InvestorLoft Real Estate Investing Blog

It’s no secret – real estate is a great investment. People invest in real estate and sometimes don’t even know it. Many employer-sponsored retirement plans have REITs as investment options and they’re included in those pre-formulated investment models (Target 2025 Retirement Model, for example) and as á la carte options that people invariably click.

But what most people don’t know, however, is that you can have a house in your IRA. Or even an apartment building…land…a condo. It’s all possible – you just have to think outside the brokerage account.

Real estate is what’s referred to as a non-correlated asset. In other words, its performance isn’t dictated by the performance of the equity and fixed income markets. Thus, it’s a valuable diversifier for your investment portfolio and can act to offset losses should the stock and bond markets go haywire.

Using real estate in your IRA has been allowed by the IRS since the 70s, so why don’t more people know about it (and why isn’t your stock broker telling you about it?)? Well, it’s because pre-packaged solutions provided by wirehouses, online brokerages and financial advisors are easy to sell and cost little to maintain. Having a real estate or self-directed IRA that can invest in real estate actually takes some education and a knowledge of what you’re buying. And – here’s the kicker – your financial advisor doesn’t make a commission on that self-directed IRA you’re going to open because he can’t open one for you. That’s the most common reason you haven’t heard about it.

One fo the best places to learn about the benefits of a self-directed IRA that can hold real estate is through Equity Trust Company. They have an incredible library of resources for every level of investor. Just click here and you’ll be brought to their Virtual Library. All of their resources are free, so just sign up and open the oyster to your financial future online. While real estate in your IRA isn’t for everyone, learning something new never hurt!

Locate luxury real estate bargains with ease

When searching for investment property, it’s good to know where your markets of choice stand. Are prices rising? Falling? Are there areas you should consider (but haven’t for some reason)? We thought Forbes.com hit the nail on the head with their Interactive Housing Map. Most of our blog readers and site visitors are on the hunt for real estate bargains across the country. This map lets you search by zip code (awesome!) and see if your zip code of choice made the top 500 most expensive zip codes. It will then let you know the specs on the market (median home price, income, percent price decrease, inventory levels).

If you’re a primary home buyer looking for a luxury home or perhaps a real estate investor looking to pick up a bargain in a high-priced area, Forbes.com’s interactive map can help you start your search. If you find an area you like, check and see what’s available in the InvestorLoft.com Prop Scout investment property search engine and then grab your Realtor – and grab those bargains!

Real estate investment terms - today's topic

Cash flow…cap rate…cash on cash return…

It’s enough to blow your mind, isn’t it?

We’ve put together this primer for our readers from the most common questions our Customer Service Team comes across. They work with our Investor members to define key real estate terms, help them navigate our site and find articles in our Real Estate Investing Articles library day in, day out. So today, we’re focusing on three key terms that real estate investors need to know: Cash Flow, Cap Rate and Cash on Cash Return.

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CASH FLOW

Annual Net Operating Income is also commonly referred to as Cash Flow. This represents the annual income or loss the investment property actually generates after collecting a year’s worth of rent and paying the annual expenses associated with owning and operating the property. Cash Flow is calculated by subtracting the Annual Total Operating Expenses from the Annual Gross Rental Income.

So, the formula is:

Annual Net Operating Income = Annual Gross Rental Income – Annual Total Operating Expenses

Read InvestorLoft’s expanded explanation of Cash Flow.

CAP RATE

Cap Rate is a component of return on investment for an investment property as it relates to the Purchase Price and based on the amount of Annual Net Operating Income the property will yield (not including mortgage payments or considering income tax) in proportion to the purchase price of the property.

Cap Rate is calculated by taking the Annual Net Operating Income (or Cash Flow) of the investment property and dividing it by the Purchase Price.

So, the Cap Rate formula is:

Cap Rate = Annual Net Operating Income (not including mortgage payments)/Purchase Price

Read InvestorLoft’s expanded explanation of Cap Rate.

CASH ON CASH RETURN

The Cash on Cash Return of a property is often times referred to as a property’s yield. Cash on Cash Return is a way of evaluating the return on investment of an investment property in relation to your out-of-pocket expense, based on the amount of Annual Net Operating Income the property will yield (not considering income tax) in proportion to your Down Payment and Repair Cost. The Cash on Cash Return formula is calculated by taking the Annual Net Operating Income of an investment property divided by the amount of your Down Payment and immediate Repair Cost.

