AIPIS 21 – Welcome To AIPIS!

Welcome to the AIPIS show for accredited income Property investment specialists and those who aspire to be if you're a real estate, mortgage or financial professional, this is the place for you. We'll explore innovative investment analysis, sales, marketing and income generating strategies for the most historically proven wealth creator income property. Learn from the experts as they show you how to build a better business and a better life.

Hi, welcome to The AIPIS Newsletter, Volume 10, Issue 1.

I'm Rich Rosl and I'm Penny Haynes and if you are new to aipis, it stands for Accredited Income Property Investment Specialist.

This publication is to help real estate, mortgage and financial professionals create more income and enjoy better careers.

First, let's talk about the best investment that nobody knows about to most people, the word investment spurs thoughts of stocks, bonds, mutual funds and Wall street banking centers. The reason that these classes of investments are so well known is because they get lots of advertising by the people who are selling them. Since stocks, bonds and mutual funds are all sold through a central clearinghouse exchange, there are massive economies of scale to underwrite advertising and marketing campaigns extolling the virtues of investing in assets like mutual funds. This is done to attract new investment capital into the funds so so that the management fees can be assessed across a larger base of funds. In effect, the large amounts of money that are directed toward commissions and management fees for paper assets like stocks and bonds serve to finance a perpetual string of news agencies, magazines, commentators and sales agents that advocate for investment in the financial markets. Much of this advocacy is riding on the back of a 25 year bull market that was created by pension funds entering the investor PO and an expansion of corporate profits from tax cuts, price stability and inexpensive debt capital. Fundamentally, increases in the value of the stock market must come from new capital entering the marketplace. When new sources of investment capital can no longer be found, market values will stagnate or contract. Thus, the financial world must continually advocate for stock market investment or face the reality of a static capital pool that suppresses market appreciation. Another variety of investment, known as income property, runs parallel to the stock market but is not well advertised or publicized. The reason for this is that income properties are typically owned by a single person or a small group of people. This trend of direct ownership does not leave room for a large centralized entity to expend resources marketing income property as an investment vehicle. Fundamentally, this means that it will always be difficult to shift mindshare toward income property because the paper asset world is so well publicized. However, this also means that there will be exceptional deals available for investors that know where to look and what to look for with Income Properties As a real estate professional, you have a unique opportunity to help your clients discover the gains that are available to income property investors. The first step in this metamorphosis is shifting their mindset away from real estate as a place to live and toward real estate as a place to rent out to a tenant. Once this paradigm shift is complete, investors can begin to see the advantages implicit in the four factors of real estate that make it a tremendous investment opportunity. Your relationship with a client as a trusted advisor will be critical in helping them to make this discovery. Investing in real estate can be highly rewarding and definitely a great option for generating long term returns. Let us look at why real estate is a powerful engine for your investment portfolio.

Consistent Demand Everyone needs a place to live, and what better way to generate consistent returns than by controlling a commodity that's always in demand. Housing fits a universal need, and that characteristic helps to generate its stability and reliability. Let's look at the stores, for example. During hard times, shops like trendy boutiques, coffee houses with $5 lattes, and other high priced services are the first to go out of business. So what stays in business? Necessities such as food and shelter. They never go out of style. While high end retailers are suffering, discounters and bargain centers that provide necessities thrive. Since it's not feasible for individual investors to enter the food business, it leaves shelter as the primary opportunity for providing necessities. A house is a tangible asset that is desired by almost every working individual in the country. Ever since the 1930s, it's become progressively easier to buy one, thanks to government agencies like the FHA and favorable tax treatments such as the mortgage interest deduction and universal exclusion of capital gains on the sale of a primary residence. Most Americans spend a quarter of their income or more on housing alone. There are not very many businesses that provide such an opportunity where your customers will voluntarily pay such a significant portion of their income for your services. Even if you look at businesses such as clothing, another one of life's necessities, there's always a lull in business activity. Economically stagnant periods when people curb their extra expenditures and temporarily stop buying new clothes. However, real estate is something that does not fall in that extra expenditures category. A house is a basic need and a necessity. During difficult economic times. People will frequently transition to more basic housing, but they'll still need some form of housing regardless of the economic environment.

Long Term Real Estate Investing Long term investing in real estate means that you can use your assets to generate rental income even during times of recession with decreased housing prices, you and your clients can still benefit from long term real estate investing if you play it the right way. For example, if you purchase a property that is located in the outskirts of the city, you may not get a high rate of return immediately. However, if you carefully survey the area and notice that it has the potential to develop into a bustling economic area five to 10 years from now, there's a good chance that the value of your property will increase over time.

The Four Factors of Real Estate Investing Fundamentally, four primary factors drive the opportunity in real estate investing. In most investments such as stocks and bonds, only one or two factors like appreciation or dividends drive the value of the investment. Real estate is unique because it's a multidimensional asset that generates value by the interplay of four primary factors. These factors are price stability, cash flow, tax advantages, and leverage Price Stability Real.

