ADPI_026: Key Real Estate Gouge (Part 1)

Sep 16, 2018


Episode Transcription:

What's going on guys how you doing out there Mike foster here and today's lesson is going to be super simple. We’re going to talk about some real estate jargon and demystify some of those confusing topics or words you might have heard and hopefully we'll be able to clarify and shed some light. So that way you don't end up being in the dark the next time you're having a conversation with some real estate investors. 

Hey freedom fighters welcome to the active duty passive income podcast. The only place where military members, veterans and their families learn how to build wealth through real estate investing. I'm your host Mike Foster and I'm here to show you how to stop wasting your benefits. Now get off your ass, step up to the firing line and make ready for today's lesson. Shooter stand by. 

Hey hey what's going on guys welcome to the active duty passive income podcast. today we're going to be talking about real estate jargon and hopefully we'll be able to demystify some of those funky words that you might have heard thrown around or maybe some acronyms right. I mean we know that the military is filled with a bunch of acronyms and if you don't speak the language it can be really hard to understand what's going on, what people are talking about and so hopefully we'll be able to clear up some of that mud right that's kind of clouding up you know your understanding of some of these real estate topics. it can really also make things really difficult you know I mean  it's hard when you're trying to understand a world of money in a world of you know property and all this craziness that involves itself with real estate right.

I mean everyone looks at real estate and if you don't understand it you think it's just this thing out there that is hard to understand and you don't want to get involved with it, it's too complicated and you don't even think about it. but when you actually break down the topics and the words and the acronyms, it becomes a lot easier to understand and when you understand it you feel more confident and especially when you start to understand how money is made in real estate; that is when you start to understand like hey this is actually something I can do and once you see that and you share some of the stories or you hear some of the stories from other people, you get to experience that magic and it's great. So let's go ahead and let's just talk about ten words. Sorry this is going to be part one of this real-estate jargon series. But we're going to talk about ten keywords here. Some of them are acronyms it'll be able to break it down for you. But let's go ahead and let's start. 

So really really basic ok equity. What is equity? Alright when you hear the word equity they're talking about the money that you own in a particular property. Okay now this is also going to be tied in with principle right. So principle these two words really mean the same thing right. Because we're talking about the real value of money that you or maybe you know an entity right if it's a bank or whoever I owns in a property. when you buy a property and you get a loan right you have the money that you're charged for the loan, you have the money that the house actually costs are actually is worth right market value and then you have the equity left from the loan that you have left and that equity is what you paid off in that loan. Okay does that make sense? I hope I'm clarifying this a little bit. Maybe it's not clarified enough. So let me break it down a little bit more.

So when you buy a house let's say you're going to buy a single-family house and you buy it for $100,000, okay we'll keep it super simple. Now for $100,000 you might not have that $1000 in your bank account. So you're going to put 10% or $10,000 down on buying that home. That $10,000 that you put down from your bank account to give to the bank for them to loan you the money to buy this house, that money that you put down is the equity that you own in the home okay. So equity is that money the real money value versus the amount that is on right or that is lean on that home. Okay I mentioned another term here lean right. A lean is a form of ownership right that is on the home that you don't control okay. So if the bank alright still, if you still owe money to the bank right and the bank still owns a portion of that home they have what's called a lien on that home.

So their ownership in that home still exists until you fulfill the contract which was to pay off the specific amount of principle that was determined at the purchase right or at the sale. Okay so if your viewer principle that you have to pay off is $100,000 and you are getting charged interest on the amount that you still owe over time. If you pay off that $100,000 you will have full ownership of the home and you will remove any lien that that Bank has on that home okay. Now you could also run into an issue where the county right where the state would have a lien on the home because of taxes that aren't paid. Okay that's why people have what's called tax lien investing.

Right if you ever heard of that phrase that's exactly where that comes from. so the county would have a lien on a particular home, because nobody has paid taxes in a long time and when that happens you know an investor can come in and can pay the taxes on that home and if no one comes and claims that you know for yeah however many years is required you know by that particular area then an investor will take the property and it's in crazy all you got to do is pay the back taxes. but that's just part of you know some of the craziness that involved in real estate right and you got to make sure that you're paying what you're required to pay on time to prevent any liens right from being placed on your home inadvertently okay. So yes so lien is like an it's an ownership okay. I'm sorry for equity right you understand equity is that real money value that you own in your home. 

All right principle is the amount of money of real money in that home. Right principle versus the interest which is being charged to you right from a bank. The bank is going to charge you interest on the amount of principle that they let you borrow to purchase that home. Does that make sense? So for every dollar of principle that you pay to a bank that is more equity that you build in that home and that is less interest that they charge you overtime. Are we starting to see how they all you know compare now? All right awesome so that is, so those are those three really those three. Okay amortization. All right let's talk about amortization. Since we're talking about bank loans amortization is a fixed payment month after month that changes around should I say alters with the amount of principal and interest that are being charged to you over the life of the loan okay. But an amortized payment is a fixed payment right where the ratios of principal and interest alternate. So let's give an example that's the best way.

