirens were the singers. These female singers that had such beautiful voices that the sailors, in ancient days and, I think this is a Greek myth, in ancient days, they had to actually tie themselves to the mast of the ship so that they wouldn’t be susceptible to steer the ship toward the sound of the sirens’ song and it would always end up crashing on the rocks.
So, how do we do this as investors? How do we get suckered? Well, many different ways. Certainly insomnia can be a big cause for being a sucker. How’s that? Well, when you can’t sleep occasionally, you know, do you flip through the channels and you see those infomercials, right, and they all sound what? Too good to be true and after a while, you get good at sort of poking holes in what they’re saying, and thinking, this is, they say this and it sounds good, but this is the reason it doesn’t really work in real life and some people call that pessimism, some people call it cynicism. some people call it realism and some people, they are just overly optimistic, okay?
So, we’re going to talk about having a reality check here in a few more commandments, but when it comes to being a sucker, I think the most important thing that we can do to not be suckers, to not be suckered into the deal of the month, the flavor of the week, all of that kind of stuff, is to have a true core philosophy. I have a feeling a lot of my audience, especially on the podcast, have sort of a libertarian viewpoint.
Now, you may not, you may have the total opposite socialist viewpoint and you just listen to me for entertainment. Okay? But, probably not. So, how many of you are familiar with Ayn Rand? Most people. You know, the famous book Atlas Shrugged, which is now in a movie part two. Well, Ayn Rand talks a lot about the importance of philosophy and why is philosophy important? I think the reason it’s so important is that it keeps us on track. It keeps us from veering off track and being susceptible to being a sucker. It keeps us away from the danger of the sirens’ song, of the get-rich-quick scheme, of my ship will come in type of mentality.
There’s this other podcast, these guys, and these guys have a good show, okay, and I know some of you have heard that show and here’s one of the major differences is that I actually have a philosophy. these guys, they’re always just agreeing with every guest they have and one day Peter Schiff comes on and they think you should invest in gold and the next day the guy from Belize is on and they think you should invest in Belize, okay, and then the next day someone else is on talking about something else.
Having a consistent philosophy, something that you can really go by, for example, low land value markets. Low land value, high cash flow markets. Having a consistent philosophy will keep you from being a sucker and a lot of times, our success in life is dictated, not by our wins, but by the absence of mistakes. Would you agree with that? Mistakes can be so costly and, believe me, I’ve made them, I’ve made huge mistakes and if you can just minimize mistakes, that is what philosophy will really help you with. Okay? Avoid being a sucker and the conventional wisdom, of course, the conventional wisdom is pretty much a disaster, isn’t it?
I mean, think of the conventional wisdom. What would it be in terms of your career? The conventional wisdom would say, go to work for a big company, work for 40 years, get a gold watch, and retire and be really loyal to that company. Does that work anymore? No, because the game – the world changed all around. Those people thought they could have a career with a company that would last for a long, long time. Nowadays, companies are disloyal. Ever since, pretty much the 80s was I guess the big thrust of it, you know, it was downsizing, right-sizing, re-engineering the corporation.
Okay, so if you have the attitude of, you’re gonna go and get a career with a big company, you’ve already been disappointed in that, I’m sure. The layoffs have happened. What if your investment philosophy is, save for a rainy day? How does that work in an inflationary environment where your savings is being attacked constantly and devalued through that pickpocket, that thief, that liar called inflation? Okay, that doesn’t work anymore. What if your philosophy is, go to Fidelity Investments or Merrill Lynch, or Ameriprise, and open up an IRA and maximize that IRA every year and put it in a modern portfolio theory pie chart set of investments? How does that work? If you did that plan and you did it 13 years ago, you would be exactly where you are today, pretty much, in nominal dollars and in real dollars, you would have lost, and I’m just guessing here, about 40, 50% of your wealth, depending on how you calculate inflation, that’s subject to debate, of course.
So, don’t be a sucker. That is number 11, thou shalt not be a sucker. Number 12, so many people, it seems like in life, would rather have a good story about the big fish that got away or about being a victim, than they would about winning and creating more wealth and this is an operational philosophy here. Folks, I have heard this story a zillion times. I used to own some rental properties, but the tenants destroyed the property and didn’t pay the rent and I lost all this money.
