5 Mindset Myths That Are Killing Your Wealth Potential | PREI 067
Today, we’re going to talk about five of the most common myths, mindset myths that are holding us back. You might not even realize that you believe certain things or are not doing what you should be doing because of this deeply ingrained, indoctrinated belief system that we have.
On today’s episode we want to talk about some myths that are holding you back and killing your wealth potential.
If you missed our last episode, be sure to listen to How to Choose the Best Market for Your Real Estate Investment.
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5 Mindset Myths That Are Killing Your Wealth Potential
Welcome to Passive Real Estate Investing. I’m your host, Marco Santarelli. This is the first episode here in 2017. I want to thank each and every one of you for being a great loyal subscriber and listener to the show. You are what makes the show possible. I want to thank you for enjoying the show and all the positive comments and feedback and the great reviews, all those great five star reviews on iTunes. I truly appreciate that and feel very humbled by that. Now, we’re in 2017 and I look forward to what this year will bring. We’ve had a phenomenal year last year, 2016. Again, all thanks to you. I am looking forward to what 2017 has to bring. I think it’s going to be tremendous.
Given that, I want to bring on, on this episode, a friend of mine who I’ve had on the show earlier on. I think about a year ago. We want to talk about 5 mindset myths that are holding you back and killing your wealth potential. A lot of these have to do with mindset but it’s just unbelievable how indoctrinated we are from the mainstream media and from our environment. Basically, our upbringing. That all starts with our parents and our home and what we are told. For example, cut cost, don’t waste money. Save your money, a penny saved is a penny earned. All these kinds of things that we have been brought up to believe that are really just holding back our ability to get out of the rat race.
Today, we’re going to talk about five of the most common myths, mindset myths that are holding us back. You might not even realize that you believe certain things or are not doing what you should be doing because of this deeply ingrained, indoctrinated belief system that we have. Sometimes, that even has to do with the language we use, our own words, our choice of words are self-talk. Some people refer to these as affirmations or limiting beliefs. If you look at the choice words, it really dictates what you’re going to do and where you’re going to go.
Listen to the following phrases here. I’m going to tie the chance of success by using the following words. If you say, “I won’t,” what is your chance of success? It’s 0%. What if you say, “I can’t,” then your chance of success is about 10%. If you say, “I don’t know how.” Your chances are better because you could find out how, but your chance of success is about 20%. What if you said, “I wish I could,” now, your chance of success is about 30%. If you say, “I want to,” your chance of success is 40%. If you say, “I think I might,” then your chance of success is 50%.
What if you said, “I might.” That’s pretty good. Your chance of success if 60%. If you say, “I think I can,” your chance of success is 70%. When you say, “I can,” your chance of success is 80%. If you say, “I am,” then your chance of success is a full 90%. When you say, “I did,” your chance of success is and was 100%. Whether it’s psychological or spiritual or whatever it may be, whatever you believe will lead to your ability to achieve.
You have to think about what you think about and you need to start using the language of those people who are successful and are higher achievers and are rich or wealthy. Because if you start to talk like they do, think like they do, use the same language and lingo and verbiage that they do, there’s a shift in your mental thinking. Today, we’re going to talk about some of these myths and mindset limitations. We’ll get to that in about 30 seconds here with my friend Keith Weinhold.
Here’s an infographic to sum things up (click to enlarge). Check this out, then read the full transcript below.
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It’s my pleasure to welcome back Keith Weinhold. Keith is the founder of Get Rich Education and is a popular podcaster. He’s an active real estate investor and has been active since 2002. He’s a business owner and a contributing writer to the Rich Dad Advisors blog. He happens to also be a good friend of mine. Keith, welcome back to the show.
Marco, thank you for having me.
Awesome for you to be back. I think we had you on about a year ago. The content was great, the feedback about your episode was fantastic. I thought it would be good to bring you back on to talk about some mindset myths. What do you think of that?
That’s great. It all starts in the mind. We sure can do that and then just chat a little bit about how you can make that mindset actionable.
Today, let’s talk about your five mindset myths that you say are killing people’s wealth potential. Before we slide into that, because I’m pretty excited to talk about it, let’s just give our listeners a quick recap of who you are and how you got involved in real estate investing. I know we covered that in greater detail way back when, but I’d like to have our new listeners know who you are.
Sure. I was born and raised in Pennsylvania, not of entrepreneurial or real estate parents at all. I moved to a place I always wanted to live, Anchorage, Alaska. When it was time for me to buy my first home back in 2002, rather than buying a single family home, I bought a fourplex building where I lived in one unit and rented out the other three. By using investor principles, not just trying to be the best landlord I could be, that’s not important. By using mindset and investor principles, like leverage and arbitrage in cashflow, with very little of my own money, I grew that fourplex into apartment buildings and turnkey single family homes and a substantial portfolio, both nationally and internationally.