Estate prices tend to be much less volatile than stocks. The relative lack of liquidity with real estate creates this phenomenon. Many financial advisors view this as a disadvantage, but since real estate markets operate with a smaller number of relatively large transactions, it results in less price volatility and a longer window of opportunity for investors to act. Typically, large price movements only occur from massive increases or decreases in the number of available buyers.

Cash Flow when real estate is rented to tenants, it generates regular cash flows that can be used to pay for the mortgage, interest, taxes, insurance, and management fees of the property. The big advantage of this cash flow is that it allows the investor to develop a passive income portfolio. Since direct work is not required to generate the cash flows, the tenants simply continue to pay their rent on a month to month basis. Because of this, one of the key signs to look for when evaluating real estate investments is the ratio of cash flow to the value of the property. It's important to note that not all real estate investments involve regular cash flows. Many speculative real estate strategies involve purchasing property that an investor will repair, improve, and then flip for a profit. Now, this type of investment strategy can result in very large gains, but it also carries quite a bit of risk because there's a possibility that the investor will be stuck with very large payments and no cash flow if the improved property can't be quickly sold at the desired price. The most powerful arbitrage opportunity in real estate is finding properties in markets that will produce superior cash flow relative to the price of the property. The reason that cash flow has so much power is because it provides coverage against downside contingencies for the investor. While maintaining the upside growth opportunity. In most bubble markets, the price of real estate is driven so high that the cash flow produced by the asset is very low relative to the purchase price. Because of this, it's generally best to target arbitrage properties with superior income prospects.

Tax Advantages the impact of taxes on the performance of an investment can be quite profound. The reason for this is because when taxes are assessed as an investment grows, it reduces the capital base that is in the game to compound and grow. Conversely, if taxes can be deferred until a later date, it allows for the returns to compound more aggressively. In the case of real estate, the government has instituted a transaction called a like kind exchange that is articulated in section 1031 of the Internal Revenue Code. The benefit of this transaction is that it allows an investor to defer the taxes that are due upon the sale of a real estate asset if another real estate asset of equal or greater value is purchased within a specified period. I should mention that I am not a qualified tax advisor and that anybody looking to conduct a section 1031 exchange should consult with a CPA and 1031 specialist. The power of this transaction is that it allows investors to compound real estate investments into larger deals while deferring taxes. In addition to the long term tax advantages of deferring gains, there are short term tax advantages for real estate investors as well as these advantages stem from the fact that businesses pay taxes differently from individuals. If you are investing in real estate, that means you are in business as an investor. As an individual, the government takes the taxes out of your salary before you can spend any of it. As a business, you pay taxes on the revenue that is left over after your legitimate expenses have been subtracted. Once again, you should consult with a tax professional when conducting your business operations to assure compliance and with the tax code.

Leverage in the context of investments, leverage refers to using other people's money to finance your investment. Thus, leverage becomes a magnifying glass for the returns on the underlying asset. When the asset produces an overall gain, the gain will be increased by the amount of leverage you've used to purchase that asset. Similarly, if that same asset produces a loss, it will also be magnified by the leverage. The key is to use leverage for assets that are less volatile so that you minimize the probability of producing a crippling financial loss. As the volatility of a leveraged investment increases, the probability of a total loss goes up exponentially. Because of this magnifying effect, an investor can gain control of a relatively large capital asset for a relatively small amount of cash. Even in the current 20% down environment, investors can control an asset that's five times as large as their initial investment. When a property value increases by 10% and the investor has 20% down, investors don't just see their equity go up by 10%, their equity increases by 50%. That's 10% appreciation multiplied by five times leverage. Furthermore, real estate can often be financed with fixed rate loans. In the case of residential real estate, the loan duration can be up to 30 years at a fixed rate. This allows investors to lock in their cost of capital at current rates so that any future monetary inflation inflation increases their value and rental income while the interest payments stay flat. These four factors make income properties one of the best investments for creating wealth. But the fragmented nature of the market makes it the class of investment that people know the least about. As a real estate professional developing a working knowledge of income properties and investment, real estate will place you in control of this powerful asset.

The Market Economics of Income Properties One of the critical factors to consider in regards to income property investing is that market economics will critically impact every aspect of your investments. The purchase price is influenced by the relative supply and demand for real estate in your local area. The mortgage rates that your client can get from financial institutions are influenced by the policies of the Federal Reserve and the global demand for the government bonds that mortgage rates are indexed against. In addition to this, rents are established by the equilibrium of people seeking houses for rent relative to the amount of units that are available to rent at a given time. Underlying all of this is the employment base and growth rate for the area. Since the ability to purchase houses and reliably pay rents are highly correlated with employment. Generally speaking, market prices are defined by a dynamic equilibrium that reflects the relative supply of a product or service in the local or global market in relation to the demand or willingness to pay for that product or service. One of the important things to consider in regard to markets is that when supplies increase relative to demand, it tends to push down prices, and when supplies decrease relative to demand, it tends to result in price increases. Generally speaking, supply changes are correlated with the availability of commodities or product inventory. In the real estate industry, supply represents the available pool of housing that is available for sale. On the other side of the coin, we have demand or willingness to pay when all other things are held equal. Decreases in demand tend to result in lower prices as sellers compete for customers, and increases in demand elevate prices as consumers compete with one another for the limited supply. When prices are held artificially high or low with subsidies, regulations, etc. It frequently results in unusual outcomes based on the way that people respond to those incentives. In general, if prices are set below equilibrium by fiat or regulation, it will create supply shortages as market players are pushed out of the business. If prices are set below equilibrium because of government subsidies, it will stimulate demand for the lower priced product, but will also increase the amount of subsidy payments that the government is liable for. Similarly, if the government constricts supply with regulations, import quotas, or licensing requirements, it will elevate the market price by forcing consumers to compete for goods and services. These dynamics are extremely important to observe and understand since they will drastically impact the viability of properties in your area that clients will be purchasing for investment. One of the most important points to consider is that markets provide very clear signals of people's preference. When the properties in a particular area sell significantly above or below average, there is typically a reason for the imbalance. Similarly, when prices rapidly move either up or down, it is frequently due to a market imbalance that is either building or correcting. When markets are adjusting to new information or new input factors, it is critically important to consider what those factors are telling you. People vote with their feet and wallets far more honestly than they do in an election booth or when filling out a survey.

