Real estate has laws that you can follow to make your job regulated and meaningful. Full-time real estate investor Joe Fairless walks us through the three immutable laws of real estate investing, going deep into buying for cashflow, securing long-term and low leveraged debt, and having adequate cash reserves. Joe notes that being aware of these laws and implementing these into action can bring significant progress to your real estate endeavors. On the side, he also shares his journey and the catalyst that brought him towards syndication along with the great real estate lessons he learned from the 2008 downturn.
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Philosophers like John Locke argued that without laws, human societies would be brutal places. From this view, laws exist in order to protect our most fundamental human rights. As real estate investors, we could benefit from having certain laws that help guide our investing activities and protect and grow our investment capital. My returning guest and I will talk about what he calls his Three Immutable Laws of Real Estate Investing. First, I was scanning the reviews on iTunes. I check these from time to time. I enjoy reading them because for the most part, 99% of them are all five-star, great positive reviews. This one was in the form of a question and I thought, “It’s probably a question that many people ask so I would publish it.” This person goes by the initial V. He or she says, “I love this podcast. I’ve been researching the idea of investing outside of California. I wonder why that is. Who do I reach out to set up a tour? Thank you.”
It’s a simple question and a simple answer. Contact anyone here at our office, any one of our six investment counselors or our support team can help you with that. We’ll connect you with our team on the ground in one of the 22 or so markets that we operate in where we have property. They and us together would be happy to show you around, introduce you to the neighborhood and show you some properties, some that are under renovation, some are under construction and some that are completely ready to go. Many of them have tenants in place, so that may not be a part of the tour. We would certainly love to meet you, shake your hand, show you around, give you an education and present you some great investment potential opportunities. That’s it. Give us a call and talk to an investment counselor or fill out the form on our website. Let’s get right into the interview.
If you missed our last episode, be sure to listen to Going From Full-Time Job To Full-Time Investor.
Enjoy the show!
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Three Immutable Laws Of Real Estate Investing
It’s my pleasure to welcome back a great guest, Joe Fairless. Joe is a full-time real estate investor. He controls over $610 million worth of residential real estates. He’s also the author of two great books titled the Best Real Estate Investing Advice Ever, volumes one and two, and a third book called Best Ever Apartment Syndication Book. He is also the host of the world’s longest-running daily real estate podcast of the same name. Joe, welcome back to the show.
Thank you so much. I’m looking forward to our conversation.
It’s great having you back. There is a ton of subject matter and topics that we can talk about. You and I have no end in terms of how much in what we can talk about. That’s exciting because there’s a lot to share with my audience and your audience. Let’s start with your story. I love your story. Everybody’s got a story and everybody has a different starting point. Yours is from New York. You were in advertising. Share with our audience how you went from advertising to big-time real estate investing.
I was sampling life experiences because towards the later part of my advertising career, I wasn’t fulfilled by what I was doing. I did certain things while I had my W-2 job. I started out as a junior project manager making $30,000 a year. In a few years, I became the youngest VP of a New York City advertising agency. My salary was around $150,000. My goal was to make $100,000 and then I would be set for life before my 30th birthday. I did that. What I realized once I achieved the monetary goal, I wasn’t fulfilled. Immediately thereafter, I decided to sample life experiences. What I mean by that is I was interviewing people for a book about how to have a successful career. I interviewed the Soldier of the Year in the Army and a vice president at Southwest Airlines, all people who I knew, to learn more about what they did to be successful in their career so I could share those lessons to others.
Additionally, I wanted to get better at public speaking so I did an improv class. The improv teacher said, “Why are you here?” I told her and she’s like, “Improv is one way of getting better, but if you want to go to the next level, do standup comedy.” With improv, people know that you’re seeing this broomstick for the first time. Whereas in stand-up comedy, they know that you better have something prepared to make them laugh every seven seconds. Expectations are much higher so you have less room for error. There’s also a less-forgiving audience with stand-up comedy. I took a class. I wasn’t touring city by city. I took a class in New York City and performed in two places. One is in Gotham Comedy Club. The other one is now shut down. That’s how special of a place that was. It’s no longer in business. I did that twice. I also taught people what I was doing in the single-family arena. I was buying single-family homes. The first house I bought was $76,000 in Duncanville, Texas, which is south of Dallas. It took me a couple of years to save up $20,000. I bought my first house in October of 2009. I did that again and again, four times total.
Along the way, my friends were like, “You’re working in advertising with us. How are you able to do this?” I started teaching a class on how to do it. One of my former bosses attended the class and he’s like, “This sounds good. If you ever do anything larger, let me know.” I heard that multiple times. I realized that I wanted to get out of advertising and I had potential business partners for larger deals. I realized that I have some customers before I have a product, which is a very good business to be in. You got demand before supply. That’s what gave me the idea to do larger deals and do real estate full-time.