Okay when you have a mortgage on a home and it's a fixed mortgage you will receive an amortized payment. Let’s say that amortized payment again for even numbers is $1,000. So for $1,000 a month you will pay a ratio of principal and interest to the bank at the start of your loan you will pay more interest to the bank than you will pay principal. Because the bank wants to make sure that they're going to get the extra money that they're charging you for this loan first before you start making your principal payments back to the bank. now a good way to remove this extra payment that you have right on the money that you're holding is to make extra payments right. To make more payment to the principal on your loan. But if you pay that $1,000 at the start of your loan, you could be paying $800 in interest to the bank and only $200 in principal down on your house right.

So for every principal payment that you make you're building a little bit more equity. But for every extra payment that you make you're building more equity and you're reducing the amount of interest that's being charged to you over time okay. But the only amount that will be given an extra or in excess to your loan is the difference in your amortized payment. Which in this example was one thousand a month. Okay so again right and just for the illustration if I pay one thousand, if I pay 1,500 let's say right one thousand five hundred. One thousand dollars will go to my amortize payment. which will be split between however much principal and interest that I owe at that current month and then the extra five hundred will go down to the principal and we'll build equity in my home okay. All right [11:32 inaudible] super simple. 

All right all right so let's talk about PITI. Okay papa India tango India. This acronym mentions the principle, the interest, the taxes and the insurance that a property you are evaluating has okay. If you are speaking with an investor an investor tells you that he is looking at the PITI or he asks you what's the PITI right he tries to be all cool and say hey I know this real estate jogging and I'm in with in-crowd right and he's like hey what the PITI on that deal is. so he's talking about the principle, the interest, the tax and insurance okay and so what essentially they're trying to ask is the mortgage payment right your principal and interest and then the tax and insurance that you have to pay.

These are your primary or your four primary operating expenses. Okay when it comes to buying a property you have to think about the principle, right the interest, your tax and insurance and then you’re other soft operating costs. Which would be your utilities, maintenance, and your management right. Because you don't have to manage your property and you don't necessarily have to pay for the utilities and the property. You can have your tenants pay for the utilities as well. But the four things you will always have to pay for, if you have a loan of course; the first two will only if you have a loan. But at least the last year right taxes and insurance, you're always going to have to pay for that. Because you definitely want to insure your property and you cannot avoid taxes, so you got to pay for those. Now principle and interest if you have a loan, then you will be paying those as well and those your four hard operating expenses okay. So you’re PITI, principle, interest, tax and insurance okay. So definitely want to make sure you and know that. 

Alright let's talk about since we're talking about money alright let's keep on that topic and let's talk about appreciation okay. So appreciation is when your property raises in value over time. Okay now this is not necessarily something that you should invest in okay. A lot of people think and this is a common misconception. Okay but a lot of people think that their house is a good investment. When they just buy it and they let it sit for years and years and years. now yes it totally can be that if you are lucky enough to either catch the real estate market on the rise or if you hold it for long enough where yeah you mean you're definitely going to see the increase in market value, because you've held it for let's say 40 or 50 years sure. All right absolutely it'll raise in value.

But if you're also unlucky at the time you decide to sell or the time you decide to borrow money out of it and the market tanks, like let's say what happened in 2007-2008 then hey you're left with a bad situation. You can't access the money that you thought you would get. Because it's not there and you banked on the fact that you would buy your home and in 20 years or ten years, it would sit in the market and it would eventually grow and everything would be hunky-dory. But unfortunately that's not the way it works right. So it's never good to invest with appreciation in mind. If you're going to invest in real estate, the smartest thing is to invest in cash flow okay.

Now cash flow is the amount of money you have coming in after all your expenses okay. After all your expenses if you have positive cash flow, that is a good property to invest in. especially if you're going to make paying that cash flow over time. now the only way you'll receive cash flow is if you're renting this property right or if you're you know making some use out of it where someone is charging you, I'm sorry is paying you excuse me right is paying you money to borrow your property for whatever the reason may be. Whether it's a vacation rental, whether it's their home or they want to rent storage space from you right whatever the case.

If they are paying you to use the space and your property or to use your property anyway, you will receive cash flow so long as your expenses are less than what you're receiving each month okay and that is important to understand and you want to make sure that if you're projecting out all right that investment is not going to go sour over time. You want to make sure that your positive cash flow will stay positive throughout the years you're looking to hold this property. That makes sense? Okay so that is cash flow, that's appreciation.

