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Expand the Money: Step Up Your Net Worth Using Real Estate

expand the money

Summary: How can you use real estate investments to step up your wealth rapidly, in a matter of even just one or two years? In this post, we focus on several ways you can add and harvest value from your investment properties to step up and grow your rental portfolio quickly. This step of the Fast FIRE system isn’t called Expand the Money without reason!

 

Over a year ago, we introduced our Fast FIRE System, a framework for looking at how to grow your wealth in real estate quickly. As you may remember, there were four steps: See the Money, Make the Money, Keep the Money, and Expand the Money.

In this post, I want to concentrate on the fourth step, Expand the Money, using what we call step-ups.

A step-up is when you’re able to make a significant jump in the value of a property, which you then harvest and put into another property. The result is your net worth and your monthly cashflow take a jump forward. Do this enough, and you can shave years off of your journey to financial freedom.

There are several ways of taking a step up, all of which I’ll cover in this post in detail. Our goal is to give our readers some idea of the importance of consistently evaluating your portfolios for opportunities to step up your wealth, so when they present themselves, you’ll be ready to act.

 

Portfolio Theory

Before we jump into the ways to take steps-up, I want to speak to the value of looking at your collection of properties as a portfolio. When you have several buy-and-hold cashflowing properties, you can start to look at them as bets.

When you look at your properties in this manner, you can begin to see how some of them are over-performing in terms of cashflow, while others have maybe had a higher level of market appreciation, whereas others simply have not lived up to their initial cash-on-cash projections. And then, once you start looking at them as bets in a larger collection, you will probably be able to take a higher-level view and be able to see which ones need to be traded in. 

Thinking about your properties like this will allow you to emotionally detach, which may not be so much of an issue in the properties that are over-performing, but frequently it can be more of an issue when you’re evaluating properties that are underperforming. Sometimes it can be difficult to “stop the bleeding” by selling a property because you know you’re going to walk away with a loss.

 

Measure Performance

To be able to look at your properties as bets in a useful, unemotional way and make informed decisions, you have to measure performance (by looking at cashflow) and know your properties market values.

Knowing a property’s cashflow means that you are tracking expenses and income closely, including possibly even doing your own bookkeeping! If you don’t know one property’s current cash-on-cash compared to another, how can you decide which one is worth trading up using a 1031 exchange vs holding for several more years? 

You also need to know the market value of each of your properties to know if it’s worth selling them. Since there’s a significant cost to selling a property (10% roughly in Washington State) and a cost to doing a 1031 exchange, you need to have a compelling and accurate assessment of a property’s sale price in order to determine if it’s a worthwhile endeavor.

Now that you’re looking at the properties in your portfolio as bets and you’re measuring performance, let’s look at the ways to increase the value of your properties so that you can harvest that value and step-up your net worth.

 

How to “Expand the Money”:

A step-up in net worth ironically involves taking two steps. 

The first step is to add value to the property. You can do this actively by forcing appreciation. This can also happen naturally through market appreciation. 

The second part of a step-up is recognizing the increased value and then harvesting it. You can do this by selling a property through a 1031 exchange or by doing a cash-out-refinance. 

Most of these subject areas we’ve covered in other articles previously, just never as a system. Given that, we’ll cover these in light detail and provide links for the articles we’ve previously published so that you will have a chance to go more in-depth into any of these subject areas that particularly interest you. 

 

Forced Appreciation

You force a property’s appreciation when you increase the income (increasing rents or other sources of income) or decrease expenses.

There are lots of ways to increase a property’s income; we’ll cover one here for brevity. For a more in-depth read, check out our post on harvesting hidden value.

One of the most profitable ways to step up by increasing a property’s income is to buy a property in need of a significant rehab, do that work, and then increase rents disproportionately to the cost of the rehab. We’ve personally done this with most of our properties, and it’s literally added millions of dollars to our net worth.

All we have to do to harvest that income is to do a cash-out-refinance or sell the property after we’ve done the work. 

