The Keith Andrews Podcast

How to Make Money When You Buy Real Estate | Keith Andrews E10

• Keith Andrews • Season 1 • Episode 10

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In this milestone 10th episode, Keith Andrews delves into a fundamental truth of real estate investment: "You make money when you buy real estate, not when you sell it." Sharing from his personal experiences, Keith illustrates the long-term value of strategic buying and the significant role of tax advantages, including depreciation and cost segregation. This episode is a compact guide for investors at all levels, focusing on the critical importance of acquisition strategy and patience in portfolio growth. Tune in with Keith to uncover how to truly capitalize on real estate for lasting financial success.

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In reality, even though we were losing cash flow, we were making money. And that's an important concept that I really want to drive it down today, is that with real estate, even if you're not cash flowing, if you're losing 100 bucks a month, 200 bucks a month, but the monthly principal pay down is more than that, you're not losing money. Your net worth is growing. You're gaining equity, not to mention the appreciation that comes with real estate. Welcome to episode 10 of the Real Estate Junkie podcast. Can you believe it? We are 10 episodes deep. Man, I have just had an incredible fun time so far. We've had a bunch of great guests and I have the rest of the year lined up with more great guests. So I'm really excited. However, today it's going to just be me and you. I am actually on my way to California to walk my oldest daughter down the aisle and then turn around and actually officiate their marriage. So it's definitely going to be an exciting day for me, for my daughter and for our whole family. It's going to be the first time in a long time that we've had all of our kids at the same time in one place because a lot of the older ones are living all over the US right now. So getting them all together on a single day is very difficult, but they're all going to be there. It's going to be fun. Lots of family and friends there too. So it's a big day. But anyway, because of everything, I had to kind of shuffle around all my guests I had lined up. So I decided that it just didn't make a lot of sense this week to do one with a guest. So I'm going to do a really short, quick and to the point podcast today. In two weeks, we will be back for the regular routine. I have Christian Osgood lined up to be here. So that will be a fun episode. But for today, what we are going to do is we're going to tackle something that you've heard me say over and over again. And that is you make money when you buy real estate, not when you sell it. What exactly does that mean? That's what we're going to cover on this episode. So let's dive in and get started. So the cornerstone of this principle is that real estate always appreciates. Sure, there are ebbs and flows and there are times that real estate actually goes down. But for the most part, whatever the value is today, it will be more than that tomorrow. And if it's not, wait a month. And if it's not, wait a year. And if it's still not, wait five years. But if you look at the history of real estate, over the last hundred years, every 10 year period has seen a major increase. And I'm not talking 5%. I'm talking 50 to 100% appreciation. And that's just the reality of it. So this is why when you sell real estate, you're basically exiting a race before the finish line. So even though you may be selling a top dollar today, 10 years from now, top dollar, maybe double that. So you've walked away from that future appreciation. If you're watching this podcast on YouTube, I'm going to share with you a chart that breaks this down. So if you look here on this chart, you can see that in 1965, the medium home price was $20,000, basically $20,200. 10 years later in 1975, it's $38,000. 10 years later in 1985, it's close to $80,000. 10 years later in 1995, it's $130,000. 10 years later in 2005, it's $232,000. Now we get to the 2000, 2009 recession where we did see dramatic home price decreases. It was a rough time. However, once we got past that rough time by 2015, again, 10 years from 2005, we're already up at close to $300,000. And it just keeps going like this forever and ever and ever. So the point is, once you buy real estate, if you hold on to it, it's going to appreciate. If you were to sell it today, at a profit, not only are you going to have to give some of that back to Uncle Sam and taxes, you're walking away from that future appreciation. Let me give you a real life example. In 2012, my wife and I bought a property for $400,000. Now, this property was purchased in a short sale. So we actually picked it up for about $100,000 less than it was worth. So we were making money when we bought real estate. We were doing the right thing. We were buying a $500,000 property for $400,000. Awesome. Well, here's what's not so awesome. After living in that house for two years, we realized that we just needed a bigger place. And the only way we could afford to buy that bigger place, we thought because we weren't smart enough to think, hey, we could just take a HELOC out and use that for the down payment. We didn't have that mindset back then. I didn't have that mindset back then. So what did we do? We