Welcome to the InvestFourMore Real Estate Podcast. My name is Mark Ferguson and I am your host. I am a house flipper, I flip 10 to 15 houses a year, I own 13 rental properties with a goal to buy 100 by 2023. I’m also a real estate agent. I’ve been licensed since ’01, I run a team of nine, we sell close to 200 houses a year. So on this show, we like to interview house flippers, landlords and the best real estate agents in the business.
So stay tuned for some great shows. If you want more information on my rentals, on the numbers, how I buy properties, check out investfourmore.com
I have an awesome guest today, Michael Blank who has a very interesting history, software programmer, part of a software company, has owned restaurants, has invested in many multi-family properties, has flipped houses and has even done a little bit of commercial stuff.
We’re going to talk with Michael about his history, how he got started, some tips, some things he’s learned along the way as far as investing in multi-family raising private money and maybe a few tips if anybody wants to start a restaurant too. So Michael, great to have you. Thanks for being on the show. How are you doing?
Good Mark, thanks a lot. I appreciate it.
Oh yeah, no problem. Yeah, I found your bio really interesting so I’m glad you’re on. The first thing I always ask my guest is how they got started in real estate, what was the first steps they took? I know you were a software person, you are in that field, and then kind of — well tell us how did you get started in real estate from that state?
Well, I did what everybody should do and I got a Masters in computer science because that’s what everybody else should do. That’s how I prepared for it. I had no plans early on, I did what I was told which is go get good grades, get a good job with benefits. And I did though want to experience a software startup and so after several years out of college, I did actually join a software startup and this was in the late 90’s, right place, right time, I was one of the very early employees there and we eventually went public and three years grew from zero to $200 million revenue. We had offices worldwide and put a bunch of money in pocket, which was awesome. You know?
That’s how everybody want to start right?
Yeah, so life is great. I’m young and I just got married and whatever, it’s great. This was now in 2004, I read “Rich Dad, Poor Dad” and I’m like, “Ah, I am such an idiot.” It doesn’t matter what I have in bank account because if I stop working tomorrow, the money stops flowing and that just didn’t appeal to me. Initially, my plan was to have my own software company. Before this, I had moved around inside my company with the marketing and also in sales at the very end which is the toughest job I’ve ever done by the way and it’s the sales stuff. I learned a lot.
Anyway, so I read “Rich Dad, Poor Dad” really reflected on what I want to do next and I said, “You know what? I think I’m going to can my entire graduate career and all that stuff and I’m going to do the Rich Dad, Poor Dad thing.” So I did two things at the same time because I basically quit my job at that point and I had all this money in the bank so I had the time. I focused — a cash flow business for me was restaurants. I knew some people who got into a franchise, a very popular franchise at the time and they were like, “Yeah, you hire a guy to run all these restaurants. You just build them out and you sit back and you count the passive income”. I was like, “That’s great! That’s exactly what I want. I don’t know anything about restaurants. It doesn’t matter, let’s do it.”
On the real estate side, I decided to flip houses. I align myself with a local mentor and at the time, it was 2005 and 2006, the market was red hot so we’re sending out postcards. That’s what we were doing. We were looking at sending out postcards, setting up the 1-800 number, taking the calls and I flipped a few houses and I did two houses that made more than my entire salary at this company. I was like, “Wow, that is just mind blowing!” And so I did a few more of those, kind of did it on the side and finally we got started with the restaurants. It got very busy on the restaurants but I decided I wanted to get into commercial real estate.
So I went into a boot camp and started marketing in Texas and starting out letters and brokers and building teams. I must have looked at like a 100 deals. I swear hours and hours of crunching numbers and spreadsheets and making offers and finally, I had an 82 unit under contract and I had it under contract for one day because I thought about it and said, “Oh my gosh. If I play this thing out, I’m going to have to be in Texas for days on end.” And we had just built two restaurants and we’re buying a restaurant. It was nuts. There are only so many hours in a day so I need to pick. I need to choose. And I was very heavily invested in restaurants so I put the whole real estate thing on hold for all of 2006, 2007 and 2008. It makes me look like a genius because I missed the entire recession but it bit me on the butt on the restaurant side. I mean no one came out unscathed in that time.
And then in 2009, I decided as thing stabilized and I got into house flipping full blown and not just a hobby but as a business and it was quite different. I had deployed almost an entire net worth in these restaurants. I had a 20 unit plan in my brain. I had a whole business plan worked out, it didn’t worked out that way but my whole plan was 20 units. I’ll put all my net worth in this three or four or whatever restaurants and that will carry me forward. It will be my core business and I’ll expand from that. That was my grand master plan. So I was essentially semi-retired at this time doing these restaurants and counting my passive income and got into flipping houses but hey, I had none of my own capital.
