Real Estate – The Velocity of Money
This lesson is really adapted from Robert Kiyosaki’s book, “Who Took My Money?” I strongly encourage investors to read this book. He writes that the Velocity of Money is the one reason why rich get richer and the average investor risks losing it all. I agree. From Robert’s book, he writes “As a professional investor, I want to…
1. Invest my money into an asset.
2. Get my money back.
3. Keep control of the asset.
4. Move my money into a new asset.
5. Get my money back.
6. Repeat the process.”
When I teach my homes buying homes investment strategy, I am teaching Robert’s velocity of money concept. I read Robert’s book in the summer of 2005. Little known to me, I was already teaching the velocity of money and didn’t really realize it. Thankfully, I was already utilizing it with my investing.
To give you an example: Let’s assume you purchase a nice single-family home for $200,000. To purchase this home, you use a 5-percent down payment loan program and invest approximately $10,000. You use a fixed, interest-only loan program and your total monthly payment is, say, $1,400. You offer this home on a Rent to Own Program. Your new tenant/buyer gives you $6,000 up front on this lovely home and picks a program paying you $1,695 a month in rent.
After collecting your up-front payment, you would still have $4,000 invested in this property ($10,000 down payment less that $6,000 upfront payment received from your tenant/buyer). Your monthly cash flow would be approximately $295. (Rent of $1,695 less your payment of $1,400) It would take you another 13 1/2 months to recover your remaining $4,000 invested. ($4,000 divided by $295 monthly cash flow) In this example, it would take you around 14 months to complete steps 1, 2 and 3 above. You would have invested in an asset, gotten ALL your money back and kept control of this same asset. Now you are on to step 4, which is move your money into a new asset. Robert continues his teaching as follows:
“A professional gambler wants to be playing the game with house money as soon as possible. While in Las Vegas, if I had put my money back in my pocket and only played with my winnings that would have been an example of playing with house money. The moment I began betting everything, I lost the game because I lost sight of my goal, which is to stay in the game but to play with other people’s money, not my own money.”
When you come to a point in your investing at which you have gotten all of your money back and still own the asset, you are playing with house money. In this example, after Month 14, you would still receive a cash flow of $295 a month until the property sells. This is all house money. Now let’s move on and assume that the your tenant/buyer doesn’t purchase your home during the Rent to Own Program. In four years, your $200,000 home would be worth $243,000 with a 5-percent appreciation rate. This appreciation would ALL be house money. You could then borrow a portion of this increase in equity tax-free. You could refinance this home at 90-percent loan to value. A 90-percent loan on a $243,000 home amounts to $218,700, less your current loan on the property of $190,000 would provide you with $28,700 tax-free (Current loan is $200,000 initial purchase price less your $10,000 down payment).
At this point in time, you would have recovered your $10,000 investment, plus taken in an additional $10,030 in positive cash flow and borrowed out another $28,700 tax-free. This amounts to roughly $48,000 in four years. Remember, you still own the original asset, the $200,000 home.
Now, here is where the fun starts to happen. What can you do with the $48,000? Could you use this $48,000 as a 10-percent down payment on a $480,000 asset? Let’s assume you do. What do you think the cash flow would be on this property? Maybe $10,000 a year? In a few years, both of these properties could be refinanced to pull out more money to invest into another asset, creating even more cash flow. For example, at an appreciation rate of 5 percent a year, the $200,000 home would be worth $295,000, and the $480,000 property would be worth $583,000. You could borrow another $100,000 out of these properties and use as a 10-percent down payment on a million-dollar property. What would the cash flow be on a million-dollar property?
Your assets double when you separate your equity from your properties. Can you see what I mean? Can one property properly managed make you a millionaire?
Now if you really think about what happened in this example, you will see that you were making your money work extremely hard for you. You didn’t let it sit idle as equity in a property. The key point for you to realize is that equity in a home is idle money. Idle money provides zero return.