That’s great. Some people refer to that as house hacking, where you buy a property, live in part of it, have your tenants pay the mortgage for you so you’re effectively living rent free and you build wealth over time because the assumption is that property will continue to appreciate. That’s a great way to start. I think a lot of investors start that way. Keith, let me get into the mindset myths here. Let’s begin by asking the question, why are we even talking about mindset myths?
That’s a great question. It sounds obvious, but people really have a choice in the way that they live. So why not live a rich life? Don’t just be rich but live a rich life. Marco, I think sometimes critics of those that want to financially do better and make that important thing in their life, they say something like, “I’d rather be happy than rich.” I would say, why not be both? Most people, when they graduate high school or trade school or college, when someone gets out and goes on their own, they never really embark and say, “I want to get out there and I want to live a small life.”
You know what, that’s exactly what everybody goes and does. They live a small life. They meet a potential spouse, they live a small life together. They have a child and they teach that child how to live a small life too. Your life has richness and texture and value. Your life is worth living. Anything worth living or doing is worth doing it with the good stuff in life. The same way, if you buy a McMansion, you fill it with good stuff. You don’t fill a McMansion with a bunch of cheap camping furniture. If you buy an E class Mercedes sedan, which I happen to own, you don’t put a whole bunch of stupid bumper stickers on it. If you want to take a vacation or a cruise to an exotic place, you don’t eat Twizzlers. In the same way, you don’t fill life, something that’s worth having, with a bunch of small thoughts and small actions. Really, the road to financial betterment in realizing that you have a problem in creating wealth, really the first step in any problem is recognizing that there is one.
I think this is a good point, Keith. I don’t mean to cut you off. Here we are, early in 2017, a lot of people talk about these New Year’s resolutions. This is the time when I think most people start to look at where they are, where they’ve been and where they want to go. Often, that’s a wish, not really a goal. Everybody has a desire or wish or they envy someone else for their success but they don’t actually map out a plan. I personally believe that people are a product of their environment when they grow up, especially their parents. But that just sets the seeds and lays the foundation of who you are when you grow up and as you become an adult and you mature in life.
There’s certain people who realize that there’s so much more that they can do. They have greater potential. A lot of that starts with education, particularly financial education. That’s a lot of what you talk about on your blog and your podcast and what we talk about with our clients in our podcast. I think what we’re talking about today is the beginning of how can we affect change. If you’ve got these myths that you’ve been believing and following for your entire life, how do you go about changing or tweaking how you think and your mindset so you can now put yourself on a new financial path where you can expand your means, increase your income, not live in a scarcity mentality. I know everything I’m saying is just a big mouthful. Ultimately, I think that’s what we’re both talking about all the time, is it not?
Yeah, it’s what we’re both talking about. Really what this is, these five myths here that are just killing your wealth potential, it’s about what psychologists call cognitive dissonance. Cognitive dissonance is that gap between what you think you know and believe to be true and what you don’t know but really is true. Cognitive dissonance is bridging that gap between what you believe is true and what really is true. That’s so true with mindset myths. Even for an adult, there’s a wide canyon in that cognitive dissonance because, you touched on it Marco, we receive a lot of our financial education from our parents who weren’t formally financially educated. We didn’t learn that in school because we still don’t get formally financially educated. That’s why this cognitive dissonance, this big gap, lasts well into adulthood because people never learn the right way or the abundant mindset way in the first place. So they continue to live scarce and they continue to live that small life.
That answers my question, why we’re even talking about these mindset myths. Clearly, it’s to better ourselves and put us on the right path and understand where we came from so we know how we got to where we are. Now, we can look at where we need to go. With that, let’s start talking about your five mindset myths here. This is what I don’t completely understand. I’m going to have to listen intently to what you say because I’m not sure I get this one. You talk about get your money to work for you. Can you explain that please?
It is a myth that if you think yourself as an investor, you’re going to achieve great success by only getting your money to work for you in a passive way. You’re never going to achieve wealth if you get your money to work for you. Most people think, “I don’t just want to work for money, I want to make my money work for me.” That’s really smart, is that’s what they think. If your best and highest investing dollars only getting your own money to passively work for you, you’re never going to achieve wealth. You need to get other people’s money to ethically work for you. It’s other people’s money. It’s that leverage. Some person might say, “Wait, first of all, I don’t even want to know how I would get other people’s money to work for me. Is that even ethical?” I contend, yes, it’s highly ethical with something like what you and I always talk about Marco, with passive real estate investing.
