Make the Most of Your Real Estate

Welcome back to our American IRA Self-Directed IRA Series – today we’ll be covering the profitable buy and hold real estate strategy. So without further ado, let’s get started!

I’ll start with a helpful reminder: like the fix and flip strategy, keep in mind that any income derived from the ownership of the real estate asset’s rental will actually flow back into the retirement account. For the sake of simplicity, we’ll use the same numbers as the fix and flip deal – $50,000 to purchase, $15,000 for rehab, and $1,500 in holding costs. We’ve put $66,500 into the property at this point.

Instead of trying to sell the property, this time we’ll hold onto it for a source of residual cash flow. Why might you decide to go down this road? Perhaps residual income was indeed your Plan A. Otherwise, the market may have gone south and you absolutely have to hold onto a property because for whatever reason there’s no equity after six months. That’s a worst-case scenario. Regardless, all the income and expenses are paid from the retirement account. This is a net operating income.

The following formula is probably the most important calculation to apply to a long-term buy and hold:

Assume the gross rent for the property is $900 a month. We’re then going to take out a 10% vacancy. In this case, that’s $90 a month, so that gives us a gross adjusted income of $810 a month. Even though we don’t pay this monthly, we’re factoring in a yearly amount and then chopping it up to get a monthly figure for taxes and insurance. We’re also adding a 10% management fee in there; sometimes you can get it for 8%, and sometimes it’s 12%. Then there’s a maintenance reserve of $100 a month.

You have to remember to put money aside for maintenance – for when you need to install a new HVAC, replace the carpet, or whatever the case may be. Based on personal experience, $100 is a reasonable figure to put aside for this purpose each month. So the total expenses are just over $300 a month, and the net operating income is $504 each month after factoring out all the possible expenses.

Keep in mind that this is a cash deal, so we don’t have any sort of debt associated with the property. This equates to a pure net operating income of $500 a month. If you annualize these numbers, that’s $500 times 12 months in the year, and that gives us an income of just over $6,000 per year on an asset that we’re into for $66,500. This is a pretty reasonable and conservative number; if we factor out what we make on the property each year based on what we have in the deal, that’s a 9% rate of return. It’s not a homerun, but it’s nothing to be ashamed of.

Of course, this is only scratching the surface of the deals out there that return 40%, which we’d be glad to discuss with you on a personal basis. Regardless, this run of the mill deal is something that many individuals can do; you don’t even have to be hands-on if you hire property managers (which we factored in above). All in all, this buy and hold arrangement would offer a pretty passive 9% cash flow.

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