I don’t want to undermine it, but it sounds like the whole path going down the syndication route was somewhat accidental. It presented itself to you with people saying, “I’d like to invest with you but on bigger deals.” It may have been the catalyst that put you down the road towards syndication, right?
That’s correct. I would agree with that.
It didn’t sound like you were thinking about it prior too but that’s great. This is the whole thing about being aware. If you’re not aware of opportunities as they present themselves, they might be right under your nose. If you’re not paying attention, if you’re not in the game or of mind that these opportunities are there and you don’t take hold of them, you miss out on so many opportunities. That’s true for so many people. This is why I always tell people, “Educate yourself. Learn as much as you can. Keep learning because it will give you the nose to sniff out the deals when they come along.”
I’ve interviewed over 1,700 people on my podcast. I always ask them, “What’s your best real estate investing advice ever?” One of the more popular answers is to get started. They’ve experienced it as most people have in business. When you put one foot in front of the other towards your objective, you’re making progress. You take your thoughts and implement them towards some physical action. It depends on where you end up, but at least you’re making that progress and getting much farther than if you’re just thinking about doing things.
Doing something is usually better than doing nothing. One of the things you talk about are these Three Immutable Laws of Real Estate Investing. I love them. They sound so basic at a surface level, but it is great for my audience to hear from you about some of the things we do talk about from time to time on the show to drill these points home and expand upon the importance of it and maybe whatever perspectives you have on them. You talk about these three laws that when you follow them, they result in your ability to thrive in any market and also at any time in a market cycle, which I love. I truly believe that you can make money in real estate almost at any time. There’s no bad time. What changes are the opportunities in the markets that you’re looking in and maybe the strategy in how you negotiate or put that deal together, but there are always deals out there. This is where the whole creative real estate space came up decades ago from AD Kessler. That spilled over to Robert G. Allen. One of these laws that you talk about is to buy for cashflow. It sounds so basic, but it’s important. Drill down and expand upon that.
I completely agree with you that there are no bad deals. There are only bad habits and practices. Anytime someone says, “I have a bad deal,” it’s like, “You don’t have a bad deal. You had bad habits and practices that put you in this position to lose money.” I fully embrace that for any deals that I’ve done that didn’t go according to the plan. It’s self-inflicted so you learn from it and move forward. We have Three Immutable Laws of Real Estate Investing. The reason why I put these together is that I’ve interviewed over 1,700 real estate investors. I believe I’ve interviewed more real estate investors than anyone else in the entire world. I don’t know anyone else. It’s because of that, plus my experience doing what I do in apartment investing, I’ve combined that stuff and learned some things. I realized that there were some patterns. One of the things I realized is that talking to people who lost a lot or all during the 2008 downturn, there were some common themes that took place during those conversations. I learned how people lost all their money or most of their money in real estate during the downturn. Regardless of any economic cycle, if we adhere to the opposite of that, we’re going to be all right. We could even thrive. That’s where this came from.
You asked about the first one. The first one is to buy for cashflow, not appreciation. It seems pretty intuitive to most people or perhaps everyone reading. People who don’t focus on education first and don’t focus on continually improving themselves might not adhere to this. What can take place with this law are people buying at a price where they’re not cashflowing. They’re just crossing their fingers and hoping, “I’m in a market that’s appreciated so far. It’s going to continue to appreciate because that’s what it has done for the past years.” That’s a potential problem when the market corrects itself or when the market turns. What could happen when the market corrects itself or turns is that money that you were putting into the property from your paycheck to float the property and float the mortgage, you might lose your job or you might burn through the cash reserves. Now you’re not able to float the property anymore. You’ve got to get the property back or sell it at a discount during a very bad time to sell the property. When we buy properties for cashflow, not appreciation, we are setting ourselves up for success.
What my company does, Ashcroft Capital, is we buy properties that cashflow in day one, but we can force appreciation through primarily interior renovations. That’s a great mixture of the two because we can not only buy a property that makes money but also enhance the revenue stream. It’s thereby enhancing the value through renovating the interiors, increasing the rent and making a better living experience for our residents. Should or when correction takes place, because I believe there’s going to be a correction sometime in the next few years, what we’re going to do is we’ll simply scale back the renovations or discontinue the renovations altogether. We’ll sit tight in cashflow. We won’t cashflow as much as we’d like because we won’t be forcing appreciation to increase the value, but we bought a cashflowing property on day one. That’s why buying cashflow property is number one in the three laws. If we don’t adhere to that, you might as well throw laws two and three out the window. You’re not going to be set up for success if you don’t have a cashflowing property in day one.