So, the Cash on Cash Return formula is:

Cash on Cash Return = Annual Net Operating Income/(Down Payment + Repair Cost)

Read InvestorLoft’s expanded explanation of Cash on Cash Return.

Allen Klosowski (K2 Photo Studio), Josh Mishell (Flying Dog Brewery), Erika Napoletano (InvestorLoft.com), Janie Gianotsos (Food Bank), Josh Clauss (Tuggl.com), and Rich Chirco (Food Bank) - photo by Scott Lawan

Some people ask: what can you really say in 140 characters? The answer might surprise you.

At InvestorLoft, we prefer to ask what we feel is a better question:

What can you DO with 140 characters?

InvestorLoft has been actively involved in the Twitter online community since November of 2008 (you can follow our feed and join the conversation here). It’s here that we connect with other real estate industry professionals, real estate investors and members of our local Denver community and beyond.  Being a Denver-based business, there’s no lack of enthusiasm we have for this city we call home and we’re always looking for a way to give back.

Last night, InvestorLoft was proud to be a part of the largest live gathering of Twitter users in Denver to-date by participating in the monthly Denver Tweetup. A live gathering of “virtual people,” the event saw over 300 local business owners, entrepreneurs and other users of Twitter come out to socialize in full force. Last night was special, however: the event was working to raise funds for the Food Bank of the Rockies. Flying Dog Brewery generously donated the refreshments for the event while another local Denver business, Tuggl.com, worked with the Food Bank to arrange the donations. Eventgoers generously donated $1261.50, which translated to 5046 meals that the Food Bank of the Rockies can now provide to Coloradans in need.

And it was all done through Twitter. The people who attended last night’s event are to be thanked, alongside all of the event volunteers, Flying Dog Brewery and Tuggl.com. If it weren’t for the power of Twitter and social media, InvestorLoft and our co-organizers wouldn’t have been able to get this event organized — we were given 5046 great reasons to keep using Twitter last night! Our Director of Communications, Erika Napoletano, has been an integral part of the planning process for the Denver Tweetup events since their inception in December 2008. From that first monthly event until August’s, they’ve seen attendance steadily increase from 30 guests to last night’s 300. That is the power of Twitter.

If you’re a real estate industry professional using Twitter, ask yourself: what can I DO with 140 characters? As we said, the answer might surprise you. Sometimes it’s not all about your business.

Sometimes it’s about the community in which you DO business.

Watch CBS 4 Denver’s coverage of the event HERE!

We thank @mistymontano and @CBS4Denver for covering the event on the 10pm news last night as well as Kendra Wiig (@polyhazard) for her great write-up on Examiner.com. We’re delighted to have partnered with the Food Bank of the Rockies and glad for the generous donations from our attendees. Additional thanks to Tuggl.com and Josh Clauss for coordinating the charitable aspect, Flying Dog Brewery for their generous donation of libations, venue and marketing support by Josh Mishell, and Allen Klosowski for working with our Director of Communications month after month to consistently create great events for the Denver Twitter community.

Receive buyer leads from InvestorLoft in your market

Realtors – you’ve worked hard and long to be a local expert in your market. You know sales trends, great neighborhoods, ones to avoid and the ins and outs of making offers on short sales. Wouldn’t it be great if you could share that knowledge and expertise with InvestorLoft’s investor buyers?

You can!

If you are a Realtor who meets the following criteria, you are eligible to be a Local Market Expert for InvestorLoft and receive leads from unrepresented buyer members shopping in your area!

Criteria our experienced Success Team Members must meet to join our Lead Network:

• Must have at least three (3) years experience as a real estate professional
• Must have handled a minimum of five (5) investor transactions
• Must have a clean ethical professional record with no ethics complaints against your professional licensure.

Benefits of Success Team Membership:

• More Leads, Less Legwork: receive leads from buyers who do not have representation in your market. Our buyers look to you to guide them through a real estate investment purchase as an expert in your local market.
• Month-to-Month Contracts: start receiving buyer leads for as little as $9 per month (market pricing varies depending on number of listings and local population, one-time setup fee applies)
• Design Your Own Territory: reserve one or several counties in your local market – pay the setup fee only once!

