Thursday, August 1, 2013

33 Guidelines for investing in real estate..................

Guideline #16:  Budget for taxes, income that is.

We do not believe in "investing" in things that are designed to lose money. Current tax law has removed most of the "tax shelter" benefits of property ownership.  Profitable investments tend to create an income tax obligation.  Prepare for it.

One of our youthful mistakes in investing was to believe that all the mortgages on our investments should be paid off within ten years.  It is important for you to know that we typically put as little as possible cash into a deal, financing as much as possible.  This was not some grand strategy.  It was just a reflection of the fact that we did not have a lot of cash to invest.  Most of our early investments were rehab projects.  Back in the mid-1980's, we found a niche that had been mostly ignored; buying, fixing, and leasing older properties in the smaller "county seat" cities around Ohio.  Ignored niches are typically cheap and often offer significantly good returns on investment.

Anyway, back to the guideline.  We financed several of these early deals with ten year fully amortizing loans, trying to pay the debt off as soon as possible.  We forgot, or more accurately did not realize, that principle reduction gets accomplished with taxable income.  We put all of our cash flow into reducing the debt, then had to borrow money in April to pay the income tax obligation that the investment created.

After a few year of that nonsense, we changed our plan and refinanced to lengthen the mortgage amortization periods.  This way we retain more of the cash flow within the project and, come tax time, are able to write ourselves checks to cover the demands of Uncle Sam.

One of my early teachers, Jim Rohn, stressed that paying taxes was something we should joyfully do; taxes being the price of tending to the "goose that lays the golden eggs."  I'm not sure we have every reached Rohn's joyful state, but it is a comfort to know that there is money in the checkbook to cover the taxes owed.

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