If you only take one piece of advice from this report, make it this one:
FUNNEL ALL YOUR INVESTMENTS THROUGH YOUR REAL ESTATE
Most people are making contributions to their company 401(k) plan or some kind of IRA account. These contributions are paid, in most cases, directly out of your pocket. If your company contributes automatically to your retirement plan from your pay check, this is still directly out of your pocket. I truly believe this is a massive wealth destroyer. Instead take these contributions and invest them into real estate. Then invest the cash flow from the real estate into your IRA or retirement plan. To be clear, I am not saying don’t invest in your IRA. I am saying to insert real estate in between your direct retirement plan contribution. Buy an asset (real estate) and have that asset fund your retirement plan.
This is the advice that will get many people up in arms. I know Money Magazine tells you to maximize your 401(k) contributions. I know you parents would tell you to put everything into your 401(k). I know your company’s human resource department would tell you to invest into your company 401(k). I know. I have been there. I remember all of my co-workers at the international accounting firm I worked for talking about how much they were each contributing into their 401(k)s. They thought I was crazy for investing in real estate. They thought I was a real wacko when I next quit my high-paying job to invest in real estate full-time. I can still hear the jokes and snickers.
This will happen to you, too. Everyone will think you are making a big mistake. The reality is the other way around. You will be making a big mistake listening to everyone else. Please, please listen to this advice. I cannot tell you how powerful it is. I can hear you say, “Well my company matches my contributions.” I don’t care. Your first investing dollars go into real estate. Real estate dollars then go into your retirement plan. Don’t worry about your company match is because it is insignificant compared to what will happen if you follow this advice.
I bought real estate to create cash flow. I used the cash flow to quit my job and start my own company. The profits from the first company were used to start a new company. All of this while my “laughing” co-workers are still arguing over how much they should invest into the company 401(k) plan.
Now, I have all of the real estate, company No. 1 and company No. 2. All of these can funnel my retirement, living expenses, new companies and/or additional assets. This is the velocity of money in action. The key is where your FIRST investing dollars go. If they go to a traditional retirement plan, you aren’t creating velocity. You can’t leverage a 401(k) plan.
Now had I followed the traditional approach, I would still be working as a public accountant. I would be investing 10 to 15 percent of my income into the company 401(k) plan working at a job that I couldn’t stand. Yes, I might have more money in my 401(k) plan,yippee! I wouldn’t have any assets working for me. Funding the real estate first was the best decision I have ever made in my life. I really don’t care about the amount of money I have invested. I care about the assets I have working for me. Most people are focused on the size of their portfolio. As Robert Kiyosaki’s book teaches, your focus should be getting your money back and reinvesting, not letting it accumulate. He writes, “In my world, the velocity and safety of my money is far more important than the amount of my money … Only amateur investors put their money in their retirement plan and set the parking brake.”
I like retirement plans. Don’t get me wrong. I just want you to fund your retirement plan from house money. House money is much better than your money. Don’t you agree? There are many choices for you to invest your house money. Here are just a few:
1. Build an emergency fund for your family.
2. Invest in more real estate, houses buy houses
3. Pay off credit card debt or other loans
4. Invest into your retirement plan/IRA
5. Invest into a mutual fund/stocks or bonds
6. Start a new business
7. Buy and resell a mobile home
8. Invest into someone else’s business
9. Invest into a Whole Life Insurance Plan
10. Invest into seminars/books and audio programs
11. Hire people to assist you with your investments
12. And many more
I know that my way is the hard way. It is a lot easier just to make contributions into your company 401(k) plan and not think about it. Let’s face it, you don’t have to go look at homes. You don’t have to show your properties. You don’t have to go through any evictions. But you do have to work until your 65. You more than likely won’t be able to live the life you really want in retirement. I started investing in real estate around 1994. I started company No.1 in October of 2000. I started company No. 2 in August of 2005. The velocity of money has taken me to new levels every five years. My guess is that it will be the same for you. Where will you be in 2013?