What does the index rise mean for real estate?

This week marked the release of the latest S&P/Case Shiller Price Index Report. For the first time in 20 years, there was an overall 0.5% increase in the index, possibly indicating that the real estate market on a whole is seeing signs of recovery.

“This is much more important than an up day on the stock market. It may mean that we may have changed direction,” Robert Shiller, a co-developer of the Case Shiller index told Reuters Television.

It is “a pretty significant indicator that we might be at or near a bottom,” said index co-developer economist Karl Case of the self named index.

Many of InvestorLoft’s active markets are listed in the recent report. Here’s a rundown of key metropolitan areas that our member may find of interest:

Increasingly, Self-Directed IRA (SDIRA) owners are looking at alternatives to traditional stocks and bonds for their retirement accounts. Growing investor sophistication is driving many in the direction of Real Estate, Private Stock, non-public Hedge Funds and other investments traditionally excluded from their current retirement portfolios. Alternative investment transactions through a SDIRA, may provide greater transparency and control over retirement assets. Additionally, a Traditional SDIRA allows taxes on assets held inside the IRA account to be deferred or postponed until the money is withdrawn from the account, presumably after the age of 59 ½. Alternative investments may allow account owners to take a proactive approach to improving investment returns because they choose asset classes that are not correlated to their current portfolios.

When working with SDIRA’s, it is important to be familiar with the prohibited transaction and disqualified person sections of the Internal Revenue Code (IRC). Failing to understand Prohibited Transactions, or to find an advisor or professional that does, may lead to the disqualification of your SDIRA, resulting in possible taxes and penalties. This article will outline the importance of disqualified person(s), prohibited transaction(s), and common scenarios SDIRA owners should avoid with their SDIRA.

The prohibited transactions rules are intended to ensure that the assets of a plan are invested in a manner that benefits the SDIRA itself and not the SDIRA owner. This is intended to prevent a person, such as the IRA holder, from using the assets of their SDIRA for personal benefit. It is incredibly important that the IRA holder not engage in any ‘transaction’ with his or her IRA. Consequently, transactions involving the SDIRA must be “arms-length” and free from any direct exploitation by the SDIRA owner.

Disqualified Person(s)
An IRA owner may not invest in property that he/she, a relative, or his/her business, already owns. Prohibited transactions are transactions that occur between the SDIRA and disqualified person(s). The following are, generally, considered disqualified persons.

• The IRA holder
• The IRA holder’s spouse
• The IRA holder’s ancestors and lineal descendants
• Spouses of the IRA holder’s lineal descendants
• Investment managers and advisors
• Anyone providing services to the plan (IRA), e.g., the IRA trustee or custodian
• Any corporation, partnership, trust, or estate in which the IRA holder has a 50% or greater interest

Prohibited Transactions
Understanding what constitutes a prohibited transaction is very important when it comes to making investments within a SDIRA. A prohibited transaction can bring into question the tax-deferred status of the account, resulting in the disqualification of the SDIRA and severe tax and penalties. Prohibited transactions fall into two general categories: Prohibited Investments and Prohibited Transactions. The Internal Revenue Code (IRC) defines a prohibited transaction to include any direct or indirect:

• Sale or exchange, or leasing, of any property between a plan and a disqualified person;
• Lending of money or other extension of credit between a plan and a disqualified person;
• Furnishing of goods, services, or facilities between a plan and a disqualified person;
• Transfer to, or use by or for the benefit of, a disqualified person of the income or assets of a plan in his own interest or for his own account, or
• Act by a disqualified person who is a fiduciary whereby he deals with the income or assets of a plan in his own interest or for his own account; or
• Receipt of any consideration for his own personal account by any disqualified person who is a fiduciary from any party dealing with the plan in connection with a transaction involving income or assets of the plan.

Often, SDIRA custodians communicate to the SDIRA holders that they should consider their SDIRA separately from themselves as individuals. It is important to understand that for purposes of the IRS code you and your SDIRA are separate entities whose interests are not related. Understanding this nuance will reduce the number of potential issues that may arise when you make investments using your SDIRA.

