Investment Property
Buying Your Second Investment Property
By
Jan 4, 2006, 11:53

It takes about a year to get a feeling for what a property can really do for you, whether it will show any short-term appreciation or income, even to tell how long you're going to have a negative cash flow. After a period of five years, you should be able to take your first property, refinance it, and buy something else. Often, when you're in a good market, you can do it in less time.

You have to get it out of your head that your property value will double in two years. You have to view it with a long range perspective and forget about what it's worth today. You should be interested in what it's going to be worth 15 years from now. For some people it's better to become passive about investment property, let someone else manage it, and then come back to it in I0 years when you can see actual appreciation. I have some friends who buy investment property, hire a property manager, and then walk away. When they return, they invariably find that their purchase was worth their while.

A duplex is an ideal second investment because one vacancy can't eat up 100 percent of your monthly return. Usually, you can get more rent from two units than you can from a single family residence of comparable value. As your family grows and your needs change, a duplex might also serve a personal need for you.

I would rather buy a four-unit because the risk is divided four ways instead of two. A vacancy in a four-unit isn't nearly as hard on you as a vacancy in a duplex or a single family residence. Plus, if you raise the rents, you're raising them in all four units so your income increases faster. The ideal situation is to charge reasonably low rents in an exceptionally good location. 

My smallest unit rents for $475 a month. How long do you think it takes to find a tenant? About a minute. After paying off a four-unit apartment building I purchased,I decided a few years ago to sell it for $I million and make a tax-deferred exchange, a transaction in which a property is traded for the promise to provide a replacement of like-kind property or properties in the near future with tax on the gain deferred. With the profit I received from the sale, I was able to trade my one property for three houses and a condominium.

The above example demonstrates how accumulated equity can be used to pyramid and expand your original investment. Years before I sold that apartment building, I had refinanced it for $360,000. With that money, I placed a $40,000 down payment on a $I 75,000 house that is worth over $500,000 today. From that one four-unit building, which I originally bought for $45,000, I was able to acquire five different income-producing, tax-sheltering properties, which may in turn yield several more. Now that's a pyramid worth climbing.

With real estate, you have the opportunity to use your imagination and ability like no other investment. About four years ago, I had a corner lot with four garages on it. I decided to tear that structure down and either sell the land or build something else. I wanted $150,000 for the lot, but nobody would take it. So I came up with an even better idea: to find somebody who was willing to build two condominiums on it at no cost to me.

With a little bit of effort, I found a contractor who was willing to build the two condos. To find a builder, I put an ad in the paper, talked to people at the local building supplies stores, and put a sign on the lot. Eventually, a guy called me. The arrangement
I made with him was to give him one of the units with all the mortgages on it, and I would take the other unit free and clear for giving him the parcel of the land. I told the guy before we started that I wanted the deal to be a complete success. I wanted him to make as much money as possible. There was enough for both of us, I said-- if he made a million dollars from the thing, I would be thrilled. The one option I reserved was the right to pick which unit I wanted when both were built.

It worked out great for both of us. He built his condo and sold it soon after completion for $350,000. Then he got in with some other guy on a similar deal and lost his shirt because the guy didn't treat him like I did. In my arrangement, I didn't pay for anything, but I held on to my place. It's got four bedrooms, three-and-one-half baths, and a sun deck where you can see from Catalina to Malibu. I figure it's now worth about $550,000, and I can rent it for $3,000 a month.