For me, my personal mission is to bring housing that’s clean, safe, affordable and functional. If I do that for a tenant, I can feel like I’m serving society and providing something that’s ethical. How do I get other people’s money to work for me? Three ways at the same time. With passive real estate, you can actually get other people’s money to work for you three ways at the same time. Someone might do it that purchases a property through you Marco, through Norada Real Estate when they put a $20,000 down payment on a $100,000 turnkey property. The first way they got other people’s money to work for them is they use an $80,000 loan from the bank as leverage. The second way is they got income in monthly cashflow from the tenant. That’s other people’s money, a piece of their labor just worked for us, provide income for us.
Then the third way we get other people’s money to work for us is the government gives us very generous tax incentives. Number one is the mortgage interest deduction. It’s the same deduction that we typically get on our own home but you can get that with skill when you buy income property. The second way the government goes and pays us is through something called tax depreciation. The short story on that is we don’t even have to pay tax on all of our rent income. With income property, we’re using other people’s money three ways the same time. The banks, the tenants and the government, and we’re serving in an ethical way.
This is really more about getting other people’s money working for you, not just your own money. Really, that’s the crux of it.
That’s the crux of it. Most people think they’re going to acquire wealth if they just passively get their money work for them, like in a mutual fund or a stock or a bond or a 401k. If you do that, you might, just might have an okay retirement by the time you’re 65. As far as creating wealth, forget it. Just getting your own money to work for you passively, not going to do it. It’s other people’s money.
That’s powerful. Rich Dad wrote a book specifically about that, called OPM, Other People’s Money. The concept has been around for a long, long time. There’s a lot of power there because it’s not a zero sum game or a win-lose scenario. When you’re using other people’s money, the only way that they’re going to lend you any of their money is if there’s something in it for them. It could be interest income, it could be an equity participation on a syndication deal. When you have a win-win scenario, everybody wins. The fact that you can recognize, the fact that you can use other people’s money to leverage the wealth creation and the speed at which that happens for yourself is a very, very powerful thing. It cannot be underscored enough.
You don’t even need an original idea or anything to use other people’s money. It’s not like you need to come up with a new app or have some new idea that turns turbid water into clean drinking water or anything like that. You can follow a formula where so many other people have invested in real estate. There’s just such a tried and true system for it. It’s the most proven investment deal that is out there. I think everyone can understand the model too, that another person will pay you to live in a property that you own. You really don’t even need an original idea either in employing other people’s money ethically.
I agree. Obviously, income producing real estate is my favorite asset class. You laid that out very well with mortgage loans, the income from the property, the tax benefits and all that stuff. I don’t know if you know that I have a lending program that we have made available to investors. It’s essentially like a hard money loan. We’re borrowing funds from investors, paying them handsomely. It’s typically 15% simple interest on their funds. It’s a short term loan secured by real estate. They’re very happy about that. Yes, we’re paying them 15% calculated daily. They’re very happy, but guess what? Here’s where we get OPM, other people’s money working for us.
We’re using those funds to acquire distressed real estate, fix it up, make it a productive income producing asset and then we have investors who are building their portfolios, buying those same properties. It works great for them. Everybody walks away a winner, everybody’s happy, everybody got what they want. How did that happen? We had to borrow OPM, other people’s money. I love that. I think people need to understand that money is widely available and money actually will chase good deals and good opportunities. You just need to be able to open your eyes and see those opportunities and take advantage of it. Would you agree with that, Keith?
Yeah, it’s a world of opportunity. You hit on it, abundance. Wealthy people see money as an abundant resource and poor people see money as a scarce resource. You threw out a rate of return out there in the example you gave. I’ll give an example with using other people’s money and what does that really transfer into to you for numbers in a rate of return. Someone buys a property through Norada or a turnkey provider, puts $20,000 down on a $100,000 property. That $100,000 property appreciates to $106,000 if you just take real estate’s historic appreciation rate of 6%. That’s a $6,000 gain.
I just told you, you only put a $20,000 down payment on the property. Your $6,000 gain divided by your 20k skin in the game, that’s a 30% return right there off the bat before we even consider the other ways that you paid with real estate investing. How did you get a 30% rate of return? That’s because you got the 6% gain on the entire $100,000 property, both your $20,000 down payment and you got the return, the 6%, off the $80,000 borrowed from the bank. That money goes to you as the investor, not the bank. That right there is exactly how you made other people’s money work for you to get a fantastic return and be a real wealth creator and not just a hope for an okay retirement.
Great example. That’s a great example. The second myth you have here is be debt free. Explain the myth of being debt free.
Most people think that they want to be debt free. That is a mindset myth. I’m telling you, if you’re striving to be debt free, you’re never going to create wealth except maybe in a rare instance. Again, you got some great idea or you’re the next Facebook or something fantastic like that. You’d rather be financially free, not debt free. Let’s just define what that means. If you’re debt free, that simply means that you don’t owe anybody anything. If you’re financially free, you can do what you want to do when you want to do it because you have passive income. Income that you do not have to work for that meets or exceeds all of or living expenses. That’s financial freedom. That’s powerful. No one got wealthy just by retiring their debt.