Common Prohibited Transactions

• Borrowing money from an SDIRA
• Using the SDIRA as security for a loan
• Selling personal assets to the SDIRA
• Buying property in the SDIRA for personal use
• Purchasing property from a disqualified relative i.e. Spouse, Children, Parents of the SDIRA holder.
• Issuing a mortgage on a disqualified relative’s residence

Penalties
When an IRA is involved in a transaction that is considered ‘prohibited’, the IRA loses its tax-exempt status and the IRA holder is deemed to have received a distribution on the first day of the tax year in which the prohibited transaction occurred. The value of the IRA is treated as if was distributed to the IRA holder and must be included in the IRA holder’s income for that year. Unless the IRA holder has reached age 59½ or is disabled, this distribution is subject to the 10 percent penalty tax on early distributions. These are hefty penalties that can rapidly diminish the benefits of the self-directed IRA.

Conclusion
Individuals who consider making, or have made, alternative asset investments in their SDIRA must be vigilant and responsible for each action they take. Becoming aware of the prohibited transaction and disqualified person rules will help them avoid tax consequences by not tripping over these fundamental rules. Individuals should contact a knowledgeable self-directed IRA custodian, attorney, CPA, or financial advisor, with a track record of working with SDIRA’s, for more details.

TommyJoe A. Valenzuela (”TJ”) is VP of sales and marketing for TAS (Trust Administration Services) online at www.trustlynk.com and a division of First Regional Bank. He has 15+ years experience in the financial services industry, implementing marketing strategies to benefit real estate professionals, attorneys and others and speaking at industry conferences on taxable investment strategies, retirement plan investing, etc. Trust administers more than $1.3 billion in assets, including those invested in real estate, tax liens, and private equities.

The content in this blog is not affiliated with nor is it endorsed by InvestorLoft.com and contributors receive no compensation for submitted articles. All articles submitted to InvestorLoft are subject to editorial review. Please seek the advice of qualified real estate, tax and financial professionals before investing in any project or opportunity. InvestorLoft does not provide tax or legal advice and any and all content herein is provided for informational and educational purposes only.

As big believers in quantitative data, InvestorLoft consistently tracks the numbers behind our site’s listings. We want our members to have access to the most timely data possible to help with their investment property purchase decisions, so we’ll be publishing quarterly results like those in this blog. Forbes.com and Forbes Magazine recently utilized our data in their article The Landlord Game, and we’re now passing on an enhanced version of that data to you! The following numbers were derived by analyzing all of the listings on InvestorLoft and then crunching those numbers a few different ways and under different scenarios (varying down payment amounts, types of residence, etc.).

Note on Cap Rate calculations:
The following is the method by which our cap rate calculations have been derived:

CR = ((income – expNotMtg)/PP)*100)
Cap Rate = ((income less expenses not including mortgage)/Purchase Price)*100

All results were multiplied by 90% to account for the following variances and arrive at more conservative figures:

Rent:

• Seller entered rent as the first value. If there is none, then we used median rent derived from between 1-5 miles averages.

Expenses:

• Some listings do not have HOA or taxes – the system does not currently estimate these numbers, so the cap rate would be very high in that case. Thus, we estimate numbers for insurance fees, and property management (based on the rent val) in the expenses.

Top Cities Nationwide for Cap Rate – National Totals
(includes both single-family and condo/town homes – multifamily excluded)

Top Cities Nationwide for Cap Rate – Single Family

Top Cities Nationwide for Cap Rate – Condo/Town home

Top Cities Nationwide for Cash Flow – National Totals
(sorted assuming 30% down payment)

Top Cities Nationwide for Cash Flow - Single Family
(sorted assuming 30% down payment)

Top Cities Nationwide for Cash Flow - Condo/Town home
(sorted assuming 30% down payment)

Share this post with your clients and colleagues and look for our Q3 data to be released in October.

While the vast majority of what we hear these days about real estate in the news is “doom and gloom,” there’s definitely an upside that few are talking about. We’ve entered an era where America is on sale – we haven’t seen such a favorable buyer’s market in years. Property prices in many areas are below market rate, rents in those areas are above market rate, and non-traditional financing is become more and more prevalent and the options for investors to access quality rental/investment property are abundant. So tell me – why isn’t the majority of the media talking about the sunny side to the foreclosure across the street?