Why would anyone allow that to happen? It’s just crazy. Thou shalt hold thy tenants accountable. This is a business deal and when someone doesn’t pay your rent or when they damage your property, you as the landlord need to finish that process and get a judgment against that tenant and once you get that judgment, well, I hear the next thing, oh, they’re a deadbeat, I’ll never collect it. They don’t have any money. Folks, what do you think, that’s like some sort of a static concept of, they don’t have any money? They’re broke? You don’t think that changes over the course of a person’s lifetime? Of course it does, fortunes change.
In 2004 and 2005, everybody was rich. In 2007-2008, everybody was broke and now everybody is kind of getting rich again, right? Okay, that changes for your tenants too. Their fortunes change. So, these judgments that you get against these tenants, collect interest. Now, I’m sure this varies in every state. A lot of people – there are whole businesses set up, whole cottage industries set up around investing in judgments and, you know, I did a podcast about that once. I’m not saying you should go into that business, but I’m saying as a landlord, on the somewhat rare occasion and, you know, out of hundreds and hundreds of tenants I’ve had over the years, I’ve only had a couple of them that have really shorted me on my money and any time this happens, finish the process. Get a judgment against that tenant and let it sit there on their credit report collecting interest until you’re paid.
They may not have any money nowadays, but, and I’m not a lawyer, we have some lawyers coming to speak over the weekend, but we should ask them the question. My belief, my understanding, is that a judgment lasts for 10 years and you can renew it every 10 years thereafter and it collects interest! A lot of times that judgment collects more interest than you can earn anywhere else. Now, when that person goes to – and on our lender panel, Steve, (#14:37?), and Aaron, who are speaking this afternoon when we have our panel of mortgage experts, they can talk to you about this, when that judgment is sitting on someone’s credit report, if they want to buy a house, okay, and stop being a tenant, if they want to buy a car, they’re probably going to have to pay that judgment, okay, and satisfy it beforehand. They may not pay you the full amount, they could negotiate with you, you could make a different agreement, but the point is, I don’t want to hear anymore victim stories. Hold thy tenants accountable. Okay, you agree?
Okay, good. I actually have a judgment on a business deal from many years ago for about $120,000 and I hired a collections attorney, collections attorney calls me. Now, this one I may never collect on. This one’s pretty bad, because the only way a judgment can truly be erased is through bankruptcy and that could wipe out your judgment, it could happen, but this guy, this particular guy, was such a bad apple that he’s gotten in so much trouble, there are so many judgments against this character I did a business deal with that the collections attorney did the whole background check, calls me up a few weeks ago and says, well, I don’t think this one is really going to be worth it, because this person has over $2 million in IRS and state tax liens against them.
So, as I’m listening to the attorney go on and on about how I’m never going to collect, and I said well, I just got a question for you, I can’t remember her name, her name was Roxanne. I said Roxanne, I’ve got a question for you. The judgments are $2 million, what if he makes $4 million next year? Well, I guess he can pay, right? This guy’s a big player. He might make $4 million in one year. He might make $2 million, pay off all those judgments. The IRS gets paid first, that’s the only downfall of that one, but I’m just saying, hold the tenants accountable. No more victim stories. Act like a businessperson and hold your tenants accountable. Don’t have a victim story, have a success story, it’s much better.
Number 13, thou shalt understand the theory of relativity. Now, you think we’re going to talk about Einstein and E = MC2 and all that kind of stuff, but we’re not. We’re talking about the theory of relativity as it applies to real estate investing and we’re seeing this happen again. Many years ago, I used to talk about how it seemed like everybody in California had two, not one, but two, three bedroom, two bath rental properties in the Phoenix area and the reason I hypothesized that was happening so much, and they also had properties in Las Vegas, every Californian it seemed like.
It’s when California prices got so high – I talked about the water theory. You spill a glass of water and what does the water do? It seeks the lowest level, right? You’ve heard the saying, water seeks its own level. So, it seeks the lowest level. Well, money does the same thing, okay. When prices get really high in one market, the adjacent markets generally start to see a run up in price as well. So, in Phoenix, a market where we just do very, very little business, because it just doesn’t work anymore too well, it sort of works. If you insist of Phoenix, we’ll find you properties in Phoenix, but they’re really just not that workable, because prices are up 34% from the bottom.