Marco, I think people have a stigma with debt. People usually have some negative association with debt because most of their experience has been when they’re trapped underneath debt. When they have 18% APR credit card bills or when they have that next car payment and they don’t know whether they’re going to be able to make it or not and they have to go work for the money to make that car payment. They associate debt with something that’s burdening them or weighing them down. When you have debt tied up in this long term, fixed interest rate cashflowing property, you have the ability to outsource every bit of that debt payment to tenants.
Before I even go purchase a property, I make sure that property’s income is going to exceed all the expenses comfortably, including that mortgage debt. We have the tenant paying down the mortgage for me while I get a stream of income, which is that difference, income minus the debt. With what’s left over, that’s my monthly cashflow. It’s because debt, just like with the $80,000 bank loan with the $20,000 down example I just gave, it’s debt that created both that great rate of return and that income stream. Someone pays it down for me, even though that is debt that shows on my balance sheet. It’s conservatively outsourced.
Debt gives you the ability to magnify or leverage your return. Purchasing a piece of real estate with 100% cash might only give you a 6%, 7%, 8% rate of return, that’s your cap rate, which also happens to be your cash on cash return because you have zero leverage. You said it best, when you can leverage it, you outsource that debt obligation to your tenants. You’re still responsible for it, but your tenants are effectively paying for it because their monthly rent covers all your expenses and your debt service. What’s left over we call, cash flow. That’s the beautiful thing about income producing real estate.
Keith, I really like your saying. You have this quote I like, it’s, “Debt free is lame. Financially free is life changing.” That’s absolutely true. I’m going to make another comment here. If people are off the rails with being burdened or underwater with debt, if it’s so bad, maybe you need to get some counseling or advice or maybe listen to Dave Ramsey. I have nothing against Dave Ramsey. But really, that’s how you get out of that groove or that trap where you’re just stuck in being overburdened with debt. The fact is, and I think the point being made here is that in order to create real wealth and create it in a timeline where you can actually take advantage of it and benefit from it within your lifetime, is you have to have debt to leverage that wealth creation. True?
Yeah, you absolutely do. In fact, I’m such a believer in it that you know what Marco, right now, I could have my wife and I’s home completely paid off if I wanted to. I have a $410,000 mortgage balance on our home. I could pay off that 410 if I wanted to and be debt free. What would happen if I did that, in order for me to come up with that $410,000, I’d have to go out and sell income property. If I sold enough income property to go ahead and retire the loan on my home, I would lose the income. In fact, the income that I would lose from those apartment buildings would be greater than the mortgage payment that I have on my home.
I couldn’t possibly afford to want to be debt free. It’s actually one of the most reckless things I can think of to try to be debt free. Besides going off and selling those apartment buildings to pay off my home, I would also lose the monthly principal pay down that those tenants are making on the properties, I would lose that income stream. The value of my overall portfolio would also be less. I would just own properties which typically appreciate overtime. There’s just so many reasons why I would rather be financially free than debt free. I want to create that income stream. Basically my home is paid off on paper, if you would want to say that, but it’s not paid off in reality because it would be an irresponsible thing to do in fact.
That’s a great example because essentially what you’re saying is you can zero out your debt obligations on your balance sheet because you have the cash as an asset and you have the mortgage on your principal residence as a liability and they zero each other out. Guess what? Your balance sheet doesn’t create cash flow. If you take those cash reserves you have on your asset column on your balance sheet and you move those over into income producing assets such as rental real estate, guess what, you’ve multiplied your monthly income. You’ve increased your annual income. Now, you are in that place where you want to be, which is financial freedom. I think that’s a great example.
That’s right. I also have debt on those other buildings. I’m quite far away from being debt free. I have millions of dollars in debt and I wouldn’t want to have it any other way. Because when I take a step towards being debt free, I take a step away from being financially free every time. I think those that think debt free is a great thing, they tend to be those people that are least financially educated and they just don’t think about passive cashflow.
Makes me think of a quick story here. I was on a trip with one of the other dads in my daughter’s YMCA group. They call it Adventure Guides. It used to be Indian Princes. We were on this boat ride to Catalina Island and he turned to me. We got into a financial conversation, I don’t know how we did that. He said, “How do I make a million dollars?” I turned to him very quickly and I said, “Borrow a million dollars.” I don’t think he got it right away. I had to explain it to him.