I like to refer to cashflow as the glue that holds your deal together. Good times and bad, regardless of what the economy is doing or the local real estate cycle is doing, if you’ve got positive cashflow, your investment, your property is sustainable. It carries itself through good times and bad. That cashflow is an immediate rate of return. Everybody loves income. Income is cashflow. Cashflow, they say, is king. If you can appreciate the property over time, whether through comparables in the area if you’re dealing with a residential property or through forced appreciation like what you’re doing, you’ve got the best of both worlds. You’ll have appreciation in time, but you have cashflow now. That’s the best scenario. The people who got caught with their shorts down back in 2007 were speculators that bought based on appreciation. They were chasing after capital gains and couldn’t sustain their so-called investments. When the market turned, no one was there to buy. The credit disappeared. They couldn’t carry and float the properties that they purchased. It’s purely for the equity gains. They were caught with their shorts down. They had to give them back to the bank. That’s why there were a million people who were foreclosed on. They didn’t invest like an investor truly should.
There could be a scenario where they adhere to the first immutable law but they didn’t adhere to number two or number three and they got in trouble. You can buy a property for cashflow and everything is smooth sailing, but the second law is to secure long-term, low-leveraged debt for your properties. For example, you buy a property. You’re making money and everything’s wonderful. You even have adequate cash reserves, but you have a loan on a property that becomes due during a very inopportune time, for example, in 2008. You need to do something. You need to get new financing or to sell when new financing is non-existent. If it is, you’re getting terrible terms. If you’re going to sell, you have to sell at a discount.
What’s important is the second law, secured long-term, low-leveraged debt. Specifically, have debt on the property at least twice as long as the business plan. If you’re a buy-and-hold investor, I want to lock it up and throw away the key. I’ll give the key to my tenants and that’s it. I’m going to hold onto this for generations or at least for the long run. My suggestion is to have a very long-term debt on the property. With commercial real estate, you can get loans that are 24 months. You can get loans that are shorter or even longer than that. Whatever your business plan is, if it’s a fix and flip, a long-term hold or a commercial property, my suggestion is to have a loan on the property that is at least twice as long as your business plan.
For example, we’re buying properties between $25 million and $75 million. They’re apartment communities. Our business plan is to renovate the interiors and increase the rent, which increases the value. We do some other stuff too. That’s the primary cause and effect for how we increase the value of the properties. We do that within 24 months. We’re able to do that within 24 months because most people are on a twelve-month lease. If someone signs a lease a day before we purchased the property, we’ve got to wait for about twelve months to do the renovation for that particular unit. We can be in and out of the property with our business plan within 24 months. We put the debt on the property that’s at least five years. Once the business plan is complete after a year or two, we have three additional years of wiggle room should something unexpected occurs or correction occurs. We can course correct. We’ve got 36 months to figure things out. I don’t think, in any scenario, anyone should ever wait until there are eighteen months or less on loan. If you got eighteen months or less on your loan, you’re playing with fire because a correction could take place and then you’ve got to get a loan in a very bad time to get loans or you’re going to have a fire sale.
Let me clarify one thing for the audience because you’re talking about a five-year loan. Let’s make sure we’re all on the same page because it can be a little confusing. A lot of our readers are accustomed to conventional financing, which is your 30-year amortized loan. Often, that’s a 30-year fixed rate loan. Your term is 30 years and your amortization period is 30 years. There are exceptions to that and there are other loan products out there. In your world and the commercial world, we’re talking about a commercial loan, which is often a 25-year amortization. You have terms on that. What you have been talking about is the term. You lock into a rate. That could be a two, three, four or five-year lock on that rate. You have to renegotiate that loan. Is that what you’re talking about? Do you want to expand on that?
Yes. As for single-family investors, if you’re buying one to four units, the takeaway is to know what your business plan is. Have the loan be locked in for at least twice as long. If you’re doing a 15 or 30-year, you’re all set. If you’re looking to do shorter-term loans, that’s where you want to make sure that you have the business plan that is at least half as long whatever the loan is.
That same model or principle applies to residential real estate investors as well. In this way, you can still get yourself an adjustable rate mortgage where you lock into a rate for two, three or five years. It’s a lower rate. Therefore, your debt service is lower and your cashflow is higher. That’s a smart thing to do. That works if you anticipate holding that property for five to ten years and then you sell it probably doing a tax-deferred exchange and move up into a larger portfolio, maybe in a different market. The strategy you’re using can be applied in the residential world as well by using an adjustable rate mortgage. It’s a different business plan but it’s the same principle. Continuing with securing the long-term financing, low leverage debt, is there anything more to it or is it just that?