So the only way that I could do it was to raise it and I had raised money from friends and family, a substantial amount of money. We did about 30 properties in three years and it was a lot. It was the first time that I got the taste for other people’s money. It was only because I had none of my own anymore. It was all deployed and I was like, “Wow, the raising money thing is mind blowing. It’s mind blowing!” I did eventually get into the commercial space and bought a small 12 unit building in Washington DC and that was my first syndicated deal, which means that private placement memorandum, subscription agreements, operating agreement and really kind of did it the right way.
And then a couple of years later, I did the same thing for two restaurants. So I syndicated the purchase of two restaurants and currently have investors looking for additional deals. I’ve really done a lot of different things. My focus currently is really apartment buildings and I’ve been getting out of the restaurant business and investing myself of that and really focused 100% on apartment buildings.
Very cool. Yeah, you talked a lot of different things there but one thing I wanted to get into and before we get into the real real estate side, I’ve always had a dream of opening a pizza restaurant myself. I mean not really because of the money but I like to make pizza. I know it doesn’t really make sense to make a pizza restaurant because of that, but tell me what was the biggest challenge you had and the biggest thing that surprised you in the restaurant industry?
Here’s the thing. I got into the restaurant business without really having a restaurant experience and it was okay at the time because I wasn’t actually running the restaurants. The only thing I did was write checks and I did the marketing because I am pretty good at marketing but I hired a guy to run all these restaurants.
So the lesson on the one hand is align yourself with people who know what they’re doing if you don’t. That’s lesson number one. Lesson number two though is don’t get into any investment that you’re not afraid to run one day and that’s what happened to me. When the business stopped performing, I couldn’t afford my guy anymore and I let him go, which means now, I am running six restaurants. Well, not only did I really know much about restaurants but I didn’t really want to run six restaurants.
And so there was lessons all round in that and I’ve always known that I’m not a restaurant guy. I enjoy the marketing and I enjoy interacting with people and getting them to perform better and to realize their full potential. I love that, but I don’t love the actual restaurant operations. So I guess it’s the same thing for real estate really. I mean do you really have to love the real estate part of it? Not really but it helps. The advantage of the real estate especially on the apartment buildings, first of all you have a property manager built into business model. You don’t have that built into restaurants necessarily. You have to make sure that the opportunity allows for it.
But with apartment buildings, it’s already built into business model. Mostly everybody does it and if they don’t perform, you’ll find someone else. It’s not like you’re going to be collecting rents yourself on a 30 unit building. So that can’t happen or is less likely to happen on a multi-family front than any other business that you own.
Right, well I imagine if you are looking to find someone to manage six restaurants versus a property manager to manage an apartment building, it’s a little easier to find a property manager than someone with restaurant experience.
Yeah, exactly. A restaurants are a very complex business, it really is and you have to know what you’re doing but you also have to have the heart for it and the passion for it. There are people who really love it and if you’re that kind of person, good for you. If not, maybe you should rethink the investment.
Right, no, it makes total sense. You went from the restaurant business to flipping houses. That’s a lot of flips, 30 properties in about three years or so. I’m curious, we’ve talked to a lot of flippers, one big surprise was you made so much money on your first deal because so many people end up losing money or it becomes an education process instead of a profit process.
Oh I lost money. Don’t get me wrong. It was not on those first two though. It was like deal 17, which is good. If you lose money your first deal, you’re probably not going to do your second. It’s just my guess. You’re like, “Ah, that sucked. I’m not doing that again.”
Right, yeah, I know it makes it tough. When you’re doing those properties, what was your biggest challenge flipping? Was it finding contractors or like I said, was it finding the money?
No, finding the money was actually relatively easy and the reason was because it’s a single family houses, people know and understand single family houses. It was a relatively small amount of money, $25,000. It was a simple transaction. They got a promissory note that the title company handled. I was $25,000 in, secured by real estate, six month hold, very short time and 12% interest, everything was right. It was an easily understood investment, low risk, high reward, complexity low, people said yes. Okay?
The apartment side and restaurant sides, raising money for them was much more of a challenge but — so the money raising side, what surprised me at the money raising side was actually easy on the single family house. What we struggled with is definitely, as you pointed out as you know, is the contracting side. I had to actually hire a project manager. It was a contractor that did one of my houses and I said, “Why don’t we work closer together? We’ll put together a comp plan. You manage all of the construction side.” And it was too many months into it until I realized that this guy was in way over his head. Way over his head.
He was a great contractor but had no people or administrative skills, which you need for managing other people. We really didn’t make as much money as we should have and we lost some money as well because of it until I found the right guy. The right guy that had the capacity, that communicated well, had good people skills and it’s all about the people you have around you as you know. You have some that you find you’re having to micromanage and I tend to do this more than others.
