Think buying income properties, allowing them to grow in value over time, then exchanging them — tax deferred via 1031 — for the next 30-40 years is the ticket to your dream retirement? Think again 1031 Cult Breath. Here’s the wicked little surprise that’ll be awaiting you on the first April 15th upon retirement.

Think of a gigantic teeter-totter you’ve lovingly constructed during those 3-4 decades of investing and tax deferred exchanging. One end is heavy laden with tons of retirement income. Pat yerself on the back — great job. The other end of the teeter-totter is loaded with the $4.93 a year of depreciation you have left, due to a huge lack of Planning when it came to tax shelter for all that retirement income.

Oops.

A relatively recent change in tax law involves the taxing of ‘used depreciation’, called ‘Recapture’ at a different, read, higher rate than capital gains. You can pay 24% on the accumulated depreciation you claimed on your tax returns during the ownership of any particular property. You shrug, saying OK, whatever.

Here’s whatever — this tax is on a ‘paper’ event. This isn’t like capital gains taxes for which the taxpayer usually has cash from which to pay said capital gains tax. Nooooo — This tax will come from whatever money you happen to have on hand. So if yer a do-it-yourselfer, be aware of this potentially nastiest of surprises.

Finally, in the last couple decades I’ve been the bearer of bad news on this specific fact of real estate investment life about a dozen times or so. A couple of those times I was told BEFORE it was too late. Here’s the scenario. You bought a property eons ago, and now find yourself with a couple boatloads of equity. You decided to pull out a largish portion of that equity in the form of a new loan. You take the lion’s share of your new found, absolutely tax free (not deferred) cash to buy more property, pay off your Beemer, and write two tuition checks for a couple youngsters carrying your DNA.

A month later you decide it’s time to trade that property, as you’ve become aware of some superb duplexes in the Dallas/Fort Worth area. You sell the property, quickly turning it into a tax deferred exchange — following the rules at every turn. You close the exchange and are very pleased with the results. Then you fill out that irritating form your CPA sends you at some point every year around Halloween or thereabouts, which asks all kinds of questions in anticipation of that year’s tax return, due next April. Then you get the phone call. Your accountant says you may have an itty bitty problem, and by the way, why didn’t you keep him/her in the loop during the exchange?

See, you paid $200,000 originally, then borrowed $400,000 shortly before you did the 1031. You’re intent was pure — refinance to purchase more investment property, pay off your car loan, and get your kids through another year of college. Problem is, the IRS employs a very cynical group. They may send you a staggering tax bill for capital gains received via that very same loan you put on the exchange property just before you did the exchange dance. Why? Simple — You took the ‘tax free’ cash out via the new loan (here it comes) ‘…in anticipation of executing a tax deferred exchange for the sole purpose of avoiding the capital gains taxes for which you would’ve generated had you taken that same cash out of the exchange proceeds’. Have fun finding that wad of cash.

Oops.

Now to be fair, I’ve seen clients and other investors do exactly this and not pay taxes. Why? Who knows? My theory’s always been that it’s something most investors don’t do, at least on purpose, and it just doesn’t get picked up by those reviewing your return. But still, who knows? Not me. But like Clint Eastwood said, “Ya feelin’ lucky?”

Everybody have a wonderful July 4th weekend, and stay safe. Keep this post in mind when you call me the first of the week. 619 889-7100. Have a good one.

You can hand both these guys an incredibly well done analysis showing multiple options and their predictable consequences. They’ll both smile, then do what they’ve always done.

Over the last 30+ years I can’t count how many times I’ve demonstrated beyond debate how their revered approach had cost them hundreds of thousands of dollars, sometimes millions. A few times they’ve challenged me to show their CPA these numbers — much to their chagrin. See, I don’t have a dog in that fight. I care about one thing — which strategy gets them to their Point B faster and/or more safely?

Know what gets overlooked though? Whether to make a move at all. Guessin’ here, but roughly 15-20% of the time, I tell clients not to make any moves ‘at this juncture’. ‘Course they wanna know why, which is easy, almost always ending in some chuckles and a clearer understanding of the advice. For me it’s policy — Brown and Brown policy, which has been in place since Carter was in office.