Now, what’s California doing and what have I been saying about California? I don’t like California, do I? But just recently, prices have been popping up in California. Does that make it a good investment? No, not necessarily. It makes it a good gamble. It makes it a good speculation. People can make money in California real estate and I have made loads of money speculating in California real estate. However, it does not cash flow. It doesn’t work as a thou shalt not gamble, I believe that’s commandment number five, investment philosophy. It’s a speculation, because it doesn’t produce an income.
So, the water theory says, invest by LTI ratio. Land-to-improvement ratio. Remember, two components in any property we purchase, the land value and the improvement value, and the markets in which we should be investing are where the land is basically free or almost free and we’re investing for improvement value rather than land value. Why is that? Well, of course, because those markets naturally have much better cash flow characteristics. They work much better, because the property prices are much lower, you’re not paying for land. And you know, based on my risk evaluator, which I’ve talked about many times on the podcasts and in prior seminars and so forth, the low land value markets are the low risk markets.
So, the LTI ratio. Now, Other investments, write down this question. Please write this question down, because it is a question by which you must live. Compared to what? Compared to what? So, income property is far from perfect, but what else are you going to do? Compared to what? Compared to what? I mean, stocks, bonds, and mutual funds? Not even a contest. Gold and silver? Not even a contest. Because gold and silver, those metals, terrible tax treatment, no income, no financing or leverage. Speculative, speculative, speculative.
I just want to remind you that Peter Schiff predicted gold at $5,000 an ounce before the end of Obama’s first term, just for the record, although I like Peter Schiff other than that, okay. And if, I want to remind you of one other thing, if you like – I talk about precious metals a lot, because I think they’re a very good measuring stick, okay, and I think they really need to be discussed and considered, but if you invest in precious metals, you must take possession of the metal. Otherwise, you’re simply investing in something fiat. Like, fake paper currency, okay, or bonds or stocks. It’s a piece of paper! If you don’t hold it in your possession, all those characteristics that they brag about, about the metals, are out the window.
Next thing, don’t have it in your house. So, if you think you’re going to come and rob me, I do own a little bit of it. If you think you’re going to come and rob me, my grandfather and grandmother had a home invasion robbery. They lived out in the country, my late grandmother and grandfather, they lived out in the country and my grandfather loved to collect coins. He was a big coin collector fan, even though, oddly now that I think of it, he was a pretty big real estate investor. He owned a huge farm in upstate New York and home invasion robbery – whenever I’d go to my grandparents’ house, there was a gun by every door. A rifle. No gun locks, fully loaded, you know, and everything, right, by every door and they had a dog that was a pretty vicious, barking, little attack dog, okay. The guys came to the door, with guns. They opened the door, the dog came at them, they hit the dog on the head with the gun, my grandfather didn’t pick his gun up fast enough, so home invasion robbery. Not a good thing. They tied him up, and took all the coins. About, I don’t know, thousands of dollars worth. So, don’t keep that stuff in your house.
Compared to what? That’s really the question. Income property can be challenging, but compared to what? Now, here’s the difference. The thing that we’ve gotta stay conscious of is that when we are direct investors and we invest in income property, we feel the bumps in the road. When we invest in a pooled money type of thing, stocks, bonds, or mutual funds, the bumps in the road are still there, you just don’t notice them or feel them. You only notice them when you don’t get a good return, because you won’t get a good return in those assets. Almost never will you get a good return in those assets.
So, if you invest in stock, for example, and you own stock in another company, don’t you think that this company has all sorts of problems all the time? They’ve got litigation going on, I mean, what if you have stock in Samsung? Remember that big lawsuit with Apple that Apple won? These companies are constantly experiencing problems, they’re experiencing labor problems, strikes, dissent, mutiny, lawsuits, litigation, from inside, outside, governmental problems, the people that run the company in which you invest, they probably get letters from regulators all the time saying the government’s gonna investigate them for this or that, you know, there’s all these bumps in the road going on all the time.