I’m like, “I can make you be the person you can really be. I’m going to work with you. I’m going to make you my project.” And I’ve done this so many times now that I’m like, “Stop that. You probably have the wrong person.” Obviously, you want to further someone but when you’re micromanaging someone, not a good sign. So this guy did not have to be micromanaged and life was quite a bit different. So definitely having a strong contracting team around you is critical.
Nice. I’ve got 11 flips going right now. And I hired…
That’s a lot.
Yeah, it is. It’s a lot and it’s tough to do that and I hired a project manager, just like you said, earlier this year. He’s one of my contractors but he also had a management background in the corporate world. It’s going slower than I thought it would getting things in place but it’s moving along so I’m hoping next year things will be much smoother. We’ve got the processes down but yeah, try to do that all myself — I was trying to do it myself before and I was taking up to a year to flip properties because just managing the contractors and getting them done was insane.
It was insane, right?
Yeah, so tell me more about the private money? How did you structure this deals and allow people to buy in for $25,000 at 12%?
Right, so I thought it was a very complicated process in the beginning but really, it’s much simpler. So here’s how it works; you get your verbal commitments from your investors. They then essentially wire the money to the title company and they in turn get promissory notes that you sign at closings. They put their money in escrow and in return get promissory notes and those are recorded on the deed. If you have multiple investors on there, let’s five or six, they are all listed on the deed. Right? So I couldn’t sell the house and not pay the money back. It’s all in the deed.
If it’s a different title company and I’m selling it, they see it on the deed and it references the promissory notes, they have to disperse those. It’s just like a bank essentially. Jus like the bank. So they’re protected, it’s a well understood process but I found that not every title company understood the process. It’s not like every title company, they will look at you and go, “I don’t know how to do this”. You can’t do that.
So you have to have a title company that understands that but otherwise a very well understood, very simple process. And that’s how we structure them together. It was basically a simple promissory note, 12% interest per year and when you sold it, there is a payoff. You calculate the interest accrued to that point and you pay it out.
Nice, were you able to finance your payers with the whole purchase price of these properties or were you bringing in your own money to it too?
No, you raise as much money for the purchase price, closing cost and the repairs. And in the beginning, I wasn’t raising quite enough, so I would like for example, if a project went over I had to put my own money in so I raise a little bit more the next time around You maybe raise a little bit of $10,000 more than you need in case there’s an overrun. That’s probably a good thing to do.
Very nice. Very nice. Did your investors have a problem with or being price point with these properties they’re at and having four or five different people on the same property or did they trust you, trust the process and just go forward with it?
Yeah, that’s good point. These are friends and family acquaintance kind of people and I guess maybe they trusted me but I think it’s a good point. I mean in a false situation, if theoretically it’s five investors in a deed, how do you foreclose on the property? You have to know who the others are, they have to organize and you have to agree and basically, it will be a nightmare. Right?
So this is why a hard money lender will never agree to share the note with anybody because of that. But these are not sophisticated investors. These are friends, family and acquaintances and they essentially trust you that you’re going to do the right thing. Yeah, you’re right. I mean a hard money lender would not agree to that.
No I think that’s just a good point that when you’re getting private money, there are a lot of these companies popping up that claim to be private money online and across the web and what they really are is hard money disguised to be private money to try to attract more people. But real private money is what you said, friends, family, acquaintances, people you’ve met along the way who are just personally basically giving you money and you give them a return.
Right, I mean hard money, I’ve done a pseudo hard money early on. It was a sophisticated investor who basically behaved like a hard money lender and those are hard because the term is nearly six months and if things go longer, you can get into trouble. A lot of hard money lenders are very heavy handed and they’ll just start the foreclosure process on you.
In my case, when something took longer and in one case, it took significantly longer like six months longer on one project and one took like eight months longer. So this was like 14 months total, now in that case, I just called my investor and said, “Look, I need an extension, you’re going to get more interest. Here’s an addendum for the note that extends the note by six months”. They’re like, “Okay,” and then everything is fine.
Whereas a hard money lender will start calling you every single week and they’ll start getting involved and they’re going to start looking to see what’s going on. So private money in the traditional sense is actually superior to hard money with a little extra work, it’s much better.
Oh yeah, completely agree. So what steps do you go through to find this private money and how did you pitch your projects to them? Was it difficult asking friends and family for money?
In the beginning it was and I struggled a little bit by asking friends and family who, you know, I might see for Thanksgiving for example. I have people still ask me to this day. “You know what, I don’t take friends and family money.” I’m like, “Really? Wow, you just cut off 90% of your sphere of influence if you do that.” If you understand it better, they’re afraid that they’re going to lose someone else’s money. Okay, fine. I get that. But even if you lose a stranger’s money, you’re still losing someone else’s money.