If any proposed move, in my judgment, will produce marginal benefits, it’s probably not worth the effort — or the expense. My standard reply when asked to more precisely define ‘marginal’ goes something like this.

“I’ll probably benefit from this transaction more than you will.” That usually does the trick.

The honest, unbiased analysis of any particular situation will almost always indicate clearly what options are available. Sometimes the most prudent option is to do nothing. More times than investors realize, the best strategy will involve the use of several strategies combined to engineer the best possible end game for the investor. Things don’t always come out just ‘this way’ or ‘that way’.

The proper approach to the analysis of any move involving your real estate investment portfolio is legitimately analogous to science. An honest scientist may have a strongly held belief about a particular theory, but will brutally test that theory with one result in mind: Finding the truth. He’s just as happy to learn his theory proven incorrect as he would be to have had it upheld. He knows that no matter what he does to bias his experiments, he’ll never ‘prove’ water ain’t wet.

The analysis done to uncover if A) A move should be made. And B) what that move should be — MUST be executed without a care in the world about the results. It is what it is. Executing a strategy ‘cuz it’s the way you’ve always done it, is frankly, absurd. If you’ve always used a worm as bait to catch fish at your local lake, and insist on the same procedure when at sea fishing for tuna, the consequences of your stubborn mindset will find you without any tuna, but still very tired and sunburned.

If it makes ya feel better, most of the time the analysis allows for relatively easily made decisions. But the key is for the analysis to be completely without bias, or better said, a simple search for ‘what is’.

If you think it may be time for a few investment decisions concerning your current situation, call me at 619 889-7100 any time. If you miss me, I’ll get back to you pretty quickly. 95% of the time it’ll be the same day. Have a good one.

One client called me up laughing. Seems he came upon his high school sweetheart living a couple streets down. Ya never know what you’ll find and/or learn, but you’ll do both if you’re focused.

Here are some suggestions you may wanna incorporate.

1. Understand exactly what info you’re trying to unearth. I’d say rental amounts plus the physical makeup of rentals compared to yours is enough for this outing.

2. If there’s a manager, or someone who at least looks like they may be in charge, talk with them first. If you’re honestly straightforward with your purpose, they’ll almost always go outa their way to oblige. That’s been my experience since forever.

3. Make copious and highly detailed notes. Don’t rely even a little on your memory. After awhile they tend to blend together. Make sure to have each tenant’s address above all your notes on that unit. If you’re able to get in, even better. Tip: Get in ‘n out quickly, and thank the tenant profusely. Down the road it may be helpful if they remember you.

4. If a unit offers more or less what yours does, but rents for a lot more, be sensitive to why. Is it a half bath extra? More modern kitchen? 125 more square feet? A private garage? Pay attention.

Don’t mistake this as a highly detailed ‘how to’ on rent surveys — it’s far from it. That’s another post altogether, and almost always more effective conducted by a pro. Still, that part of the business isn’t rocket science no matter how ya slice it. It’s boots on the ground grunt work that often yields 24 carat nuggets. I’ve made incredible deals and dodged some ugly bullets as a result of a well timed, and thorough visit to the neighborhood in question.

BawldGuy Takeaway: Without exception — literally — nothing has been brought to the table technologically that has even come close to replacing human boots on the ground with a mission and an attitude. Nothin’. This is one area where eyes ‘n ears and some thoughtful questions will give you more insight and useable intel than you’ve had since you bought your units.

I’d love to hear what you found. Send me a note to let me know what surprised you, or better yet, what you learned was different than what you ‘knew’ before.
If you have more questions, give me a buzz, as I’d love to hear about your experience out in the world. 619 889-7100 will find me. Have a good one.

What they learned in fact is that they could study what an expert does for six months and not know what the expert’s forgotten. That may sound somewhat harsh, but step back a bit and ponder what an expert is. Not what our culture has done to discount the concept of elite expertise, but what our Grandpas told us. An expert is an authority on a subject or group of related subjects. An expert’s knowledge can be correctly described as comprehensive. Along with the comprehensive knowledge and authority comes experience.