I said, “Look, if you go into debt for a million dollars, what do you have for it? If you do it right, you have a million dollars’ worth of assets. What if those assets are income producing single family homes or duplexes or fourplexes? Now, you’ve got those assets that are being paid off. Over time, that million dollar debt becomes million dollars’ worth of equity. That’s not including any potential appreciation that happens over time plus the cash flows you get from it.” Once you stop to explain that story and people stop to think about it, they realize, “You know what, I need that million dollars. I need to borrow it to get that million dollar property. Now, I have a million dollar property and it’s getting paid off and the equity grows. In 10, 20 years, whatever it is, I’d become a millionaire or a deca-millionaire.”
That’s right. It really is counterintuitive. When you presented it to that person that way, it really made them pause and think. It does take a little bit of thinking. We haven’t even brought up the other great attribute of smart low interest rate debt Marco, is that when someone does have for example $1 million in debt, besides the tenants just paying that balance off for us every month, inflation erodes the weight of that debt. Just like you wouldn’t want to put $1 million in a bank account and keep it there for decades because inflation erodes the purchasing power of that, inflation erodes the weight of our debt in the same way. $1 million borrowed today is going to be much easier to pay back over the decades because with inflation, there are just going to be so many dollars circulated in an economy. Salaries will be higher, wages will be higher. The price of everything will be higher. That million dollar burden of debt over 30 years with just a 3% interest rate, that only has the weight of $306,000. Inflation lightens our debt burden all the while.
Inflation is your friend when you are a debtor. It just erodes it away. That is almost a phantom rate of return that I think people don’t even measure or see because they just don’t realize that it’s happening. Very good point.
That’s right. It is like the phantom. It’s so slow and it’s so quiet and it’s just never that news worthy, but it’s helping out debtors all the time, just like inflation burdens savers.
Well said, Keith. Your third myth here is compound interest is a wealth creator. Why is that a myth?
Compound interest is not a great wealth creator. The first of the five myths was you think you want to get your money to work for you, and that’s not enough. The second is you think you want to be debt free, and that’s not enough. The third is you think compound interest is a wealth creator. Hopefully at this time, we’re helping to bridge your cognitive dissonance here a little bit. I know that this can be a little bit incredulous. For a beginner, this is a lot to take in the first time. You really need to start thinking differently. If you think like everyone else does, you’re only going to get what everyone else has. With compound interest creating wealth, that’s probably something that your financial advisor is telling you. If you only have compound interest, you’re never going to create wealth. You need other people’s money. You need leverage.
It was actually Albert Einstein, I don’t know whether he really said it or not, but he is credited with famously positing that compound interest is the 8th wonder of the world. I don’t know if Einstein ever knew about financial leverage. I think the greatest and maybe the most simple example of compound interest is a penny doubled for 30 days ends up being several million dollars. If you take a penny and double it so that on day two it’s four cents and on day three it’s eight cents and so on. Ends up being several million.
Yeah, but where do you get a 100% rate of return? You don’t really get that anywhere at all. In fact, with the rates of return from what most people invest in when they have all of their skin in the game, they’re not borrowing from anyone else, those are vehicles like stocks, bonds and mutual funds. The SMP 500 might average 10% as a rate of return over time. But in reality, you don’t really get 10%. After you adjust your 10% return for inflation, for taxes and for fees, your rate of return is really significantly lower such that compound interest alone, it just isn’t going to make you wealthy over time. I think a lot of financial advisors like to say things, they try to impress people by showing them the long term return of the Dow Jones or the SMP 500.
Your financial advisor likes to show you a lot of charts but they never adjust the chart for what the diminished purchasing power of that dollar is with inflation and taxes and fees. I think another thing financial advisors try to tell people is that if you set yourself on this course, with compound interest you’re guaranteed to be a millionaire. A millionaire. I’m sorry, a millionaire is no longer wealthy, Marco. That’s a myth just within this compound interest within itself. A millionaire, it doesn’t mean your income is a million dollars a year. It just means your net worth, which is the value of your assets minus all your liabilities, is $1 million or greater.
We just said, for a millennia with 40 years of retirement, just the 3% inflation rate, a million dollars is only $306,000. A million just isn’t that much. One needs to think bigger. One needs leverage. They need to get other people’s money working for them. Leverage, not just compound interest. A million grains of salt will fit in a one gallon jug. A million minutes, that’s only 1.9 years. A million is just a thousand times a thousand. That’s all it is. There’s really nothing magical about it. I think there’s this mystique or this special connotation with being a millionaire. Already, one out of every ten US homes has a millionaire living in them. In fact, a millionaire is so common that you know what the millionaire’s preferred car is? The preferred car of the millionaire is a Ford. Being a millionaire is not where you want to be. If you only have compound interest working for you, you might merely be a millionaire and that is not wealthy.
I agree. The other challenge with compound interest is that people need to consider the factors that go into calculating compound interest. You’ve got time, you have inflation, you have taxes and of course there’s the interest rate. The problem today is we live in a very low interest rate environment. It goes back to what you just said, you can’t achieve rapid growth or substantial growth without having a very, very long timeline when you’re at .5% or 1% interest rates. It just won’t happen.