So really, the spectrum it’s really not there. It depends on, and to answer your original question — how do you approach people? — it depends on where you are in your experience level. If you have a track record, then you could put together a portfolio, you know, before and after pictures. That was extremely useful when you half dozen you can show before and after pictures and what you bought it at and how much money you make. People will go, “Ah, that’s cool. This guy knows what he’s talking about”.
In the beginning though, you don’t have that and so what do you do? What I did was I made up a portfolio and I basically just went and looked at houses and put together essentially a business plan for a house. I went and looked at one, got the MLS, looked at the house, took photos, put together photos and then put my scope of work how much is it going to cost, have the comps together and how much is it going to cost. A whole business plan for this house and I said, “This is what I’m going to do. I don’t have this under contract but when I do, it’s going to look just like that.” And people will look at that and go, “Oh yeah, this guy knows what he’s doing. I see what he’s doing, he’s got the comps,” and it at least allows you to build some level of credibility until you get that first or second success story.
Nice and well you said something really important too in that you had the comps, you had the numbers, you could show them that “I could buy it for this, I have this much repairs, it will sell for this.” I hear a lot of people trying to pitch private money and go look for funding and they don’t know those numbers. They say, “Oh I got this deal. It’s $60,000 and I think it’s worth somewhere between 140 and 180.” It’s like, “Well with the repairs what is it?” And they don’t know. And it’s like you have to know as much as possible to convince someone you know what you’re talking about.
Cool, so you went from the flips, you still had that restaurants at that time and then you went looking into the multi-family commercial space, what made you want to jump into that space as oppose to single family?
Well, my plan always was commercial real estate apartment buildings, a buy and whole long term wealth creation. That’s when I got started in 2007 I went out to the boot camp. I was hot and heavy for about nine months. I really spend a lot of time analyzing deals, building a team, sending letters and then, like I said, I put that on hold. That was my initial plan. The reason that I really got into more flipping is because the market is so unique in 2009, 2010 and 2011. We had so many foreclosures, such a supply of cheap property and then in our area, the Washington DC area, as many parts of the country the retail market was recovering so quickly so that the spread was enormous. There was not a lot of people doing it and it was very easy to get property and very easy to sell.
And so I knew it was a narrow window of opportunity that I felt I needed to take advantage of and I put my multi-unit on hold a little bit until finally I started taking action on it. But really that’s been my plan all along. I think there’s a lot of people who feel like they need to go to a single family route first before they can graduate to apartment buildings and looking back on it, I don’t actually think that’s necessary. In fact, depending on what your goals are, it could be a major distraction.
Okay, cool. So now, I’ve got my 16 rentals, they’re all single family except for one kind of up down duplex which is pretty much a single family anyway. What attracts you to multi-family more than single family? It’s okay if you disagree with me. I’m okay with that.
You know I hear you Mark but here’s the thing, It all depends on what your goals are and sometimes, you’re going to have the same goal and you can get there in different ways. I will approach it for “what are your goals and how do you achieve your goals?” Let’s say that your goal is that you want to be able to retire in three to five years or whatever the case maybe. Meaning that you need enough passive income off of something to quit your day job let’s say.
You decide that you need, I’ll make it up, $7,000 a month and now you figure out, “How am I to use real estate to accomplish that?” And you start looking in single family houses because that’s what everybody thinks and starts off and you stay. “Well yeah, I can maybe in my area buy a house and after all expenses maybe I can make $200 or so per month.” And you divide that number into $7,000 and I can’t do math in my head but it’s a pretty large number of houses that you would need.
Then you start thinking to yourself, “Oh shoot, that’s a lot of houses that I need. Am I going to get there in the kind of timeframe that I want? Or maybe I’m going to do one or two houses a year and I’ll get there in 15 years,” or something like that. And that’s fine, the one deal per year strategy is a fantastic retirement strategy. “Or do I want to try to get there faster?” And if you want to get there faster with single family houses, you’re going to have a challenge with that because it’s a lot of transactions versus if you decide that you either control a 100 units using, let’s say, using private money to make $7,000 per month. I can probably get there in maybe two or three deals versus 100 individual houses. I maybe do my first 15 unit and then I do a 25 unit and then I do whatever is left, a 50 unit after that. So I’m in there in three hops versus hundred individual hops.
On the other hand though, it’s harder to buy apartment buildings. You need more capital, it hard to find the deals. It’s easier to get the capital through single family houses and it’s easier to do deals. So I know guys who specifically have portfolios of rental properties and they raise money for that because that’s what’s working right now and that’s the strategy they chose and the strategy is fine but a lot of people don’t really think about what their goals is and the time frames they want. They feel like they need to go through the single family route to get where you really want to go and that’s a huge myth.