So when we hear ad nauseam about all these so-called self taught ‘experts’ in areas of expertise common sense tells us hasta take longer than a few seminars, studying some notes, and applying various ’secret formulas’ for success? Go with your gut. There’s simply far too much to know, much less understand when it comes to investing in real estate. All these do-it-yourselfers, especially the ones who started out with the wind of luck fillin’ their sails, are now dead in the water — and don’t know why.

Look, experts can’t predict the future — I are one, so I can tell ya that without blinkin’. Our crystal balls are just as worthless as the next guy’s. Nobody could’ve predicted our current set of circumstances, though we still try vainly to do so at times.

Taking all that into account, expert advice simply cannot be duplicated by do-it-yourselfers. Let me amend that ever so slightly. I’ve met, in my four decades in this business a handful of do-it-yourselfers who were exceptions to the rule. 4-5 over a period of a couple generations ain’t impressive. The rest of the breed ends up in various forms of train wrecks, almost always with that ambushed, ‘what happened?’ feeling. Sometimes it happens immediately, sometimes it takes years, but eventually they’re like the guy driving way to fast in a thick fog — it’s just a matter of time before the inevitable happens.

Boom!! Party’s over.

As I said at the start, it hurts talkin’ with good folk who’re in tough situations even though they’d ‘done their homework’, ‘research’, and as one very astute, successful investor recently told me, ’sniffed the dirt’. (Hadn’t heard that one since my oldest mentor passed away a couple years ago.) Unlike the very experienced investor who said that, these poor souls went off the tracks thinkin’ all was clear cuz they had a false sense of ‘all clear ahead’.

Why?

That’s the sad part. They were, with rare exception, convinced they’d acquired the knowledge required to make superior, informed decisions — they’d declared themselves experts. When in fact, if you’ll allow a baseball analogy, they were great high school baseball players going up against seasoned pros. The outcome was known before the first pitch was thrown.

Do yourself and me a favor. Keep learning, but pretty please with sugar on top, stop thinkin’ your do-it-yourself approach is gettin’ it done for ya. It’s getting something done, just not what was possible. In the long run your outcome is almost certainly predestined — and it ain’t gonna be pretty. Understand the depth of your dilemma. It’s not the answers you don’t have — it’s the answers to the questions you have know clue to even ask that will ultimately derail your real estate investment train.

Thanks for allowing me to vent. Do-it-yourself types have the right idea, but learn far too late there’s a difference between understanding a few complex concepts and actually being an experienced expert. The only kinda train wreck I’ve ever seen is ugly.

Let’s get your train back on the tracks. If that sounds like a good idea, give me a buzz at 619 889-7100. Have a good one.

Your CPA can tell ya how many exemptions to add. The increased exemptions act to swell your take home pay. It all comes out in the wash at tax time, the same as it would if you indeed had a set of quadruplets. Why on earth would ya wanna lend Uncle Sam YOUR money at 0% interest if an easy as pie errand like walkin’ down the hall at work transfers those dollar$ from his coffers to yours?

Have a self directed IRA? Wanna buy something besides the huge losers who’ve been suckin’ you dry like a starvin’ vampire? Have your IRA buy some income property. It’s now easier than you’d think, and there are lenders who love to lend to IRA’s, really. At roughly 30% down, just over 3% appreciation yields a double digit capital growth rate. And yes Gertrude, there are regions showing gains in property value.

Are you in the military with solid credit and enough cash for either just closing costs, or only 3.5% down? (FHA is an option too.) Then you should strongly consider talking with a VA lending specialist — and surprise, surprise I just happen to know THE VA specialist in Southern California. Send me a note or give me a buzz and we’ll hook you up. Most of our military, both active and retired haven’t taken advantage of VA lending programs. Buyin’ a duplex or fourplex is a killer way to go, especially for 20-something officers.

Are you San Diego Naval officers listening?

Have a question about your current situation? 619 889-7100 will find me. Or you can dash a quick note to me. Either way, we’ll take care of ya. Have a good one.

Here are Another Investor’s Devil’s Advocate positions, followed by my thoughts. For the record, AI is one smart cookie. A very experienced investor with a keen analytical mind. Talking with AI is one of my new favorite things to do. So, here we go — AI’s point by point Devil’s advocate position — and my answers.