Compound interest, it sounds great, it looks great, especially when you chart it in a graph and it becomes a hockey stick. The practical aspect of it is it’s not going to create wealth. The only way to do that is to borrow other people’s money like we talked about, myth number one. Be averse to the mindset of being debt free, like we talked about. Then use that capital that you have and other people’s money to acquire income producing assets that are hedged against inflation and grow in value over time. I think that summarizes the three myths that we’ve come to discuss this far.
That’s really it. Some of them are even interrelated. Really, this fourth myth out of five is somewhat interrelated with the previous three. The fourth mindset myth that’s killing your wealth is this, and this is really important. Because most people have their wealth in one of two places. Number one is either their retirement plan, or number two is in their primary residence. This fourth myth, it interfaces with your primary residence. That fourth myth is that people believe that equity has a rate of return. I’m telling you right now, home equity has a rate of return of absolutely zero. Home equity is also unsafe and home equity is also illiquid.
Let me ask the listener, how much money would you want to invest in something that’s unsafe, that’s illiquid and has a rate of return of absolutely zero and you know will always be zero? That’s exactly what home equity is. Having money stored in home equity, that’s a little bit like storing money in a bank savings account with basically zero yield but it’s actually worse because it’s less liquid. That might make one ask, how in the heck is home equity unsafe, illiquid, and how is the rate return zero? How can that be true? Let me just give an example here. Let’s say that you live in a $300,000 home. That’s the value of the property. Say the property appreciates over time and the $300,000 home appreciates up to $330,000 in value. From 300 to 330. Let me ask you this, did the presence or absence of equity in that home contribute to that rate of return?
It had nothing to do with it. The amount of equity or the lack of equity in a home has absolutely nothing to do with its rate of appreciation. The rate of appreciation of a property, that deals with external factors. Things that are outside the walls of that home. For example, a neighborhood’s and a market’s in-migration and out-migration patterns. Its job growth. The remaining availability of developable land in a market. Those are the sort of things that factor in with price appreciation. It has absolutely nothing to do with the amount of equity in a property. Equity does not contribute to appreciation at all. I just gave an example of a property that appreciates.
Let’s just say in this second example, let’s say your $300,000 property has $100,000 worth of equity in it. Before we go on, let me just define equity for those that don’t know. Equity is basically the difference between how much you own minus how much you owe. Say on your $300,000 property, you have a mortgage balance of $200,000. That means you have $100,000 in equity in the property. 300k value minus 200k on the loan is 100k of equity. In this scenario, say your $300,000 property drops down to $200,000 in value. Say we’re going through something like the mortgage meltdown and the financial crisis of 2008, 2009. If you had $100,000 of equity in that property and your property dropped in value from 300k down to 200k, that was a complete wipe out of your equity. Every dime of equity was lost because you had it all exposed to the market. You didn’t just experience a 33% loss in your equity. You experienced a 33% loss in the value of your property. You lost every bit of your equity because it was all exposed to the market.
That’s why it’s at risk. The sad thing about that is you could have taken some of that equity and moved it into income producing real estate, probably elsewhere. But the fact is, is now you’re taking that debt or dormant equity and putting it to work. You’re now turning that equity into something that will actually produce a rate of return and produce cash flow. Not only have you eliminated the risk, but you’ve created a stream of cash flow, a stream of income for yourself. That’s a big one. That’s almost like a pet peeve for me where people sit on so much equity and they believe that they have to be debt free and have it all in the form of equity. That’s just a terrible place to be. It feels good psychologically, but really you’ve just strangled yourself in terms of what you potentially could be doing or could have done.
You said it. What would happen if instead of that investor having that 100k of equity in property, that they did what you suggested, Marco? They did an equity transfer and just say they kept 50k of equity in the home and moved another 50k of equity off into another property. You know what, that’s still their equity. They didn’t lose any equity. Sometimes they think that they’ve lost equity somehow but they hadn’t. They’ve just spread it amongst two properties. That’s actually reduced their risk because you have the opportunity to buy a property in a different geographic market. Now it’s still your equity, you’ve reduced your risk and you potentially created a stream of income off this new rental property. Additionally, you now have two properties instead of one. You typically want to own more property, not less because property typically increases in value over time. You’ve hedged your risk in a few ways.
It’s a smart move, isn’t it? Especially for people in the coastal markets, i.e. California, New York, New Jersey. These really expensive markets where properties have appreciated far above their average annual rates are now sitting in a position where they just have a golden opportunity. I don’t know how long that’s going to last for. It could be another one, two, three years where we’re going to see still single digit appreciation rates with interest rate still this low. This is the perfect storm.