If someone really wants to get to multi-family apartments for passive income and long term wealth creation, they don’t need to do single family house. It actually doesn’t really buy them as much as I thought it would. I thought when I flipped the houses it would be a shoe-in to go into apartments. But all of 30 investors, I think only one or maybe two actually went with me on the apartment side. Everybody else said, “Nah, not for me. Forget about it”. Then when I talk to the brokers, they go, I’d say, “I flipped 30 houses and now I’m going to buy your building.” They’re like, “Yeah but how many apartments have you done?” I’m like, “Well none but I did 30 houses” and they’re like, “You’re a newbie.”
And I’ve got very little credit for my house flipping career. I mean all my portfolio that I built up my nice pretty pictures don’t really buy me anything. I’m like, “Well shoot, everybody told me or I thought that this would let me get in there more easily here,” and that was actually not the case. I realize now that the reason people think they have to go to single family house is to expand their minds to get more comfortable with it but there’s actually other ways to do the same thing without actually going through single family houses.
Right. That makes perfect sense and when I say I invest in single family, I always tell people too, that doesn’t mean that’s the only way to do it. That doesn’t mean it’s better than multi-family but I think in may particular market in Colorado, I can make more money on single family than multi because our cap rate is 5% on multi-family and there’s nothing available but if you’re in somewhere else with more multi-family or a better cap rates, it can definitely make more money than single family.
Yeah, that’s exactly right and so you’re trying to achieve the same goal with a strategy that’s working where you are and if you try to pursue, for example multi-family in a hot market like San Francisco or Boston or wherever else, it might take you a very long time to get there. Unless you’re willing to invest in other markets which is always an alternative but you’d say, “Hey, I want to stay local. I don’t want to hop on a plane and do something remotely I would know. I would do something here.”
You thought about this and what I’m saying is I’m finding a lot of people don’t actually think about this in a lot of detail. They just do it kind of without thinking because that’s what everybody tells them to do. I’m just saying that you’ve got to think through the strategy and make sure that it aligns with your goals.
Yeah, I know. That makes perfect sense. Well you said one interesting thing too, it’s much harder to buy large multi-family apartment complexes. I imagine it’s harder to raise private money for them too. How did that process differ from purchasing a single family flip?
It’s harder for several reasons. One is normally, the minimum investment is higher than $25,000. I don’t want 50 investors on a deal, so minimum investment is higher and that disqualifies a lot of people who either don’t have that money or don’t want to invest that kind of money. Second of all, it’s a longer hold period. It’s normally five years until we either sell or refinance. It’s much longer than six months. A lot of people are not comfortable with that.
Third, it’s a more complex transaction. There’s much more paperwork involved, there’s operating agreements, there’s private placement memorandum, there’s attorneys involved and normally a confused mind says, “No.” So for those three reasons it’s harder to raise money for apartment buildings.
Yeah, no that makes perfect sense and what about finding those deals? Have you found it harder to find those deals? Is that why you are going to different locations, different areas?
Yeah. It is clearly and this market right now is definitely fairly hot because of the current stock market, a lot of uncertainty in the market, a lot of people are putting their cash on sidelines and when you tell them you can put your money to work for 10 or 15% over the next five years, they’re like, “Okay, tell me more”. There is a lot of cash on the sidelines, a lot of people are willing to overpay to get that certainty and that stability.
There is also a lot of four money chasing US real estate and so it makes it difficult to get stuff that’s listed kind of like it was in 2005 and 2006 in a single family house market where investors were not looking at the MLS anymore. What we’re doing now is we’re going back to the old days, meaning 2005-6 we’re going to get deals through sending letters, postcards, networking, knocking on doors and we got lazy over the last decade because there was such a great supply of real estate.
I think we got lazy a little bit. People say, “Oh you can’t,” that doesn’t mean it’s not laying around anymore which means you actually have to work a little bit. And so I think that’s what we need to do. We need to start working at it a little bit more like we did a decade ago.
Right. I always tell people if everybody can invest in real estate and make a bunch of money, there wouldn’t be any profits left over. There won’t be a great opportunity for those of us who do do it, who put the work in and can find those deals.
Cool. So I keep hearing you say “Private money, private money,” do you ever use bank financing?
Yeah, absolutely especially — I mean real estate, it’s the only business in the world that you can get bank financing for. I mean on the restaurant side, it’s an all cash deal. There’s no bank that’s willing to loan on a restaurant or any other business for that matter. Unless you have real estate as a collateral which again is real estate. That is why I love real estates, apartment buildings specifically because you can get an 80% or sometimes more from bank financing and it’s almost free. I mean 4.5%, that’s like free money. It’s ridiculous I love the leverage of what you can do with that. It’s such a unique thing.