The competitive marketplace changes. Someone comes out with a better product and their product’s not as good or they have problems with manufacturing.
The people in China are jumping out of windows because there’s too much pressure. You’ve heard that? That’s Apple, by the way. This probably happens at other places, but you know, there’s all sorts of problems. You just don’t see them. They’re all sterilized in the form of an annual report and in a low dividend that you’ve got and a lame return on your investment.
When you’re a direct investor, you’re going to feel the bumps. You will feel them and that’s what keeps the institutions out of this, largely, which we’ll talk about in a moment. Now, number 14, these are the things that hurt most people, yet they help us. especially when our attitude is right. So, I always say, put time on your side, put mother nature on your side, put stupid government on your side, socialism, AKA stupid government. Whatever you want to call it.
So time, let’s talk about time first. Well, let’s talk about mother nature first. So, remember Katrina? Everybody who owned property in the Gulf thought that was this terrible thing and it was a terrible thing, obviously, but, oddly, many people profited incredibly from that. So, people that were actually there in the Gulf and had some old crappy house that were largely functionally obsolescent anyway, they got knocked down and guess who came along after that? A condo developer and said, we want to buy this parcel and those two next to you and we’ll pay you a really high price, and they built a high rise condo there and they actually profited very nicely.
A lot of people profited from their insurance claim. People outside of the affected areas profited, because all of the commodities, all of the sticks and bricks, all of the lumber, the concrete, the copper wire; the glass, the steel, all of the energy, all of the petroleum products that went into rebuilding the Gulf and rebuilding the Sandy-affected areas? Well, it’s rebuilding right now and all these areas, it happens all around the world, with the tsunamis and so forth. All of those things simply increase the price of the ingredients of the properties you already own. So, as tragic as those things are, just understand that they affect things. They cause upward pressure on those commodities.
Time? Time destroys most people. because the biggest problem most people have, is too much life at the end of the money. When the social security system was set up, it was set up based on a plan that people would only live a few years after 65. Now, 65 is the new 40! People have a whole life ahead of them at 65, right, it’s a whole new deal. So, most people, time hurts them, because they have too much life at the end of the money and that’s a real problem and it’s only going to get worse.
Remember episode 290 that I did on longevity, okay, that’s going to be a big issue in the future, is this longevity problem. Now, what else does it do? It’s not just on a personal scale where you have too much life at the end of the money, so we’ve got to be much better planners than our parents did or our grandparents did, because we’re going to live a lot longer, but also, it weighs so heavily on the entitlement systems, doesn’t it? And as it weighs on our entitlement systems, as social security is bankrupt, it’s a bankrupt Ponzi scheme, as all these other entitlements, Medicaid, Medicare, Obamacare, bankrupt from the beginning.
All of these systems are just collapsing under the weight of the aging population and the longevity population, but what does that mean to us as investors? It means the government will simply print, print, print. Create more fake money out of thin air, and of course, that gives us the wonderful thing we call inflation-induced debt destruction. It destroys the value of our debts, while increasing the value of our commodities, the ingredients of our income properties.
So, great thing there and socialism, it’s really part of the thing I already said, the more government spends, the dumber government is, the better it is for us. Several people have asked me, you know, if you happen to be friends with me on Facebook, you may notice that I have stopped ranting a lot about Obama and Nancy Pelosi and the current cast of idiots running the country and the reason is, is that I kind of just decided it’s really good for me. It’s terrible for the country, but as investors, it’s actually not bad! So, you know what, let’s try to get Obama a third term.
I think we have to, like I said a long time ago, I’m no longer an optimist. I’m just an opportunist, okay? I’m just a profiteer, don’t hate me. It’s capitalism. I’m the guy on the deck of the Titanic, selling stuff to people, okay? It’s awful. I know, it’s terrible. Listen, I just can’t change it. I would love to change the way the country’s run. I’d love to see Ron Paul be president and the whole country get religion and when I say get religion, I mean it not right wing religion, I mean in terms of sensible governance, but it’s just not gonna happen! The forces for socialism are far too powerful, because it creates these iron triangles of entrenched interest.