These people should really take out a calculator, a pad of paper and a pencil and start mapping out different scenarios. What if I do nothing compared to what if I take that equity and turn it into something that creates a stream of income, versus whatever else they could do with it. I think most people will be very, very surprised at how much further they could be. Clearly, some people to the point where they are actually financially free. All it takes is about 30 minutes of your time and take a pad of paper and a pencil. If you need help with that, you can give us a call. Keith, that is myth number four. The home equity has a rate of return is a really big one for me.
That’s a really big one. You said it. Some people might be financially free already. They just don’t know it. They just need to convert their existing equity into cashflow and they will be financially free. There’s one other part on people believing that equity has a rate of return. This even ties in somewhat to the second one, that you think you want to be debt free. Sometimes even real estate investors say, “I’ll just have loans on my income property but I’ll get my own home, my own primary residence paid off because that makes me feel good.” Think about what you’re doing when you send in an extra principal payment of $100 to pay down the mortgage balance on your home.
People think that’s a good investment, but when you send in an extra principal payment of $100 away, here’s what you’re saying to the bank, “Hey Mr. Banker, here’s an extra $100 for you. Don’t pay me any interest on it. If I need it back, I’ll pay you fees and I’ll borrow it back on your terms and I’ll prove to you that I qualify again.” Can you believe that? People are actually voluntarily doing that. When you do it, it doesn’t reduce your monthly mortgage payment at all when you have a long term fixed rate amortizing loan, like most people do. It’s just nonsense. Because people want to get their mortgage paid off and they really don’t even know why other than that it makes them feel good. When you pay off your mortgage, you just paid off your principal and interest payment. You still owe property tax. You still owe property insurance. You still owe maintenance costs. You really haven’t paid anything off. You just reduced your housing bill once you get there. Even when you get there, it’s not going to feel as good as you think.
Absolutely. In most cases, it does not make sense to pay down your mortgage. You’re better off taking those extra funds and reinvesting it and creating something of greater value.
Sure. You’re just putting yourself at risk. People can buy property insurance to insure against catastrophic loses, from hurricanes or fires and windstorms. But there’s no such thing as equity insurance. You can’t buy insurance to hedge against the laws of equities. You’ve got to ask yourself why you’re trying to build up equity in any one property so badly. I really don’t think that you want to do that. Another reason you don’t want to build a lot of equity in a property is you’ve made it low hanging fruit for a lawsuit. If a kid falls off the monkey bars at your home or a tenant slips and falls at your property on some icy steps or something, that’s some of the easiest money to go after when someone wants to sue. That attorney is going to look for equity in the property. Really a great asset protection strategy is to not have equity in the property in the first place. I really think the bottom line here Marco, with this fourth one, believing that equity has a rate of return, is that homes are built to house families, not store cash. Again, homes are built to house families, whether it’s your family or a tenant family. But not store cash.
Agreed. Your home is not a bank. It’s not a place to store your cash. Agreed. This fifth myth Keith, is one that I see all around. It includes my friends and my family, not my personal family but my extended family. The concept is that you should live below your means. This drives me a little bananas because it really is a scarcity mindset. Explain this myth please.
Totally. The fifth and final myth is that people think that it’s good to live below your means. That’s wrong. Some people feel like it’s good to live within your means. That might have a little bit more cream. Although I’d even challenge that one a little bit. The answer is, don’t live below your means. Instead, expand your means. That’s basically a paraphrasal of what Robert Kiyosaki said. An example of living below your means is I think a lot of times, it’s just not valuing your time. It’s standing in a 30 minute line to eat a free chip fillet sandwich. That’s a great way to spend your limited resource of time on this Earth.
Instead, read about a 1031 tax deferred exchange or read about, for your rental properties, instead of self managing, which in a way is living below your means, how to hire a professional manager so that you can go on to better and higher use tasks. That’s an example of expanding your means rather than living below them. Don’t let the groupon app dictate where you and your wife go to dinner tomorrow night. Live bigger than that. When you spend too much time and effort and resources living below your means, you know something, you can actually only cut so much to the downside. You can only cut so far. When you do so, you’re living a worse life anyway. Instead, expand your means. Learn about expanding your portfolio or learn about some of these mindset myths and follow up on them and see how you can turn your equity into cashflow. Your time is so much better spent doing that. I guess in summary, I would say, focus on production. Not reduction.
Very well said. This really comes down to increasing your income. That could be setting up a sideline business. That could be network marketing, it could be something that you’re passionate about. Just increasing your cash flow, your income coming in, not necessarily from real estate. But when you increase your income, you have more to work with, you have more to invest with. However you do that, you need to consider how to increase your cash flow, your stream of income. For some people, it’s just simply restructuring their existing assets.