Yeah, I know. I completely agree. Walk me through a multi-family deal. It sounds like you find the deal, you get your private money investors together and then how does this syndication work? How do you make your money? How does it all come together?
Yeah, a good question. First of all, the raising money part starts way before you get your first deal or any deal under contract. That’s the first thing because you have a chicken and an egg problem and it goes something like this. I can’t put a deal on a contract because I don’t have my investors so I can’t put a deal on a contract or I have a deal and a contract and now, I don’t have enough time to raise the money, which is also true, so what do I do?
Well, I’m stuck and I’ll just give up versus what I’m doing in a multi-family is the same thing that I did with the house flipping when I first got started. I make up a deal. I literally make up a deal. I will create a business plan pro-form of financials projections of a real deal with a real photographs and real financials and everything about the deal is real except they don’t actually have it under contract but I use it as conversation piece to start reaching out the potential investors.
I would say, “Hey, here’s what I got going on. I’m really excited. Here are the potential returns, some of the risk. Let me show you what a deal might look like, are you interested?” They go, “Yeah, let me find out a little bit more about that” and you address their concerns and their objections. You build a relationship with them and at one point, they’d say, “I’m good for a $100,000, just let me know when you get a deal” and you stay in touch with them until you actually get one under contract.
Then you create an investor package that substantially looks like the one they saw before. When they get it, it looks about the same but the pictures are different, the numbers are a little different and they have a comfort level and they can quickly say yes. Essentially, you get your verbal commitments upfront for either all the money you need or let’s say, at least 75% of that and that’s the work you do beforehand because it will be very stressful and some people do this and God bless them.
They will actually put a deal on a contract and then they go raise the money and they hit the phones and they get it done by the skin of their teeth and they write a book about it. That’s great and I’m not a last minute guy. I like to reduce my stress in life. At least I set myself up for success where I have at least most of the money, if not all of it verbally committed upfront. When you get something on a contract, the first thing you do is you create your investor package.
You send it to investors and say, “Hey, I got this deal. You said you were in for a $100,000 are you still good?” Yes or no and for more and for less, that’s great. The next step really is that, you’re going to get an operating agreement for your review. You’re going to review that and you have to sign. You also get a private placement memorandum which is a really long boring document that discloses all the potential risks about the deal, about the tax consequences about me.
You don’t have to sign it and you don’t even have to read it. I’m required by it to see laws to give this to you. You can throw it in the trash if you want or read it, whatever and there is a subscription agreement that says that they’re investing a certain amount of money and that they’re either a creditor or not and creditor investor and again, to address some of the SCC requirements. The most back and forth happens on the operating agreement.
That operating agreement governs the rights that the investors have versus what you as the general partner have. What kind of voting rights they have, what you can do, what you can’t do and so that really governs the relationship and that’s the important piece that they have to review and sometimes, there’s an attorney involved to review that document. Once everything is signed, then they have to wire the money to the closing attorney where they do in a single family house.
Then the closing attorney disperses the funds. That’s how the closing happens and I think your other question is how you pay yourself on it, right? Was that your other question?
Right. How do you make money? Because they’re investing the money, you’re not managing the property right? You got a property manager in place, so what’s your role in the whole besides finding the deal, what’s your role after you buy it?
Well, your role clearly is you are managing but you are managing the manager but look, if your property manager doesn’t perform, you’re going to have to go out there and replace them. You’re going to have to interview, you have to make the rest and you’re still managing the assets. It’s called asset management. You are still reviewing the numbers and you’re making adjustments.
For example, one of my deals, I end up replacing my property manager because they weren’t performing and it wouldn’t get the job done. There is not really a fit and so I was spending way too much time micromanaging back to them. I was micromanaging the manager and I was like, “Dang gone it, this cannot be. Everybody told me this was a passive investment. Something is not right” but I knew that if I wanted to go because I interviewed a bunch of property managers.
If I had to go out now and interview a new property manager, it’s going to take time and I have to get into the car and I’m going to have to meet them. I was already in the passive income but you’re just not getting the job done. There is actually work in managing the manager and reviewing the numbers and making certain adjustments. My conclusion Mark is, there is no such thing as a truly passive investment and I’ve made the mistake on the restaurant side.
I sat on my own retirement for probably three and a half years while I didn’t go to a single restaurant. All I did was meet my multi-unit guy once a week for lunch and pat his shoulder on the back and I completely went radio silent on the restaurants and it bit me on the butt real hard and the same thing can happen on any investment. Whatever you have, it is passive to a degree but it can’t be so passive that you don’t know what’s going on and you’re completely in silent mode.