1. People want to live in SD.

True enough, but so what? In the 30+ years I’ve been an investment broker here, the tenants you describe simply don’t rent 2-4 unit props as a rule, or apts. either. They rent houses. Even at current prices, a well located SFR will sport pmts of $1,800 monthly. That’s before any expenses or vacancies. Buying cheaper homes for the more attractive price/rent ratio will be in relatively inferior locations. It’s surely a judgment call, but I pass.

2.. The best jobs attracting talented people are in SD.

That’s been true since Moses’ son died. Still, because of the dearth of residential development the last 20+ years here, the price/rent ratios literally forced me to take my company and its business out of state. The Texas economy is no longer hostage to energy. This was recently illustrated when prices went into a free fall from $140 to $40 in the blink of an eye. Our Texas properties either felt nothing, or lost the occasional oil related tenant, who was replaced in a timely manner with a quality tenant — at the same rent or higher. That argument is DOA.

3. Supply is constrained because there’s no more land in SD. That may be the biggest myth in SD real estate. It’s been a mantra for a long time, even as huge developments keep coming on line. The low supply of residential income property is indeed a fact of life here, but not for the reason you put forth. It’s been an economic decision by the builder/developers, plain and simple. The same land will hold apartments, condos/townhouses, duplexes/fourplexes, or single family homes. Developers opt for the largest profit, go figure. If the rents are so high vs price, and the quality of tenant is so attractive, why have they universally decided against building residential income? Their choices speak for themselves. It’s not a scarcity of land. In fact, pretty much the only residential income built in the last decade or so has been either luxury, or what I call ’super luxury’ apartments. The rents on them have been in the stratosphere, which is the only reason they were built in the first place — which conveniently illustrates my point.

4. Future value. If you hold coastal CA fourplex ’till it crumbles you’ll have development opportunity.

For most investors that’s either a mirage, a pipe dream, or the impossible dream. ‘Coastal’ properties are simply unaffordable to at least 90% of real estate investors. The days when 20% down payments made sense for a coastal fourplex are the poster child for ‘Death on a Cracker’. If you’re investing for retirement AND you can afford the coast, so many stars must align for that plan to come together, it’s far to big a risk. Capital growth is the name of the game for the first 7-8 innings of any Purposeful Plan which has retirement as its Point B. Huge down payments on ancient buildings make no sense, and the risk is not justified when compared to what’s available elsewhere.

5. Marketablity — relying on the infusion of Asian investors/capital for future sales.

As an investor banking on real estate investments in income producing property, does one really wanna rely on some future hope of foreign capital to still be around and interested years, maybe decades down the road? Talk about relying on an incredibly narrow piece of a skinny pie. I remember when Japan was gonna take over the world economically. How’s that workin’ out for ‘em lately? No, I prefer to rely on the fundamentals of supply/demand, reasonably predictable (is there such an animal?) markets, and large Sominex Accounts.

“For these reasons, prices should increase faster here (SD) in the future as they have in the past.” Another Investor

Unlike Phoenix, Boise, most of Texas, and other regions, SD hasn’t been building ’starter’ homes in any real volume. In fact we had our first ‘tract’ of million dollar homes come on line not that long ago in the North County area. Gimme a break. Our median home price, though battered into submission, is still in the mid-300’s. Compare that to the above mentioned locales. The Phoenix market is hot, as long as you’re talkin’ about homes under $100,000 — hardly comparable to San Diego. In Boise I consistently track the 2-4 unit market. Their present price/rent ratio is roughly comparable to what we’re consistently able to find in Texas. 20% down to 30 year fixed rate loans will yield solid capital growth while also generating positive cash flow. What a concept. Still, we’ll wait for Boise to settle down.

If prices do go up faster in San Diego in the future, it’ll only be repeating history. I took Brown and Brown outa SD precisely because of the relatively high appreciation rates, which I realize is more than a tad paradoxical. But think about it. Regardless of rising rents, historically low vacancy rates, and the predictably skewed supply/demand factor, the ultimate result down the road is a price/rent ratio that’s more of a punch line to a bad joke, than something about which to brag.