Maybe they’re heavily vested in the stock market, maybe they have chunks of equity sitting there dormant, doing nothing, that zero rate of return. By looking at what you have available today, you can restructure your financial affairs and increase your income, increase and broaden your means. I struggle to find the word Keith, but really it’s just your lifestyle, expanding and increasing your lifestyle. It all starts with what do you have available and how can you increase it? Budgeting is almost a bad word. It has limited potential. You can only budget so much, you can only cut so much. But there’s an infinite growth to how much more income and wealth you can create. Is that not true?
That’s true. In fact, I tell people, “Don’t build a budget.” A budget, that causes one to pinch pennies and cut expenses. Build a cashflow statement. Create a cashflow statement. That way, you can figure out how you can transfer your existing equity. Sometimes you don’t even have to make any moves or any new purchases with your investment portfolio. Just, how can you go ahead and take existing equity and go ahead and convert that into cashflow. I call that a lifestyle arbitrage. Lifestyle arbitrage is the difference between how you are living and how you could live. There is a real gap there for a lot of people.
I just think I’d like to ask you, if you’re not as wealthy as you would like to be, why is it? Is it because you believe it’s great to get your money to work for you or be debt free or think compound interest is great or think equity has a rate of return or because you’re living below your means? That very well may be why you’re not as wealthy as you would like. I really implore you to bridge that cognitive dissonance. You know what else, take it from a person that’s doing it. I am a relatively young person and I am financially free. I don’t work for anybody. Take it from a person that’s doing it. I think a person that has a scarcity mindset, people answer their own questions in their head. They answer their own questions themselves because they think they already know the answer. An abundant mindset is when someone begins to question their answers rather than answer their questions. When you begin to question those answers that you already gave yourself, now you’re on the road to abundance. Just like we are what we eat, we live what we believe.
Well said. Very well said. Keith, you’re a good example and a very good role model. I think most people actually are their own worst enemies. They limit their wealth potential and they believe in these myths. Really, they just need to have a reeducation and a mind shift and expand their financial education and have a higher financial IQ. I think you’re a good example of that. These five myths I think are at the core of it for a lot of people. Is there anything else you want to add to that or any kind of closing comments before we get to your contact information or your website?
It was the words of Mark Twain. Mark Twain said, “It ain’t what you don’t know that gets you into trouble. It’s what you do know for sure that just ain’t so.” That was from Mark Twain. He said it. I think the last thing I’d want to say on this Marco, is just two words. Be bold. You don’t want to be normal. You don’t want to be like every day people. Who really wants to be normal? Normal is being overweight, under exercised, under slept, not having enough money at the end of the month. You don’t want to be normal. Be bold. I made bold moves when I decided to move from Pennsylvania to Alaska. People thought I was nuts. Buying a fourplex building was a bold move. Launching my own podcast was a bold move. Selling profitable buildings and 1031 exchanging them all into even more profitable buildings was a bold move. You don’t have to be the smartest person, because I’m not. You don’t have to be the most articulate person, because I’m not. Being bold can compensate for a lot of other things that you think you don’t have. Educate yourself and then be bold.
Well said. I’ll add one more thing, if I may. For those people who think they are thinking big already, it’s not big enough. Think bigger, because until you think big to the point where it becomes uncomfortable and you start to question whether that’s even possible, now you’re thinking big enough. That’s how I would drive myself.
We can all think bigger, me included.
I agree. Keith, I think this has been great. I think this will be an eye-opener for a lot of people because a lot of people still believe these myths. How can people learn more and find out more about you? What is your website? Give out your information.
GetRichEducation.com and the Get Rich Education podcast. I’ve been hosting a popular podcast every week since 2014. We’ve had really great guests, like Robert Kiyosaki and his Rich Dad Advisors, because I’m a writer for the Rich Dad Advisors myself. A mindset mogul like T. Harv Eker, economists like Harry Dent. We use an abundance mindset and we bring it to real estate investing every week at Get Rich Education.
Awesome. Keith, thanks for being back on the show. I’m sure I’ll be talking to you again here soon.
Marco, thank you so much for having me back.
Have a good one.
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I really enjoy speaking with Keith and other people like Keith because they are positive and they have this abundance mentality. It’s really refreshing to have conversations with people like that. If you need more people in your life like that, seek those people out, surround yourself with other investors and people who have that investing business and growth mindset because it really is refreshing. It helps you expand your mind and grow that mental envelope. Once, your mind has expanded, it can’t contract. It doesn’t go back. A mind that’s expanded stays that way.
Anyway, if you have any questions about real estate and real estate investing, finance, be sure to submit that to me. You can click on Ask Marco at the top of our website at PassiveRealEstateInvesting.com. I will be happy to go through those and pick those and bring them on the show and answer those in a future episode. Don’t hesitate to do that. Also, if you have suggestions for a future show topic, let me know.
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