Note, once you’ve scaled up to bigger properties, 60 units and above, even a small increase in rent will force huge amounts of appreciation. This is part of the reason people tend to slowly change their portfolios overtime to go bigger and bigger using 1031 exchanges. Because once you have enough to afford a big building, your trajectory of growth expands exponentially.

If you want to see an example of that potential, check out the section of this article on our 32-unit. 

 

Market Appreciation

Market appreciation is mostly due to luck. However, you do have some slight control over it if you buy strategically in the path of progress. 

What that means in practice is you learn a market really well, to the point that you have a sense of the neighborhoods that are likely to boom in the next 10 years, and you purchase cashflowing rentals in those neighborhoods whenever you can find them. 

This allows you to increase the odds that you will experience market appreciation. 

 

How to Harvest Value

There are two ways to harvest the value added through market and forced appreciation: 1031 exchanges and cash-out-refinances. 

1031 exchanges are when you sell one property and move the funds into another like-kind property, while continuing to defer taxes. In essence, it allows you to get any lazy equity you have in a property from forced appreciation and market appreciation working for you tax-free, increasing your overall cashflow.

A cash-out refinance is when you have either forced or market appreciation and are able to get that property re-appraised at a higher value, and then get a new bank loan based on the new market value of the property. When you do a cash-out refinance, you can often get your property valued using the income method (based on rental income) or based on comparables in the area (based on market value). As an investor, you’re usually going to want to focus on banks that will value your property with the income method, so you can maximize your available funds. 

One way to really maximize how much of a step-up you can take from a 1031 exchange or cash-out-refi if you’ve gained value from market appreciation is to trade one property for another in a different market. 

Consider this situation: you sell a property at a huge profit due to market appreciation and then have to buy another property in that same market, which has likewise appreciated. You don’t really gain much. 

In comparison, if you were to take those 1031 funds and move them into a property in a market that has not experienced market appreciation to the same extent, you get much more cashflow bang for your buck.

 

Go bigger for exponential growth 

What do you do with the funds you’ve harvested through a 1031 exchange or a cash-out refinance?

Buy more properties of course! 

One way you can add more “bang for your buck,” though, is to buy bigger properties.

Why would you rather buy a large apartment complex than just continuing to buy small multifamily properties? While there is a little bit of subjective preference here (some people just feel more comfortable buying small multi-family and never decide to go bigger), there are a couple compelling arguments for buying larger buildings as you build up your wealth, including a lower cost per unit, greater efficiencies, and a greater effect per dollar in forced appreciation.

All of these benefits (and the few downsides) we’ll cover in a future article on Expand the Money focused on going bigger. 

 

Conclusion

The long-term vision for creating wealth in real estate involves earning money through making the money (buying cashflowing properties), keeping the money (utilizing the tax loopholes of real estate), and then expanding the money (through forcing appreciation, harvesting equity and rolling it over into bigger properties). 

If you apply these steps to each property and to your portfolio, over time it will grow as will your wealth. 

Do you want to learn how to creatively fund your real estate portfolio and achieve financial freedom? Join the conversation! Follow our Semi-Retired MD  Facebook page and join our Doctors or Professionals  group!

Semi-Retired M.D. and its owners, presenters, and employees are not in the business of providing personal, financial, tax, legal or investment advice and specifically disclaims any liability, loss or risk, which is incurred as a consequence, either directly or indirectly, by the use of any of the information contained in this blog. Semi-Retired M.D., its website, this blog and any online tools, if any, do NOT provide ANY legal, accounting, securities, investment, tax or other professional services advice and are not intended to be a substitute for meeting with professional advisors. If legal advice or other expert assistance is required, the services of competent, licensed and certified professionals should be sought. In addition, Semi-Retired M.D. does not endorse ANY specific investments, investment strategies, advisors, or financial service firms.

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Hi, we’re Kenji and Leti

we provide coaching and mentorship for doctors and high-income earners

Several years ago, we were newlyweds working as full-time hospitalists. On paper, it looked like we had everything: the prestigious careers, the happy marriage, the luxurious rental home, the cars, etc.

But in reality? Despite having worked for several years, we had very little savings. Despite our high income, we had very little freedom in terms of time or money.

One thing was clear: we had to do something.

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