Fear.

Fear sells. Fear motivates. Fear is what we thrive on.

The most powerful thing we can do is tap into that fear that everyone’s trying to instill in us and glean powerful information from it.

If a city is experiencing a higher than normal foreclosure rate and population statistics are remaining constant – wouldn’t that mean that there’s a steady demand for rental property from displaced homeowners?

If inventory is plentiful and driving prices down yet vacancy rates in the area remain low and constant - wouldn’t that indicate an opportunity to access prime rental property at reasonable prices with a steady flow of at-market rent rates and tenant supply?

If credit is tight and traditional loans are harder to come by – wouldn’t that lend a look at less traditional financing methods like self-directed IRAs? The power to become a cash buyer is within your reach if you know where to look.

There’s a silver lining to every gloomy cloud in the sky and the real estate market is no different. Our CEO, Wally Charnoff, was recently interviewed by Jonathan Burton at MarketWatch about this exact subject. Have a look at the video and see what Jonathan and Wally found to chat about.

Looking for rental property?

So, you’re thinking about getting into investment property. If that’s the case, there are a few basic questions you need to ask yourself before you get started. The first one is simple: are you most interested in appreciation on the property or cash flow? If your answer is cash flow, read on.

The concept behind cash flow properties is simple: take in more in rent than you spend to own the property. There is no getting around the fact that, in order to purchase a property that is going to generate cash in your pocket every month, you’re going to have to look at a lot of places and do a lot of research. You could go take a seminar from a “guru” who will tell you that you can get property that generates tons of cash for no money down to make you rich. If this the case, don’t you think he would be running around buying properties instead of giving seminars? Save that money for your down payment.

First, you have to decide what kind of property you want to buy. If you want to enter the rental market game for as little money as possible, mobile homes are worth a look. However, you should keep in mind this isn’t going to yield the most stable pool of renters. Maybe you’ve found a house or condo that you want to rent for a few years then move into when your kids are all off to college. Do you want a single-family detached home, a few condos or town homes, or a multi-unit building? Once you’ve weighed the different options and decided, it’s time to get busy with your research.

Who’s going to manage the property? If you are going to use a property management service, the property can essentially be anywhere. This might be an option if you live in an area with a unstable renter base, for instance, such as if industry is leaving the area and taking jobs with it. If you are going to save money and manage the property yourself, your purchase should probably be local … and you have to be honest with yourself as to whether you can really handle it. If you are a busy executive that works long hours, you may be able to handle one or two properties, but if you add any more you may rethink it. If you’re buying several units and your research shows that you can make a living off the cash, you can do it full time. But don’t underestimate the rigors of property management. When a tenant’s toilet breaks, she’s going to want it fixed today, NOT when you get back from vacation. Weigh the cost benefits. Is the standard 8-10% property management fee worth you having both the benefit of monthly cash flow AND your freedom?

There is usually going to be a trade-off between appreciation and cash flow. An executive home in a nice neighborhood may appreciate rapidly but not generate as much money per month because of the higher mortgage. Conversely, multi-unit structures that generate a lot of rental income every month may not be in the nicest part of town, and therefore appreciate less. And remember the lessons learned from recent market cycles: appreciation is never guaranteed.

Once you’ve decided what you’re going to buy, partner with a real estate agent that specializes in rental and income property. Insist upon seeing the records for any property for at least the past two years before you buy. Look at capital expenditures, rental income, maintenance costs, association fees and any other expenses. A positive balance sheet should ideally be accompanied by reliable, existing tenants.

Investment property can be an excellent way to make money every month from rental income, but don’t kid yourself. There are a lot of factors to consider. Are you cut out to be a landlord? Are you in a position to weather inevitable vacancy rates? Are you able to financially handle major problems like a new HVAC unit or replacing a roof? If so, don’t skimp on the research: start building your rental property portfolio the right way. Patient research, due diligence, the assistance of an experienced local real estate professional are all key to your success. It’s more than just finding what looks like a great buy and closing the sale: it’s everything beyond the sale that determines the cash flow potential of a rental.