But most of that begs the question I raised in the post: Given a ‘dead heat’ in the analysis of all properties, why would an investor choose predictably increasing operating expenses, future if not current functional obsolescence, and/or capital expenditures?

As you said AI: “Your capital growth may not be best served by buying properties here. You gotta sit down and thoroughly review the numbers. Cash flow, equity build-up, and appreciation all have to be considered, and when they are, you may be surprised at what will grow your net worth the fastest.”

Which is exactly what I was trying to say. But the local biases of investors seem to either cloud or completely overlook the ‘black widows’ in the equation. I love your comments, and appreciate you taking the time to act as Devil’s Advocate. Stellar Job, AI.

Speaking of equations, let’s get one goin’ for you that has a magnificently abundant retirement to the right of the “=” sign. We’ll talk as soon as you call me at 619 889-7100 or email me using the Contact BawldGuy button up top. Have a good one.

It’s not that investors don’t want the best possible results for their capital. It’s almost always the meshing of objective and subjective gears — easier said than done, right? In areas like San Diego, Palo Alto, San Mateo, San Francisco, and much of L.A. and Orange County, the bias for local property over clearly superior options is still present. I’ll use San Diego as an example.

Prices for income property here have been slaughtered the last almost four years. A stone’s throw from my own office is a case in point. At the top of the boom it would’ve sold in days for closer to $600,000 than $550,000. Today? It’s on the market for about $400,000 and breathlessly awaiting offers. Assuming the numbers compare favorably with other properties out of state (not a supportable assumption more times than not), what would make the decision simpler?

For 90% of San Diego real estate investors, one factor alone should make their decisions far easier. I’ve been selling and/or exchanging income property here since the end of 1976. Property built that year in San Diego is now considered young. It’s not uncommon to see listings in some well located parts of town with ‘built dates’ preceding the end of the Korean War. Only 35 years old? A puppy in San Diego.

Most reading this aren’t from around here so I’ll ask you — everything else being equal, do you want the new to 10 year old property, or the one that’s older than you are? This doesn’t take into account another huge factor. Most of the properties we see and like in other states have offered what we consider to be superior product in terms of attracting better quality tenants.

A 45 year old duplex with a couple 2 bedroom 1 bath units sporting ‘I Love Lucy’ kitchens simply don’t measure up to the duplex elsewhere, built this year, offering 3 bedroom 2 bath units with modern kitchens and attached garages — usually 2-car garages. San Diego? If a duplex here offers garages, they’re almost guaranteed to be 1-car affairs and many times not only detached, but located in an alley.

So I pose the question: Why would an objective investor, armed with cogent, well done analysis opt for ancient units when the alternative is so obviously superior? Think about selling/exchanging those antique units years down the road. By then the investing public will have adjusted to out of state options to a much larger degree than they currently do — and a huge minority of investors around the country have adjusted just fine, thank you. What will it be like trying to find a buyer for property ‘less than half a century old’?

It gets worse when you’re nearing the end game — retirement. Do you seriously wanna be the owner of a bunch of income property which at one time could’ve housed sailors returning home from WWII? Do ya think that’ll impact your net income? Do ya think it’ll have a dampening affect on the quality of tenant and the rents those tenants will pay?

Staying local in the face of overwhelming empirical evidence of predictably inferior results will ultimately come home to roost at the worst possible time. Don’t let your personal biases guide you when analyzing your next move. It can and will cost you huge amounts of future retirement income and capital gains — not to mention the time and money spent on management requirements and maintenance/repair on the way there.

This is a serious problem facing hundreds of investors all over the country, but especially in California. Overcoming your bias for local property in the face of the hugely modified field on which we all must now operate, is imperative to the success of your retirement.

I implore you — take a step back and see what’s right in front of you.

Call me to chat about what you should be doing about now. 619 889-7100 will get you to me. Besides, I need a fix. Have a good one.

The ‘Plan’ is to post sometime tomorrow, preferably late morning. Have a good one.

Here’s the thing though. All maps are not equal. Let that resonate with you awhile. Imagine your GPS tells you to take a road temporarily closed to traffic. Simple right? You ask for a reroute. But what if your particular GPS isn’t programmed with every road on the map? Furthermore, what if you’re not aware of that minor detail?

