On this episode of The Passive Income Attorney, Seth completes his mini-series on the different types of passive investments by discussing forms of passive real estate investing like multifamily and syndication.

HIGHLIGHTS:

0:00 – Intro
1:16 – Flipping houses is not a form of passive investing and they require time and attention
2:13 – Flipping and wholesaling are transactional, meaning there is no residual income
2:53 – Single-family and multifamily rentals are how Seth got started in real estate investing
4:06 – Economies of scale is a big problem with small rentals
5:55 – When you can act as a lender, it can be very rewarding, although the risk of foreclosure can be daunting and there are high levels of entry
7:40 – Syndication is the most passive way to invest in real estate while enjoying tax benefits. Seth explains what syndication is
11:19 – Real estate syndication funds are similar but with multiple properties
11:33 – The cons in syndication are liquidity and control
12:08 – High-income earners don’t have to quit their jobs to invest, and have no hassle from the side of active investments

FULL TRANSCRIPTION:

What’s up law nation. I hope you’re having a fantastic day. It may not seem like it right now, but you are investing in yourself in your future right now. In the long run, by taking action on the things you learned today, you’ll be able to unshackle yourself in the billable hour later. Billables, no more. Today, we get to talk about my favorite investment vehicle, real estate. I don’t know about you, but when I first began being interested in investing in real estate, I thought about flipping a house like you see on all those HGTV shows, or perhaps you browse Zillow or saw a for sale sign as you’re driving in your neighborhood and thought, man, I could buy that. I could put a little work in or hire a contractor and boom, 75k rinse and repeat just like HGTV.

But the problem with these types of investments are that they are not passive investments. It’s not easy. I’ve done it. It’s time and attention intensive. I’ll be the first one to tell you that managing a residential contractor is not easy. It’s not passive and it’s not fun. If you aren’t watching them like a Hawk, they’ll cut corners and they’ll get off schedule and they’ll get off budget. They’ll most certainly get sick. They’ll get injured. They’ll have family emergencies. It’s like they all went to the same contractor excuse school. It’s ridiculous. I’ve done it so many times that I can already, I can already predict what the next excuse is going to be from the contractor. You know, this must be the highest degree of education available. I need to look into it and the same goes for wholesaling.

So, for those of you who don’t know, wholesaling is when you put a property under contract and then you assign that contract to another buyer prior to closing for a fee or a markup. In another form of wholesaling is a double close where you actually close on the property and it just depends on the state law or preference. But anyways, both wholesaling and flipping are transactional by nature. And that once you stop, there is no residual or passive income. These are active businesses. These are just like your W2. Once you stop putting in time, you stop getting money. Now, moving on, how about single family or small multifamily rentals? That’s how I got started. And in fact, I still own a portfolio of these. Before you say, this is the easiest way to get started in real estate. I want to share with you my experience and knowledge so that you can make an informed, intelligent decision.

However, if you manage yourself, you’ll be dealing with the 3 T’s, tenants, toilets and trash. You’ve all heard the nightmares about the late-night phone calls. But, you know, getting third property management can alleviate a good portion of these issues, but it also brings about new issues, including costs, which is likely for a small property, like a single family property or a small multi-family property. It’s going to be about 10% of your gross rental income. And in many markets, your first month’s rent, every time you put a new and in there. You’ll also be managing your property manager, which is no easy task. Some are better than others. Some are more hands-off than others. Some you might as well be managing the property yourself because they don’t do anything. So, and of course, they’ll overcharge you for repairs and lawn care and they’ll put potential tenants in their own properties before yours.

Additionally, the big problem with small rentals is economies of scale. Unless you can score some rare rentals where you can net at least $500 per month per door, after your debt, insurance, taxes, maintenance, property management, one big capital expenditure, like a new roof will completely obliterate your profit. And when a tenant leaves a single-family home or an SFR, the property is 100% vacant or when one tenant leaves a duplex, the property is 50% vacant and your cashflow is gone. Now I’m not here to tell you not to get started in real estate this way, because I did. And it was very successful. But to me, for one it’s hard to scale and for two, and there’s more than two, but second, you really need to bank on appreciation, which is not good. You really want to buy for cashflow first and appreciation second, but when you just buy a few one-off properties here and there, and you’re only netting, you know, $100, $200, $250 a month per door, man, you really need to bet on the market appreciating. So, your house goes up in value and then you make a big chunk of change. Because otherwise those few hundred dollars a month get obliterated and wiped out by your capital expenditures. So, anyways, again, I’m not here to tell you not to get started in real estate this way, but I just want you to know the risks in the work that is involved. These investments are not truly passive, but they can be passive and just be sure to do an honest evaluation, to decide if you have the time and or desire to invest in this manner.

Now let’s move on to something called note investing. When you bought your home, did you ever think to yourself, damn these banks had it made. It may be true. Because they loan you some money to buy a house. You pay them interests. And if anything goes wrong, well, they own your house. Sounds great, right? Well actually in my opinion, yes, it is good. It’s really good. When you can act as the lender, it can a very rewarding and truly passive investment. Sure, if something goes wrong, the foreclosure process is a pain in the, especially in States like California, but at least your money has collateral. The real downside to becoming a lender through buying notes or making loans is for one as noted previously, the risk of foreclosure and having to go through that process which can be daunting for someone who hasn’t done it before. And also, you know, there are high barriers of entry. If you’re going to be a lender on a house, that’s probably going to be hundreds of thousands of dollars. You need large amounts of liquid cash to be able to lend someone money to buy a house or an apartment complex or an office building. You also need to be able to accurately evaluate the merits of your borrowers and document your transactions effectively.