Okay, look at the Socialist Republic of California. This state, an epic disaster. I mean, just an epic disaster, because you’ve got the public employee unions that are profiting and the politicians like Jerry Brown, Mr. Recycle Moonbeam man, I remember that guy in the 70s. It’s crazy. And you know, they’ve got this cabal where you can’t break it, because they’re both benefiting so much from each other that it’s just, the trend is always going to the left and more and more socialists.
So, the US is obviously becoming a lot more like Europe and we see how well that works. The European Union collapsing, right? European countries collapsing right before our eyes. but we can profit from it. Government spending creates inflation and that is very good for us as investors.
Number 15, thou shalt have a reality check. A reality check. So, there’s several kinds of reality checks. The first one that I’d like to talk about is the litmus test of the free market and this also goes back to commandment 11, thou shalt not be a sucker, because a lot of investors are getting suckered by this one. Here it is, it goes like this, if you buy this property from us, it’s usually a condo by the way and I don’t like condos very much, but if you buy this property from us, we will guarantee your rent for x number of years and that rent is usually higher than market rent and as such, what usually happens is the promoter of these types of deals, they build in this rent guarantee, they give you a pro forma based on their rent guarantee. Your rent is guaranteed for two years, three years, five years, whatever.
How many of you subscribe to satellite radio? Do you listen to Bloomberg at all? I like the Bloomberg news, though there are so many commercials. Why is it we can have commercial-free music stations, but not commercial-free talk stations? I don’t understand that. I guess you just let the iPod run and that’s how they get music, that’s how radio station – boy, hey, that’s another example of changing times. Imagine if you had the career of being a radio DJ. You’d be out of business, right? We used to have famous DJs on the radio. Now you just have an iPod that runs the whole radio station. JackFM, right? Okay. Seriously, that’s all it does.
Yeah, so, on Bloomberg they keep running this commercial, and I listened to it and I finally called them and it said oh yeah, if you buy these properties, I think they’re in Baltimore; Great area, by the way. I think they’re in Baltimore and you buy these properties, and they’re brand new construction, and they give you incredible financing, and they give you a five year rent guarantee. I’ll bet you, although I don’t know this, I bet you that the way that deal works and I called and checked it out, but I couldn’t quite get this far with them without signing papers and buying something, but I’ll bet you the way that deal works is something like this, there’s one entity that is the construction entity, another one that is the marketing entity, and another one that is the entity that offers the rent guarantee that’s probably combined with a property management company.
So, the developer makes a bunch of money when you buy the property, the marketing company makes a bunch of money when you buy the property, and then once you own it, they let it go for a while, they pay the rent guarantee, and then that other entity, that’s the manager, they probably just go bankrupt and you’re left out in the cold. So, I’m not saying you should never do a deal that offers a rent guarantee. What I’m saying is that you need to have the litmus test to the free market.
So, you need to find out what is the true, legitimate free market rent of that property and evaluate your investment decision on that basis. We’ve had this happen before and I told the few, it happened to a few of our clients. I told the clients in advance. I said look, you cannot depend on that rent and it was the model lease back concept from the developer. And you know, those are fine, those deals are actually great, as long as the developer stays in business and as the financial crisis hit and developers were going out of business like crazy, some of them didn’t make it.
Would you do the deal based on free market rent that you have independently researched? You’ve gone to RentRange, Zillow, maybe you’ve called a couple of property managers in the area and you’ve got a good opinion as to the value of the rent of the property. Where the developer was saying, oh well, we’ll rent it for $1500, but the market rent was only $1300. So, the litmus test of the free market in all things.
Have your sanity glasses on, okay. If the deal sounds too good to be true, it probably is.
Thou shalt invest in quality. Here comes Akron, Ohio; Detroit, Michigan, and all the promoters of these types of things. Oh, by the way, on this last one, on that one, another kind of a scammy thing that I see in our business all the time is people selling properties and I remembered this from Detroit, there was a group doing it, that have all these environmental tax credits. Be really careful of that minefield, it’s pretty complicated. I’m not saying it totally doesn’t work, but incredibly complicated.