All right since we mentioned depreciation let's briefly talk about depreciation okay. You might have heard this term before and this term is used primarily when you're talking about taxes. Which is a great great topic for another date. We will deep dive all about real estate taxes and how taxes are where you make most of your money in real estate. It’s not really about the money that you have coming in and cash flow. It’s about the money that you're saving in taxes over time and I promise you when we cross that bridge, we are going to blow your mind with just the entire world of real estate tax. It’s crazy okay. So just bear with me there.

But for depreciation the important thing to understand is that your property, your asset will depreciate, it will lose value over time and the government will pay you money to recoup the money that you're losing with your asset wearing down over time all right. This happens with other businesses. When you invest in a tool or an item right, the government will give you depreciation based off a certain year and so they will say okay your asset will depreciate this much over time over these many years.

So every year we will give you this much money back to cover the loss, that percentage of loss of your asset for the year. hope that makes sense and I hope that is giving you a little bit of a spark on why real estate is so so amazing.

Depreciation is one of the best benefits that you can get right. But you have to make sure that you're investing right and you have to have your rental properties in some kind of corporation or an LLC, S crop, C Corp, something right. Because you will not get this tax benefit if you have it in your name. You cannot have the property in your name guys super important. But like I said this is just scratching the surface. We’re going to deep dive taxes at a later date. Oh man trust me you're going to be blown away all right. 

So let's talk about how you have ownership of a property okay. When you have what's called title to a property right, that property is in your name. Just like title to your car okay. If you have the title in hand to your car you have ownership of that car right. You may still have a loan on the vehicle you know through whatever kind of company. But if you have title like that ownership is yours. Just like a house now you have title for that car, I'm sorry for that home. You have ownership in the home right and you may receive the title you know before the loan. You may receive it after the loan right. There may be certain stipulations regarding the agreement that you have with whoever your lender is.

But if title is in your name or in your entity's name, your business name; that property is yours or you have rights to that property shall I say. I think that's the better way to say and there are a lot of issues I guess is the best way to say it right. There are a lot of issues that come up when you have properties that you're trying to purchase that might have been passed down in multiple lines and generations of families. Because you always want to make sure that you get title insurance so that way a title company can go back and they can research all the different times that the property that you're going to buy was handed from one person to the next. because just like I mentioned the issues that come up with family, somebody can come out of nowhere and say oh I have claim to this property it should not be getting sold you know and everything can come to a halt and then there has to be this huge investigation and then you know if by any chance this person has any percentage of claim to this property, it immediately would stop your sale.

Because if they have claim over the property and they don't want to sell it to you. they have legal say right and there are some huge huge court cases that go down about dealing with family that either you know as little claim no claim or whatever right and all of a sudden you know they want to speak up about it, but they haven't done anything with the property and this one is trying to sell it or this one's trying to keep it and all this just drama right that goes around land and property that's given to multiple family members, it's hard guys. It is very hard okay and this is why I always recommend to people don't hand property over to like ten or twelve different family members. I wouldn't even hand property down to two or three family members. I would put the property in a trust okay and that aside a caretaker one caretaker to that property. You know so that way there's no huge you know issue or huge family drama that goes on around it.

But anyway I'm kind of digressing and we'll talk more about trusts in the later time. but you know it's a whole lot easier than letting you know three or four or however many people fight over what happens is property and then of course it's not just them right. Cause then if they get married, it's this person's husband or this person's wife and they can get all really really, it can get really confusing you know and it makes it difficult for business. So definitely something you want to make sure. but if you are on the other end of this, you want to make sure that there's what's called clear title to the property and clear title meaning that the ownership of this property is transparent. You are actually buying the property from the seller and the seller actually has claimed and they're the only ones that have claim to this property and to sell it to you okay. So that is definitely something that you want to make sure that you hammer down before you purchase any property okay. You want to make sure that its clear title okay.

The last one I want to talk about is probably one of the most important things that you can talk about when it comes to property and this goes back to what we were saying about cash flow. Before you invest in any property you want to make sure that you are getting what's called a good ROI. Okay ROI or return on investment, return on investment is one of the most important things that you can assess about a property before you purchase. If it does not have a good return on investment, then do not waste your time. okay if you know you're only going to be getting about maybe 1% is that really going to be enough for you to you know manage and maintain over time? Understand inflation, understand maintenance right, and understand vacancy.

All right all these things that go into a property, taxes right you name it. all these expenses that you're going to have to bear if you're only making one percent return on investment even after all those expenses, it may not be a good investment for you. I mean think about inflation. Inflation is about an average maybe two or three percent each year. So you're losing money. If you aren't getting something over three percent return on investment, you're losing money over time.