The third law is to have adequate cash reserves. I’ll be specific to paint the picture a little bit. We could buy a cashflowing property that is making money. We could also have the right financing on the property. A resident of ours decides to park his motorcycle inside the living room and changes the oil in the living room. It ruins everything in the living room. He then skips out on the lease. Now you’ve got a bunch of big, old mess. That type of resident probably destroyed the rest of the house too while they’re zooming away on their Harley. That is a real story. It was very specific. It happened to my dad whenever he was renting a property in Flint, Michigan. I never told that story but for some reasons, it came to me. There are expenses that could occur on a move-out, but there are expenses that can occur over the course of ownership of a property. Maybe the fence falls over or whatever else. We have to have adequate cash reserves to pay for that stuff because if not, that’s going to be a problem. We are going to need to find a way to get that cash or we’re going to have to give the property back or something else. Especially with commercial real estate, it’s important but at residential as well. We can have a cashflowing property and the right financing, but if we don’t have adequate cash reserves, we’re going to be in trouble.
From a commercial standpoint, we put 1% to 5% of the purchase price into our operating account upfront. Whatever the purchase price is, say $75 million, we’re going to have 1% of that in the operating account in day one. Should something unexpected occurs, like a freak snowstorm coming through and all the boilers going out, we’ve got the capital to put into the property to fix that, maybe while we’re waiting on an insurance claim. The challenge is even if you have insurance, and say all the boilers go out, it takes a little bit of time to get the insurance claim lined up. In the meantime, you’ve got residents who need hot water. You’ve got to address that. You need to have a stopgap and a budget to address that. Marco, you would be the expert on what that adequate cash reserve is for a single-family home because my focus is on apartment communities. The concept is true regardless if it’s single or multifamily.
How do you determine whether it’s 1%, 2%, 3%, 4% or 5%?
It’s the age of the property primarily. We buy properties built between 1980 and 2005, the year of construction. 1980 properties are going to be closer to 5%. 2005 properties are going to be closer to 1%. It’s not a hard and fast rule because there are some beautiful properties that we’ve purchased that are constructed in 1984. They are owned by large institutions before us that put in a lot of money to keep those properties running very well. You could have a 1985 property that was owned by a local owner. That was the only property that they’ve owned and they’ve run it into the ground. There’s more stuff that will likely come up with that particular property. The rule of thumb is the year of construction, but there are other variables to take into account.
The rule of thumb that I give out all the time on the show for residential real estate investors that have single-families primarily is to have anywhere from two to four months of gross rent put aside for that specific property. As you scale your portfolio larger and larger, you can scale back the amount that you have in reserve. You’re not going to have an accident, a fire or a turnover in all your properties all at the same time. That doesn’t happen. It’s good to have these guidelines and these rules of thumb because what you don’t want to happen is not have any cash reserve. You’re running a business. It’s not that you should be pulling this out of your pocket and it’s from your savings account or your personal funds. You want to think about this as a business, run it as a business and treat it as a business. In order to do that, you have to have operating capital. Those are Three Immutable Laws of Real Estate Investing. I wholeheartedly agree with all those. They sound basic and are very prudent, but it’s sound advice. Joe, I want to throw a curve ball at you. This is a Joe fun fact. What’s your favorite band?
It’s Third Eye Blind. Isn’t that everyone’s favorite band?
That’s what I thought, but I’m not sure now. How many times have you gone to their concerts?
I don’t know, but I’m going to a Third Eye Blind concert. I’m speaking at a conference later in that same month. They’re going to be in that city that same month. I very well might double dip on Third Eye Blind concerts for that month. I’ve been to a whole bunch.
I should dub you as Third Eye Blind’s biggest groupie.
It’s an appropriate dubation.
They’re a great band. I love their music. Thanks for taking the time. Tell our readers how they can find you or get more information about what you do.
First, if you’re looking at passively investing in deals and you’re an accredited investor, you can go to InvestWithAshcroft.com and fill out the form. I would love to have a conversation with you. My company is Ashcroft Capital. If you’d like an investor resource guide for passive investing in apartment communities, just email, Info@JoeFairless.com. It’s a very valuable guide with all the terminology. I’m walking you through what type of passive investor you’d like to be and look at and questions to ask potential deal sponsors, people like me who have opportunities. That way, regardless if we partner up, you’ve got some questions to ask them. I not only put the questions to ask them but also things to think about when they respond to those questions. Mention that you read about me on Marco’s show. My executive assistant will get that document to you.
Joe, thanks for coming on the show. Let’s do this more often.
I would love to. I’ll talk to you soon.
I appreciate Joe coming back on. If you haven’t done so already, download the free guide that we have on our websites, The Ultimate Guide to Passive Real Estate Investing, which is coming out as a book. We also offer free strategy sessions with our investment counselors. If you are thinking about real estate or are an active real estate investor and want to continue building your portfolio and expand and grow, feel free to contact one of our team members and have a strategy session set up for you. We can help map that out and help you take that next step. Do you have a question about real estate investing? Click on the Ask Marco button at PassiveRealEstateInvesting.com and submit your question. I’m going to try to get to all of them on the show. Lastly, if you haven’t already done so, please remember to subscribe. I appreciate all of you. Thank you for reading. We will see you in the next episode.
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