sold that house. In fact, let me bring this up on Zillow so you can actually see it in real time. So again, if you're listening to this, I apologize. Maybe you should go back later and check out the YouTube because I am going to share with you this on the screen. So let me pull it up on Zillow here. You can see that we purchased the house in 2012 for $400,000. And then in 2014, we sold it for$645,000. That's a $245,000 profit. Now, after we paid real estate commissions, closing costs and all that, we really walked out with about $220,000, $225,000, something like that. Still, it's a big profit, a big win. And you can almost say, hey, you guys made money when you sold real estate. Well, yes, we did. But if you look at what the house is worth today, $1.3 million, it literally doubled in price in 10 years. If we would have just held onto that property and not sold it, we'd have close to a million dollars in equity that we could go to any bank and pull out a HELOC and get access to that money tax-free. But we walked away from that future appreciation by selling it when we did. Now, we did think about renting it. We thought about that. But back then, our mortgage payment was like $2,100 a month. And the most we could rent it for was$1,800, maybe $1,900 a month. And my wife and I looked at each other and we said, do we really want to lose $200 a month? Now, this was stupid because we weren't thinking about the principal pay down that the tenant would be paying for us. So, yeah, we'd be coming out of our pocket a couple hundred bucks a month, but there would be far more principal pay down every month coming from the tenant that was in there. So really, we were done for selling it because we were walking away from the future appreciation and the principal pay down. And on top of that, if you look at what this property would rent for today, look at this,$3,800, literally $2,000 more than we could have rented it out for back then. So that $200 we would have lost, we would have maybe lost it for a year. And in reality, like I said before, the principal payment would have been paid down more than $200 a month. So we weren't really losing any money. It was all just on paper. That's it. In reality, even though we were losing cash flow, we were making money. And that's an important concept that I really want to drive it down today is that with real estate, even if you're not cash flowing, if you're losing a hundred bucks a month, 200 bucks a month, but the principal monthly principal pay down is more than that, you're not losing money. Your net worth is growing. You're gaining equity, not to mention the appreciation that comes with real estate. Whenever you sell, again, you're walking away from future appreciation. And if it's not your primary residence, you're paying taxes. And that's another thing I want to cover quickly today is the tax benefits you have owning rental properties. You don't get these tax benefits if you're flipping homes, you don't get these tax benefits when you sell real estate. In fact, even if you took advantage of these tax benefits that are available to you, when you held on to the real estate, once you eventually sell it, you're going to pay the piper. And this is why for me, I'm never selling. If you looked here behind me, if you're watching this podcast, you can see I have a bunch of homes up there. These are all of my rental properties, each one of these, I think of each one of these is like a little bank account. Because rather than say selling this house right here and walking away with $150,000 in profit and equity in my hands that I'm going to have to pay taxes on, I could go to a bank and pull out 50K this year, 50K five years from now, 100K 10 years from now, I can keep going back to that little bank account as many times as I want. And as long as I'm taking that money out and using it to maybe say buy another property, invest in another asset that's paying me more cash flow a month, I'm not losing money. I'm gaining money. I'm just moving the funds around, right? I'm moving the equity around. So again, you make money when you buy real estate, not when you sell it. Now let's briefly talk about the tax advantages of buying real estate, not selling it buying real estate depreciation. Now this often flies under the radar, but it is a huge benefit that the IRS allows you. Let's say you were to purchase a rental property for, I don't know, $350,000. Let's say at the time you purchase this$350,000 property, the land value was$50,000, meaning the structure of the house and all of its components are worth $300,000. That's what the IRS considers as your cost basis that you can depreciate. Now, how do you determine your cost basis? Your CPA can help with that, but you can also go to your local tax assessor and look at the time you purchased the home, what their assessed value is on the land. You simply deduct that from the purchase price and that's the structure value. That's your cost basis. So let's say the land value was 50, the home itself is $300,000. The IRS allows you to divide that$300,000 by 27.5 years, which gives you roughly $10,000 a year that you can use to offset any income that you made. Now that income could be the rental income, it could be your W2 income, it doesn't really matter. The IRS will allow you to deduct$10,000 a year for the next 27.5 years. That is huge because let's say that $350,000 house