So what really is the purpose of buying that home? You see what I mean. So return on investment very much something you need to understand and how you calculate it right is the amount of money that you put into the deal right, you keep that figure in mind. Whether it's a down payment. a down payment plus closing costs or a down payment plus closing cost plus you know maintenance or rehab costs or anything that you have to put, any of your money that you put down right you want to divide that from the amount of money that you are getting per year minus all the expenses that you have to pay. So if you have a gross income right minus your operating income to give you your net income, right you’re net. So your net income per year divided by the amount of money that you spent on that investment, your own money. That is going to be your return on investment okay. So keep that in mind and if your return is not you know at least decent right don't waste your time on that investment. now I'm not saying you have to jump to the moon and get yourself a 25% or 30% return on investment you know and you're not going to invest unless you find that and don't. you'll he will surge through thousands and thousands of properties and you may only come up with like 10 or 20 if you're lucky right.

Which could be great if you're willing to put in that kind of work and that effort and you have that much time to spare looking at thousands of properties. But again right you know you can also knock it out the park by getting a few above ten right or maybe if you're around ten you know and over time you eventually compound that money that you're making and you're good to go. All right so don't wait you know five years just for you to find the perfect property. It’s going to give you the you know the Grand Slam of return on investment, no all right. You want to invest in something that's good that's going to make you money that you'll feel comfortable investing in all right and that return on investment has to be something comfortable. Now another thing and this is the last thing I'll say about return on investment. It is seriously the most important thing guys all right.

One of my mentors told me that you should never fall in love with the property. You fall in love with their return on investment and here's what I mean by that okay. you look at a property, you look on Zillow and the first thing that you see is maybe all the nice touches that they've put right, all the nice finishes whether it's you know marble counters or I don't know you know like the crazy fireplaces you know the pillars or like all these awesome back splashes and these amazing little things. Okay if you are owning a rental property, you should not be concerned about how many awesome ornate things you can furnish in that home. Because that's all money that you have to spend.

That’s extra money that you have to spend on a property that someone is just going to sleep in and then get up the next day and go to work. I mean I get it yes you want to make sure that the property is nice, you want to make sure the property is well taken care of, well maintained yes absolutely. You do not have to spend thousands and thousands of dollars in making sure that someone has a nice, clean, functional and affordable home. If you want to put you know something nice in there, sure put something nice in there. you know maybe put four mica countertops right where those aren't look nice but they're not nearly as expensive as granite and they're not nearly as expensive it's like quartz or marble or something crazy like that right. I mean if you're going to flip a home yeah that makes a little more sense you put some nicer you know decorations in. because someone usually wants to buy a flip you know that's more permanent. They want to have all that nice stuff because that's their home, they're going to buy it and they're going to live in it. But for a rental you kidding me right I mean with how many times people beat up rentals, cause they know they don't own the property, there's no reason to put in all the fancy you know finishes and all that stuff right.

So just be smart and focus on your return on investment. How many nice you know like nice right decent touches, not anything crazy but decent touches like fresh paint, a new carpet. Alright you know something like that. Maybe a painted cabinet, okay something like that. Nothing crazy but you know how many nice things can I do to make the property look nice and still maximize my return on investment. That is what you should be focusing on okay. So again like I said that's the last thing I'll say on that and those are my ten real estate jargon topics I want to talk about today. There will be more. Trust me I'm looking at a giant list of them here. So instead of boring you with an hour-long podcast of going over all this jargon, I'm going to split it up into bite-sized portions. That way you can you know understand a little bit by little bit and we can move together. 

Okay but I hope you were able to get something out of this. For those you who are a little more advanced I'm sure you probably long since tuned me out by now. But for those who are getting started hopefully you're taking some notes okay. there's some good stuff to be learned out there when it comes to you know getting in the weeds and real estate and talking to people and practicing you know these different thoughts or concepts and the more you understand about what they're saying, the more you know the easier I guess right it'll be for you to pick up on what's going on and to have a little more fun okay. all right all right guys that's going to do it, thank you so much for listening today or tonight rather. We are burning the midnight oil here. But I really really appreciate you guys time. Hope you guys got something out of this real estate jargon episode.

We got more to come and there's plenty more going on here at ADPI for you guys to get in tune with. We just reimaged our start at the spark Club. Definitely want to be a member of that if you haven't joined already. Make sure you check out our website www.activedutypassiveincome.com. Our Facebook or Instagram. Reach out to us. We got a lot exciting stuff. Hey if you are in the Hamptons roads area, it is not too late to sign up for the meet up going on Wednesday at 7.30 in town center. It’s going to be great. Makes you check out a Facebook to check that out. We also have our eBook coming up. It’s going to be great. Make sure you get a part of that. All right guys I'm out of time, I'll catch you later. Mike out.

Close

50% Complete

What's the best email for your FREE copy of the Military House Hacking eBook?