There’s a lot of work that you’ve done leading up to this and there’s a lot of work you need to do during it. You deserve to be paid in various points of the deal. The first one is, when you buy it. You pay yourself an acquisition fee between one and three percent of the purchase price. If you do a million dollar deal, a quick math is $30,000 or so. It can be a nice payoff but if your investors are having a hard time with this, you can educate them a little bit about what happened for you to get to that point. Which is you probably look at a hundred deals before that one literally, analyze a 100 deals and maybe made 20 offers, got really close on five of them and you actually end up buying this one. If you calculate the hours spent up to this point, you are working for minimum wage frankly. You deserved to be paid, to get up to this point and that’s number one.
Number two, you can pay yourself an asset management fee which is normally either a percentage of income from the property or percentage of the assets or the equity that was invested. You can slice it either way, one to two to 3% of that and that really compensates you for the work that you’re doing while you own the asset and then there is a disposition fee, again, one, two or whatever percent of the purchase price whenever you return to principle.
If you do a cash out refinance and you return all the principle to the investors, their risk is off the table, you deserve to be paid for that. Having said all that, those are different ways you can pay yourself but having said that, the deal has to be driven by the investor returns. They’re the number one priority. If you pay yourself at the expense of the investors, it’s a bad deal.
If you don’t pay yourself at the expense of investors, it’s not a win/win but at least you’re in the game and your investors are making the money or the returns and you’re building a track record right? The worst is that you pay yourself and asset management fee while the investors are not getting any distributions at all, it doesn’t look good at all. It leaves a bad taste in the investor’s mouth and they’re going to get disgruntled and may not even want to invest with you in the future. You have to make sure that when you structure a deal, try to pay yourself but make sure that the returns are still there for the investors.
That makes sense, I wasn’t trying to say you didn’t do any work, you didn’t deserve that money but how you get paid. One thing I’m curious too, with the flips, you would pay the investors 12% interest no matter what happens right?
No matter what happens.
On the multi family, you’re paying them a return based off what the property makes instead right?
That’s right but again it depends on how you structure a deal. You can structure a deal where they get a preferred return of some amount. Let’s say I agree to pay them a five preferred return and then we’ll do a 50/50 split above and beyond that. For example, that 5% is essentially like an interest payment. Quote guaranteed regardless of how the property performs and then whatever’s left is then split 50/50.
It depends on how you structure the deal, the investor’s always like preferred return and the preferred return though is not good for you. Because if the property is not going according to plan and all you’re doing is paying out the preferred return, if you don’t pay it out in one year it accrues in the first the next year. You get deeper and deeper in the hole and you actually never get paid anything. It’s great for the investor but not really that good for you.
Right. What about ownership? When you do this deal, are you the sole owner or do the investors have part ownership as well? How does that work out?
There’s ownership and there’s control, they’re two different things. Let’s say on a standard deal I might give the investors 80% of the equity for putting up all the money and I get 20% simply for putting the deal together and managing it and making sure everything goes well. Depending on the deal, 10 to 30% should go to you. They are in fact majority owners but depending on how you structure your operating agreement gives them limited control.
I have one deal that essentially are my friends and family and they have no say whatsoever. I can do whatever I want, how I want to do it and they have no say in it. I can sell a building and refinance, I can do whatever I want. They’re fine with it because they trust me and they trust I’m going to do a good job. But I have another deal that are more sophisticated investors and they want more control. So I have a sandbox that I can operate and I can’t hold back more than a certain amount of reserves, I can’t borrow more than a certain amount, I can’t sell it without a vote, I can’t refinance without a vote. if I commit some kind of fraud, they can actually vote me off the island and take control of the asset.
You can do it if there’s a default situation they can take over, if you default on any contract that define the operating agreement, they can theoretically buy a vote literally, it all depends on what the investors, whatever the investors want. It’s equity versus ownership and they don’t necessarily have to be the same, it all depends on the how you structure the operating agreement.
Cool, interesting stuff, I know it can be complicated but very interesting on how you set those up. I am curious. What type of buildings do you typically go for? Are you going for older buildings, newer buildings, are there certain unit sizes you look for or just whatever makes money?
It depends and the answer to those question is going to be different for everybody depending on where they are. If you’re a newbie investor, you’re looking at anything from duplexes, quads, up to maybe a 20 unit. If you’re a more seasoned investor you’re going to look for something a little larger than that. It depends on where you are, with regards to opportunity, the ones that you’re looking for a certain kind of opportunity because it’s one of the only ways you can get your returns which is value add opportunities.
What’s a value add opportunity? A value opportunity is something where you can do something to raise the overall income of the building, which in turn and raises the value of the building. The higher the income, the higher the value. The reason for that is, especially because it’s a relatively hot market now, if I’m buying something in a fair market value, I can’t achieve the returns for my investors and still pay myself. I can’t do deals like that but if I buy something at fair market value and it’s under performing asset, meaning that the rents are maybe low, the expenses are high because the renovations I should be making so I can raise a rent or maybe the rent’s haven’t been raised in 10 years and just low.
