How to Avoid the Common Investor Mistake: Managing Options and Obligations in Real Estate

If I sell it, I can get out of the problem and I can reroll. That is the wrong move 99% of the time.

Yeah, don't do that. Today we are talking about managing your options and your obligations.

Hello and welcome back to the channel. I'm Christian, this is Cody. Super excited to share today because options and obligations, while they sound fairly similar, are massively different. If you can have options and stack more of those in the future, you have a lot more flexibility. More real estate you play, the more pieces you have on the board, the more these options have flexibility and you have more moves available to you. We're going to talk about how some of those look in our portfolio and how this can help you save a lot of money in your investing journey.

And these are the two big O's in real estate. Your obligations— an example of this would be a debt. If you have a debt, you're obligated to pay it or you lose the asset. If you lose the asset, you lose the game. Not a great place to be. An option could be like a lease option. You have an option to buy up. It could be a buyout of a partner. You have an option to buy out a partner. What you need to make sure is you don't have too many obligations in relationship to the options that you have. You always want to have more options in real estate than obligations to do so.

Now, obligations. So if you hear the term balloon payment, which we talk about all the time, that is a fixed time when your debt becomes due. That is an obligation. It's going to be natural. You're going to have some obligations. If you're taking on debt, you're taking on private capital, you're going to have obligations in your debt stack. What you want to do and be very careful to do is space those out. Even if it's fantastic deals, you don't want a whole bunch of balloons coming due at the exact same time. For example, let's say I bought a property. There's a million-dollar balloon that's going to come due in 4 years. A year later, I find another fantastic deal. It's going to be another million dollars and it has a 3-year balloon. Well, now I owe $2 million at the same time. If I could have tackled $1 million at a time and now we have 2 at the exact same time, even the deals are phenomenal. That is a way that people lose real estate. Now, I've seen people stack this where they have hundreds of millions due at the same time, and then the debt markets went way up and they couldn't refi it out like they math. Now, if they had staggered them over time, they could have pulled enough capital. And rate markets go like this over time as well, so they could have waited for a better time if they had stretched out their obligations, or if some of those were options instead.

Absolutely. And if they were staggered out, they may have still lost one or two of the assets, but they wouldn't have lost the whole portfolio like they did. You never want to lose real estate, so you really need to be looking at your portfolio every single quarter to make sure that you don't have any creeping obligations coming up that you're not always thinking about, because we're always thinking about our obligations until they're gone. But make sure they're staggered so that number one, you don't lose all your real estate. Number two, you don't lose any real estate, because realistically you don't want to lose any of your deals. If it was worth buying, it's worth holding on to, which is why we have the phrase, how do you buy it and how do you never lose it? Big piece of how you never lose it is managing your obligations. Mm-hmm.

Which is extremely important. So again, spread them out, manage them well, cash flow plan, because at the end of the day, it's how do I own it? How do I never lose it?

Now, how to make those things an option. If you have a seller finance note and you have a 5-year balloon, put in some fee structure where you can extend the note. If you have a 5-year balloon and maybe they want an extra $100,000 down payment to extend it for another 5 years, absolutely sign up for it. Because if you've got a million-dollar deal, if you can come up with a million from a bank, absolutely refinance them if it's better terms. But it's much easier to come up with 100 grand when times get tight.

And that's turning an obligation right into an option. So now you have an option to extend, which gives you more time, which, like you said, that you can try to execute it on plan or just execute the same thing in the future. It will cost you something, but that option buys you time. And that is the main thing in this business. If you hold real estate long enough, It makes money, it cash flows, it does appreciate over time. It hedges against inflation. There's a bunch of fantastic things, but you need that time. The people who can't figure out how to hold it in the meantime who end up losing everything.

Yep. And you just have to make sure that you can continually keep your cash flow coming in. People love to borrow money to try and get a little further into the future to get that timepiece to manage those obligations that are coming up. That's great. But if you don't have positive cash flow, it doesn't matter how far you kick it down the road., you'll be digging a deeper and deeper hole every single month. This is why we say start with profitability. That's one of our rules. If you're not familiar with our rules, we posted all our principles on this YouTube channel, so check it out. But you have to start with profitability. If you've got positive cash flow in excess of all your mortgages, all your expenses, you can use the cash flow to pay down those debts, and then you can kick it out indefinitely as long as you can keep managing those options to extend.

Now let's talk about another rule: deal, then debt, then equity. So you find the deal first. That's always what you do first. You find the opportunity. When you look at debt, debt is the one that typically comes with the obligations. And equity, you have a lot more options on how you can play it. Now our goal is to own all of our properties, which means when we partner with someone, minus a select few people, we are generally putting in a fixed buyout option at a fixed period of time. If we're able to execute our project the way that we foresee it happening, which thus far has always happened, we just buy them out and we own the property.