Thou shalt only invest in quality. So, what does quality mean? Does it mean high-end luxury properties? Absolutely not, because the numbers don’t work on those properties. Does it mean super cheap low-end properties? Yes, that’s what you should avoid. Here’s the problem and we get promoted on this stuff constantly, constantly, constantly. I get the call all the time from someone selling properties in some of these very blighted areas of Ohio or Michigan and those are the two I pick on, because those are the two most common. They’re basically buying these properties for maybe $500 to $5000, they’re selling them for $25,000 to $30,000, and they’re saying that the game plan is that you actually resell the property and carry the paper on it when you resell it or you resell it on a lease option or not really sell it, but rent it on a lease option and they make this claim, they say, even if your tenant works at McDonald’s, they can afford to pay your rent and that’s kind of true.
The problem is, the person that works at McDonald’s may well have a drug habit and that’s expensive. I shouldn’t say that, I’m picking on them, okay, but some of you were nodding your head going, this is true. Some of this, hey, I want to make a disclaimer this weekend, folks. I’m not qualified to advise on tax and legal advice and some of the stuff I say is purely for entertainment value, okay? Just to get a reaction out of you and see if you’re still awake, but a lot of these people have no incentive to pay the rent, that’s the problem, because they’ve lived their whole life as a deadbeat.
And here’s the problem, you know that other commandment I had about, it was number 12, about getting judgments against your tenant. Don’t be a victim, right? Here’s the problem with really cheap properties and Steve later, Steve Olson, one of our investment counselors is going to talk about three different tiers of properties that we recommend, but here’s the problem with these really cheap properties.
It’s not worth it to go and get a judgment against the deadbeat tenant, because the rent is too low, there’s not enough damage they can do to that crappy house to make the stakes high enough for you to spend the $400 to $600 on the attorney service and to spend the time, and then collection later on the judgment issue, okay? So, it’s gotta be expensive enough to be worthwhile and to have a tenant who is an aspirational tenant who plans to do something with their life.
When you’re working in the really, really, low, low end, few of those people will make it out of that. And listen, I grew up poor, okay, I mean, not starving, but I didn’t have any money growing up, pretty much. Some of those people will make it out of that, but the vast majority, unfortunately, won’t, because it’s subsidized by the government, largely.
So, the really, really low end properties, stay away from them. Penny stocks are cheap, because they are not worth anything, most of the time. There’s this whole philosophy in the world of the stock market about penny stocks, okay? You’re probably receiving newsletters in your email box about penny stock investing. Most of those things never make any money. So it’s cheap for a reason and areas with declining population, they just don’t work, okay. So, pursue a reasonable amount of quality in the products.
Number 17, you’ve heard me say this well-worn cliché, thou shalt embrace fragmentation. The fragmentation in our business that is frustrating to all of us, becomes a very, very powerful tool in keeping institutional investors out of our business and another way you should embrace the fragmentation, you’ve heard me talk a lot about that one, another way you should embrace the fragmentation is, fragment your own portfolio geographically, so that you’re diversified and that really goes back to the first 10 commandment, but embracing this fragmentation is such a blessing to us.
Now, one of the things that we’ll talk about this weekend a little bit is this wonderful new insurance, and really, I’ve gotta give credit to our client Fernando in the back, right there. He raised his hand there just for a moment. He’s very modest. Fernando, you’re not gonna get up and speak here, okay, but yay to Fernando, because he’s the one that really got me to pay attention to this Nationwide Insurance. I tell you, I absolutely love this. It is unfragmented a big part of my investing life, the fact that I can have one insurance company and a email that has a web portal every month that I can just go to and if I sell a property or buy a property, I can delete it or add it and the insurance is very inexpensive.
The deductibles they recommend are higher, but you know, she showed me the math on it and I agree. You can get lower deductibles, but it will cost you more, obviously. but having one insurance broker to deal with, where I don’t have a bunch of different renewal dates and I pay all the insurance on every property each month. Beautiful system. It’s just auto-pay on my credit card. I love it. This has really unfragmented the business. Don’t tell the people on Wall Street at Goldman Sachs about this, because it will make it easier to get into our business.