The Market Dynamics of Property Prices One way to think about most real estate transactions is to say that a sale represents the highest amount that a seller can get for the property at a given time and and the lowest amount that the buyer can find for a property like that at a given time. Most of us have seen or heard of bidding wars for properties where multiple buyers simultaneously tried to outbid one another. At the end of this, the person who was awarded the purchase represented the highest price that was willing to be paid. In transactions where only one offer is received, that offer represents the highest price at the time. The sellers must then calculate whether they reasonably believe that a higher offer will be placed within an acceptable period of time. On the other end of the spectrum, we've all seen a fire sale of properties where prices are cut repeatedly on inventory that's not selling and needs to move. When buyers make a purchase decision, it generally represents what they consider to be the best deal available that fits their preference profile. The simple logic for this conclusion is that if the buyers had access to a better deal, they would most likely execute that transaction instead. Another key factor to consider is that both supply and demand are dynamic in nature and are constantly adjusting to the marketplace realities. The long term equilibrium for housing prices is close to the cost of construction plus the cost to purchase the land that the house is built on. The reason for this is that market players will frequently change their course of action as the underlying incentives adjust. In most cases, this results in prices regressing back toward equilibrium. An example of how this dynamic plays out is illustrated in the theoretical graph comparing market values against replacement costs. In an environment where the market value exceeds the replacement cost for new construction, it will trigger new construction by builders that recognize the opportunity for profits in excess of normal market conditions. In the case of a speculative bubble like the one that recently collapsed, huge amounts of resources pour into the home building industry to pursue the large profits. As this shift continues, the market will eventually become overbuilt with inventory, resulting in downward pricing pressure as builders attempt to sell off their inventory at discounted prices. Prices Once the market value falls below the replacement cost in a given market, it creates a sharp decrease in new housing starts. The reason for this phenomenon is because people will be able to purchase existing homes for much less than the cost of construction from individuals that need to sell them or from banks that are attempting to liquidate foreclosures. During this time, builders will find themselves in a terrible financial bind since the market prices will not be high enough to profitably build new houses. In many cases, builders will have to operate at a loss for an extended period of time while they build out on permits and lots that have already been purchased in an attempt to recoup some of the costs over time. If the market values inflate back above the replacement cost, it will trigger another wave of building. As this boom bust cycle plays out, astute investors will have tremendous opportunities to profit. The most pronounced of these opportunities is to buy when prices are depressed and sell when prices are inflated. Now, on the surface, this sounds very simple to do, but it is an extremely difficult strategy to execute because it requires prospective investors to move contrary to the prevailing market forces. During speculative booms or value rallies, the pressure on everybody is to buy and buy fast. When values are going up, there's no shortage of people who are willing to pay silly prices on the belief that they can always sell for a profit. Conversely, when values are depressed, it can be very difficult to get the necessary investment capital for financing purchases. There will be more sellers than can possibly be imagined, but buyers will be extremely scarce. Another dynamic that can come into play is government regulation. When government policies artificially constrict the area available for building through urban growth boundaries, environmental protection areas, or green space provisions, it can result in very dramatic price increases from a modest change in demand. The reason for this is that the ability of the marketplace to build more housing inventory to satisfy the changing demand is now constricted by government policy. Thus, if demand increases and the supply stays the same, it's natural to expect that prices will rise. This is one of the key factors in the relative expense of real estate in many metropolitan areas. When buildable area is constrained, the only way to get more housing inventory is to tear down existing housing and build high density housing on top of it. This process is quite expensive, so it often results in a double whammy where both the demand and the replacement cost of housing are driven up simultaneously. In addition to all these market dynamics is the consistent impact of inflation, which pushes up the cost of labor and building materials over time. As this phenomenon unfolds, it frequently results in higher nominal prices for real estate, reflecting the constant real value of property and the erosion in value of the underlying dollars. However, if the property is purchased with a fixed rate loan, the cost of financing is locked in for three decades and the future mortgage payments come due with progressively devalued dollars.

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