However, once all that front work is completed and if all goes well, this can be one of the most passive ways to invest in real estate. You truly do just get mailbox money, you get interest payments or principal payments, and it can be very lucrative, but again, high cost of entry and you know, the risk of foreclosure. So, let’s talk about syndications and funds.

In my diverse experience of wholesaling, fix and flipping, fix and renting, Airbnb and so on and on and on. I can say without a doubt that investing in real estate syndications and funds is the most passive way to invest in real estate while still enjoying almost all the benefits. I quickly know that when I say enjoying the benefits, I’m largely talking about tax benefits that you do not get from investing in passive investments, such as RIETs.

Now a real estate syndication is simply put, it’s a pool of investors who get together to purchase a large property, that they may not have been able to purchase themselves. There will be active investors in the deal and passive investors in the deal. The active investors are called GPS or general partners or sponsors or managers. The passive investors are referred to as LPs or limited partners or just passive investors. The GPs and the LPs will form an LLC or a limited partnership. Nowadays, it’s almost always an LLC. But it will in turn, buy a property. The LLC owns the property. Now the GPS will do all the work from the underwriting and finding the deal to acquiring, financing, completing due diligence, closing the property, implementing the business plan, managing the construction, managing the tenant, maintaining the property, refinancing, and ultimately finally selling the property upon exit. The limited partners along the way, you know, well initially they make a capital investment and then they sit back, and they collect mailbox money. They don’t have to worry about implementing the business plan. They get checks in the mail through cash flow and appreciation upon refinance or sale.

Now I invest personally both as an active GP and as a passive LP, and absolutely love it. From a limited partner perspective. Once you do a little bit of upfront work, namely vetting the sponsor, the market and the deal. Again, it’s one, the sponsor two, the market. And three, the deal itself, the opportunity is truly passive, and you have no liability except for the money you have in the deal. If someone slips, falls and sues, you are insulated.

Now the big barrier here is the cost. Most people don’t have chunks of $50,000, $75,000, a $100,000 at a time that they can invest in these real estate syndications. And that’s what they cost. I’ve seen syndications as low as $10,000 as a minimum investment, but typically you see it’s about $50,000 to buy your way in as a limited partner to one of these deals. The returns are exceptional. They generally beat the stock market on a risk adjusted basis, the returns are just leaps and bounds beyond just about anything else. And on top of that, you get those awesome tax benefits of owning real estate. It’s not as if, because you invested in the LLC that owns the real estate that you don’t get those direct tax benefits you actually do. It’s the same as owning a rental property directly.

Now we’ll dive into detail in later episodes, but to keep it short and simple real estate syndication funds are basically the same idea, except that the sponsors will fund multiple properties to purchase within the same investment vehicle instead of just having one single property that you would invest in. Just like anything in life there are cons, for syndications, it’s namely liquidity and control. These are long-term investments, and they are mostly illiquid. You can’t sell your shares with the click of a button like your TD Ameritrade account. And because you’re dealing with the tenants, the toilets and the trash, you’re giving up the day to day decision making and control to the sponsors. And it’s probably best because they’ve hopefully done it before. They know how to implement the business plan and they are experts in their fields.

However, the beautiful thing is as high-income earning attorneys, doctors, and professionals, you don’t have to quit your job to in these commercial properties. You don’t have to answer the late-night calls from tenants, you don’t have to manage contractors or property managers. You still get to invest directly in tangible real estate, which means you get those massive tax benefits and potentially significant returns. For me, it’s a no-brainer, you get to invest in an institutional quality commercial grade property without having to jump through all the hoops of learning an entirely new business. All you need to learn is how to vet the sponsor, how to vet the market and how to vet the deal.
So, if you can afford it in my eyes, it’s the way to go.

All right let’s wrap this up. I hope you enjoyed this miniseries primer on different types of passive investments that you should be considering. In part one of the series we discussed traditional investments, such as stocks, bonds, and mutual funds, various types of businesses like brick and mortar, online affiliate marketing, angel investing, franchises. And today we touched on some of the many, many ways you can get involved in real estate investing passively or actively, depending on how you define each. And we’ve covered a ton over these last couple of episodes, but not everything. You can invest passively in precious metals, oil and gas, collectibles, and sports memorabilia, and an endless list of other passive investments. In future episodes we’ll take deeper dives into all of these specific types of investments and interview experts in each.

Which of these appeal to you? Have you invested in any of these income streams already? You know, what do you like about them? What do you not? I’d love to get your feedback. I’d love to have a conversation with you. Feel free to reach out to me at seth@passiveincomeattorney.com. And if you want to learn more about passive income investing and private equity or real estate or other alternative investments, go check out my website at www.passiveincomeattorney.com and grab the free passive income guide, which is downloadable for another two or three weeks. And if you have a couple of moments, please leave a five-star rating and a positive review for our podcast. We read each and every one of those. All right, until next time, cheers and enjoy the journey.