I like that part.

That's my favorite part. The nice thing is, what if something changes and we don't get it? Because you don't call every shot correctly. No one is ever perfect, and you play the game long enough, you will have some loss somewhere. While we haven't had one yet, we're also relatively young in the game. We're Our partnership's 2 years old. We've been investing for a few years longer than that. But on a base level, you find a deal, it doesn't go the way you plan. You now have this option where if you don't execute it, yes, you don't get to buy up your equity. You may have a partner longer than you originally thought, but you don't lose the property. You don't have to start over. Equity can be fantastic. It's actually why I love equity. The options give me security that if we are ever wrong, We can figure it out. We have time to figure it out and we will not lose the real estate along the way. It's a fantastic answer to how do I own it and how do I never lose it.

So as you start structuring your portfolio, it's fun to buy everything, especially when you realize you can buy anything. It's really exciting to go out and say, I'm going to buy this, this, this, and this. But make sure that as you're structuring your debt and your equity, you're building a model that creates more options than obligations so that you can actually hold the real estate forever. It's cool to buy a bunch, but we've seen a lot of people that you and I would both know that we could point to on the internet that have built massive portfolios and lost massive portfolios because they didn't understand this key component in business.

Well, there's one more thing with obligations that's really fun as you play the real estate game. Like when we first started, you had 30 units when we bought a 38-plex. I had 40 units. We bought a 38-plex. There was no way to reencumber the things that we had at the time. We couldn't pull additional debt against them. So we didn't have all that many pieces on the board. We put some options in the future for buyouts. Every investor on that 38 had a fixed buyout in a fixed period of time. However, as you get more time, you get more pieces on the board. My ability to move pieces for my options, there's no way I would have known 2 years from that point when we bought the 38 because we've owned that for just over 2 years. When we bought that property, there's no way I would have known how many more pieces we had on the board. We expanded so fast. Uh, really grateful for all the success we've had, but we now have more options to meet those obligations. We can move debt on something, we can refinance, we have— we can recollateralize, we can move investors from one deal to another deal. There's a lot more options when you build that time in there. One of the things I like about— and this is for balloons, like your fixed, uh, your fixed variables, your options, and your obligations Everything can still be negotiated. You fix it with a phone call. As you get more pieces on the board, you can move them around so that your options can help pay off your obligations. And that's really all the game is. Just get through all your obligations.

Never lose the real estate. Now, since you're watching this video, if you found yourself in a position where you've already messed up, you've got too many obligations. We've been there. We had one of the first owners I ever met with said, you're going to buy a lot of real estate, Cody, and one day you're going to wake up and you're going to almost be drowning. You're almost going to lose everything, and then you're going to sink or swim. So if you're in that position, because I know we were there about 15 months ago, it was very early on. We just kept buying and buying and buying and buying, and we forgot the actual stabilization part of our business because we hadn't really mapped it out yet. Yep. Not a great place to be if you're there. The way to solve it is not to sell all your stuff. It is to buy something that is bigger, that has a clear path to outscale your current obligations, and structure that deal with options.

We call that getting a new set of problems. If you made a mistake in step 1, do a bigger deal so that mistake pales in comparison, and do it correct this time.

Yeah, don't make the same mistake twice, but you go to a bigger magnitude and you only create that deal with options so that you're not encumbered with an even bigger obligation because now you're borrowing from Peter to pay Paul. Not a good place to be. And that's another way people go bankrupt. Yeah.

What we did is we started on that 38-plex. That was a fantastic deal. Made us both $1 million. But structured it wrong. Yes, we did not have the— we didn't have the cash flow to support the negative or to do the renovations. So what we had to do is we had to buy a bunch of other properties that cash flowed fantastically with options. So that we could support all the reno and all the things that went into that big project. We bought enough time to each pull $1 million. That was only possible because we opted to scale instead of sell. What I hear too many people do is it gets stressful, they don't see a way out, and their first instinct is, if I sell it, I can get out of the problem and I can reroll. That is the wrong move 99% of the time.

Yeah, don't do that. That is what we call lame. And don't be lame.

Yes, don't be lame. If you want to be a real estate investor, learn to buy and hold properties. Not that you can't sell anything ever, but look for the solution that allows you to hold the most real estate at all times.

And if you ever get stuck, reach out to people that have played the game for longer periods of time than you have in the space you're trying to play it in. Whenever we get stuck, we message people that have been playing the game a lot longer than us to get their advice. And connections on how to un-F the portfolio, as we would say in technical terms.

And if you would like our advice on anything, always feel free to reach out in the chat, hit us up on Instagram. I'm @ChristianOsgood, he's @DoingCodeyThings. Always happy to help you guys out with whatever you're working on. Until next time, we will see you all later.