Oops.

As an investor your ‘GPS’ is how much you know — about what’s involved at any given point in your journey. That’s a huge pile of knowledge. What’s the #1 lesson learned by all investors, no exceptions? That’s an easy one.

It’s the answers to the questions you never knew to ask that will ruin your Plan, no matter how well your journey has been laid out. Wanna see an example? Here’s one from earlier this week.

Agent from another state calls me. Says he spoke to a family who’d bought and sold their primary residences through him for years. They’d kept one of them, turning it into a rental back in the middle ’80’s. It’d appreciated a little over $200,000 since. They sold it, had it in escrow, and about a week before it’s scheduled to close, their ‘bookkeeper’ asks them about capital gains taxes. Apparently, at least according to the agent who called me, they were gonna ‘hand carry’ their proceeds check to a ‘neutral’ party — no really, they were.

What? (Not makin’ it up.)

Anywho, the punch line is this: They were about to be on the hook for over $250,000 in capital gains and recapture taxes. I quickly discerned the impending trauma/drama and made the proper fixes by remote control, through their agent. Mind you, their agent didn’t sell the property for them, as they’d sold it themselves to an acquaintance from work.

I’m told any time I visit their area, food ‘n drink are on them. Works for me.

That’s just one example, though I could literally post for weeks about nothing but those kinda scenarios which have been brought to me — sometimes sadly, after the horse was outa da barn. It’s not always about tax deferred exchanges. It can be something they missed out on, or finding out the mechanics they used shortchanged them on a potentially delayed capital gain.

BawldGuy Takeaway: Here’s the thing about the answers to questions you don’t know to ask. Bottom line? It’s like Grandma told me once about fishing — “Jeffrey Scott, you can’t know what you don’t know.”

All the best laid Plans aren’t worth the paper they’re printed on, if one of those answers ends up ambushing you. Paradoxically, sometimes the real estate investors most at risk are the ‘experienced’ veterans. They develop a false sense of what I term, ‘faux security’ when it comes to their options at any given time.

“It’s worked the last two times, why not now?” Geez, save me please.

Your retirement is far too important for one or more of these answers to waylay your own Purposeful Plan. What’s assumed in that word ‘Purposeful’ is that you know all your options in the first place. For many, that’s a deadly assumption.

I know most of those answers, nobody knows ‘em all. Good thing is, I do know the questions most don’t know to ask. Give me a call at 619 889-7100 or use the Contact BawldGuy button up top. Have a good one.

San Diego investors — here’s yer choice: You can buy the 2-4 units down the street that’s older than you are, or you can buy two outa state for the same money — and the rent will be the same as your Smithsonian duplex. Your pick,…take yer time…..no hurry.

Again for San Diegans — If you’ve tried and failed to sell your units or rental house/condo, it very well could be ‘cuz it stood out like a sore thumb in a valley full of sore thumbs. The way we list and sell local real estate comes directly from the ‘Take no prisoners’ book of Old School. Give me a call if you’ve recently been frustrated.

Had a short discussion yesterday with an outa state investor who was very experienced. People, there’s a reason we do before and after tax analysis BEFORE advising most clients which way to go. So often the 1031 Highway seems the obvious choice, then Bam!! it leaps out at ya — there’s another way that makes far more sense, and it’s a no-brainer. Folks who don’t Plan ways to move their equities onward and upward without the use of tax deferred exchanges occasionally often find themselves living a good news/bad news punch line.

Good news is, you just retired with a boatload of income. Bad news? It’s almost completely devoid of tax shelter — forever. Good luck.

Decisions made now will likely have a bigger impact than 10 years ago, or 10 years from now. Why? ‘Cuz whenever an extreme economic event has it’s negative way with us, those who didn’t wait for the shoeshine boy to show them the way have historically done better than the herd.

Finally, Thursday is lunch with Mom day, and she promised Josh and I steaks. Life is good.

Have questions? A bit confused? Should you make a move? About 20% of the time, my job is to tell folks to stand pat. Call me at 619 889-7100. We’ll figure things out on Purpose. Have a good one.