that you purchased, let's say after you rent it out, you pay the mortgage, the taxes, the interest, all your maintenance costs. Let's say at the end of each month,$500 is going to pay down the principal so you don't really see that, but it is increasing your net worth on a month to month basis. But let's say you're actually just cash flowing $300 a month. So that's $800 total, the $500 towards principal, the $300 in positive cash flow that the IRS will consider as income. You're making$800 a month on this property. That works out to $9,600 a year. Well, because of the $10,000 that you're able to depreciate each year on that property, you're actually losing on paper$400 a month. And guess what? When you lose money, when you're not making money, how much taxes are you paying? Zero, zero taxes. So in essence, that $10,000 deduction is basically allowing you to make $9,600 a year tax-free. That's incredible. Depreciation is another reason you make money when you buy real estate, not when you sell it. Now, there are other tax benefits that even make buying real estate better. Some of you may have heard of them. Bonus depreciation. We won't get into that, but it's another incentive that the IRS provides real estate investors to dramatically write off expenses relating to improving properties. So when you buy a property and you improve it, you can write off the majority. It used to be 100%, but that's changing. But the rules are changing all around that. So I really don't want to get caught up into bonus depreciation, but it is there. And it's a valuable way that you can write off improvements that you make on a property in the year that you purchased it. Another big one is cost segregation studies. You may have heard of this before, but it is huge. Rather than depreciating the entire structure of the home and all of its components over 27.5 years, you can actually do a cost segregation study where you break down every single component in the home, the lighting, the flooring, the appliances, everything. And each one of these can be depreciated in a shorter timeframe. So for example, you can, let's say you had $25,000 worth of flooring in a home. You could actually depreciate that $25,000 in five years versus 27.5 years, giving you $5,000. And that's just for the flooring. You do that for the lighting. You do that for just all the different components there in the house. You can easily get to on a $300,000 home, you can easily get to around $100,000 that you can write off in a given tax year. Now, the key is, is once you do this, once you fully depreciated all the components in the house itself, you can't depreciate anymore. Once it's gone, it's gone. So to do a cost segregation study, you are walking away from the future depreciation value. But if you're smart, you'll leverage that to offset taxes that maybe you would have to pay. And to leverage those funds to buy another asset, which would increase your cashflow, increase your net worth, eliminate any taxes that year, and give you future cost segregation studies, future depreciations that you can use. So again, the tax benefits with buying and holding real estate outweigh the short term gains that you make when you sell. Now there are exceptions, right? You have the 1031 exchange where you can sell without paying taxes, moving the equity from one investment to another. In some cases, maybe that makes sense. Maybe you can move into an asset that's going to appreciate better, that's going to cashflow better. There are cases to do that. And I've done them. But looking back, like the example I gave earlier in the podcast, like I literally walked away from a million dollars that I could have made in 10 years. And that's just on appreciation, not to mention the cashflow that I could have made if I would have just held onto that property. So for me, my goal, everything you see behind me, I don't ever plan on selling. I do plan on leveraging some cost segregation studies and whatnot to help me buy more properties, to add to that wall, to add to my monthly cashflow, to add to my net worth, to add to the generational wealth that I'll leave behind to my kids. But other than that, I don't plan on selling. You make money when you buy real estate, not when you sell it. You make money when you find a good deal. You make money when you find a property that you can add value to. You make money when you leverage the tax incentives that the IRS provides you to maximize your income potential. You make money when you hold real estate long term. Now I know this podcast was short, sweet, and hopefully to the point. I hope you enjoyed it. I just want to add that all the insights and strategies that I've shared about buying, selling real estate and the tax advantages that come with it are all based on my personal experiences and understanding. However, I am not a licensed attorney. I am not a CPA. So please, before you buy, sell, or take advantage of any tax strategy, consult with a licensed professional. Get a good CPA. Get a good attorney. Don't just take my word for it. So with that, thank you for joining me. I got a wedding I got to head off to. In two weeks, I will be back with Christian Osgood, and for the rest of the year, I have some really great guests lined up. So I can't wait to sit down and talk with them and share that conversation with you. So until next time, God bless, peace out, and happy investing.