But look it, every property manager has a different way of working, every local market specialist has a different way. Every state and city has a slightly different set of rules and laws and customs and a different vibe to it. This fragmentation keeps the institutional investors out of our business. It is why we have the opportunity. Warren Buffet said it himself, he would buy a couple million single family homes if he could figure out how to manage them. He can’t and we’ve already started to see some of the hedge funds that got into our business a couple years ago, selling off properties and I just predict, a lot of them are still buying like crazy, okay, and that’s driving prices up, but I predict that these institutional investors will not succeed in our business. It’s just too darn fragmented for them. They’ve gotta buy large, expensive, lower return properties, and that’s what they buy.
Alright, so, embrace the fragmentation. Shelters. Now, here, this is one. So, we’re gonna have Mark Kohler talk tomorrow and we’re going to have CPA from Mike Murphy’s office, my accountant, talk today and this one, we have a lot of investors. When I say use shelters, thou shalt use shelters to protect and preserve wealth, there are tax shelters, income properties by nature are the best tax shelter, and there are techniques with that. The 1031 exchange, very, very powerful technique and then there are other legal shelters, like LLCs, that you can use, and partnerships and so forth, that you can use to protect and preserve your wealth.
Here’s the thing, folks. Once again, don’t put the cart before the horse on this. Don’t get all distracted with the complexity of this stuff. First, get some properties! Okay? It just, it is unbelievably, unbelievable to me, how many people I’ve had come up that don’t own a single rental property and say well here I gotta set up three LLCs over here, I’m gonna do one in this state, one in that state, I’m gonna do a series LLC over here, and then I’ve gotta do, I think I’ll get a Family Limited Partnership on top of that and then I’ll have that hold this and they start drawing this – folks, the best asset protection when it comes to your income property, is insurance. Okay? Lighten up about this stuff. Don’t overdo it, but use it!
If you’re an advanced investor, there are some great things you can do here. If you own a few dozen properties, hey, there’s some stuff you should be thinking about. but if you’re starting out and you’ve got maybe under 10 properties, spend most of your time worrying about acquiring good quality properties and managing them well and having good insurance on them.
Alright, commandment 19, thou shalt make rational decisions. We’ve all made this mistake, right? We got upset about something and we said something we shouldn’t have said to somebody and it ruined a relationship, right? We’ve done that, okay, everybody’s done that. We got greedy, we just decided, gosh, I gotta go out and get all these properties and we started buying a bunch of junk, because it looked so cheap. One of the things I always say to Californians is, don’t take your California brains to all these other areas, everything looks like it’s free! So, be careful with that, alright. Make rational decisions. Decisions based on philosophy.
The two biggest motivators are desire to avoid pain or gain pleasure. Basically, fear and greed. Don’t let these things run your life. They’re important, they’re warning signs for us as humans, we need them, fear, you know, there’s an acronym for fear – False Education Appearing Real. So, don’t be quivering in the corner, okay. Make smart, rational decisions, and make decisions. Indecisive people never get anywhere, they never make any money, but don’t jump in and be a careless fool either. A fool and his money are soon parted. So there’s a good rational balance there.
Number 20, thou shalt look at the big picture. Step back and look at the big plan. I was going to call this one thou shalt have a 2 and a half year business plan. Most of you know where I’m getting that from, right? The depreciation schedule. 27 and a half year business plan. When should you sell your properties? Every 27 and a half years, for sure, so you can start the clock on depreciation over again. But you know, it’s just amazing to me, you know how we talked about how when you don’t invest in pooled assets, you feel the bumps in the road. You have these little discouragements on the way and so forth and all these problems, they happen here and there.
Keep focused on the big picture and ask yourself the very important question, what is that? Compared to what? What else are you going to do? Show me something better than income property and I will love it, talk about it, believe in it, promote it. There’s just nothing better and that’s why I do this.
So have a long-term plan, as Denis Waitley says, step back from the canvas of your life and gain perspective. Every time something goes wrong, you’ve gotta step back, look at the big picture, what is your five year plan? What is your ten year plan? What vehicle is going to get you there? And then say, this vehicle, that vehicle, income property, compared to what? Nothing works better than this, okay, and I think that’s why we’re all here. So, let’s get our next speaker up here. I finished one minute early. I’m so proud of myself.
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