If I go in there and I do some stuff because I’m an entrepreneur and I need to do stuff, I need to improve stuff, I raise the income and therefore I raised the value. And when I refinanced and/or sell, I now can have a higher return and that’s how I can achieve the returns for the investors. Or I buy something at a really high cap rate. Meaning, I’m getting something cheap, I’m getting something at a discount, kind of like you do on the house flipping side, you’re getting something cheap and you get lucky every once in a while where you just happen to get a motivated seller and willing to let it go just to get rid of it.
Those are rare, you can still get them but those are rare, I can’t build a business around that, even on a house flipping side, you always had to do something to the property, you always look for the deals where you go in there and you put some lipstick on the pig and you sell it and you make a bunch of money, that’s great. But really, you’re still going to put between 30 and $50,000 into a house slip and you’re really doing a deep cosmetic, maybe even some exterior work, you still got to do something to it. It’s the same thing with multifamily. Normally you got to do something to it. That’s just the nature of the business.
No, that’s good stuff and yeah, it’s a completely different beast but a lot of the things are similar with single family versus multi family. I have a question for you that I’m sure many people are thinking right now. Someone wants to get started investing in multifamily, whether they’re done single family, if they’ve never done any kind of investing, do you think they should start out very small? With like a duplex, a quad like you said, maybe even house hack where they live in one unit and rent out the others? Or do you think it’s feasible for them to go after a 10 unit, a 20 unit property if they haven’t done it before?
I get this question a lot Mark. My advice is, no, don’t start with a little quad or duplex, don’t do that. Really stretch your comfort zone and try and do the biggest deal that you can. Let me give you an example, when I first bought my 12 unit and this was after I had flipped 30, 20 houses at that point. I got this thing on a contract and I went to this property and I was just totally overwhelmed. It was a three story brick building and it looked like it was going to crush me, I just couldn’t bear the idea of what I needed to do next and so I just kind of sometimes do things, you have to overcome your fear, I started doing it, I just followed my due diligence to check list and I did what’s on there.
An amazing thing happened after about 10 days. We ruled all of the rent rolls of financials, I had visited the property several times, I met with contractors, I’m calling the lender, I’m doing all this activity and becoming more and more familiar with this building that for me was unfamiliar. Within about 10 days, I wished it was a bigger building. Because for two reasons. One, my comfort zone expanded rapidly in that time period because I became comfortable with this building, I was it in, looked it up, I poked at it, I kicked it, I talked to people about it, I looked at it.
At the same time I realized that it was as much work to do a 25 unit building as it was a 12 unit. Literally same amount of building, same amount of work. The only reason someone wants to get started with a smaller building is because they don’t have a comfort zone to get beyond that because they’re coming from where they are right now, a single family house, comfort zone, then the next step is obviously a duplex. That’s the next step to go, there is no other step to go. But my argument is, this is what I tell my students as well.
You can go through this mental exercise of the sample deal package for example that I talked about, create a sample deal package and the only way you can create a sample deal package, an investor package is if you go find the deal, you request a marketing package, you read it from cover to cover, you visit the property, you request the financials, you analyze the deal, you create these financials and the projections and literally you’re spending maybe four, five hours, maybe even a little bit more, really kicking the tires on this one deal.
And if you do that, all of a sudden, at the end of this exercise of never having on a contract but simply dealing with it, all of a sudden your comfort zone expands. If it doesn’t expand to the 15 unit or 20 unit, you do it again and you do it one or two or three times and all of a sudden you’re like, “Ah, 20 units is not so bad. It’s not so bad.” If you hadn’t done an exercise and you had done the duplex route first, you could have done two, three, four, five duplexes because you had it in your mind that that’s the route you’re going to do and we, as entrepreneurs, we’re focusing. We’re focusing on that.
But really it was a total distraction. Yes you may be did a duplex and extra six months. Really in that time, you lost six months of actually expanding your mind and looking for that 20 unit right? Because all you need is that one deal, is that one deal. Do the biggest deal that you can but just work actively in the way I describe to expand your comfort zone and you don’t necessarily have to go through a small duplex or quad to get that.
That’s awesome, I can tell you’re all about attitude and mindset and really going after things too, not staying in your comfort zone and just like you said, it’s easier to do this small deals but if you don’t have to, why?
That’s right. Unless you have a duplex strategy okay, there’s nothing wrong with any strategy whatsoever as long as it’s an intentional thought. Like I’m saying, a lot of people just do it because without thinking, that’s what people tell them, really, if you think about it, if you look at the how am I going to spend my next 12 months, is it by picking up four duplexes which is going to take me all year.
Even if I’ve worked really hard, if I pick up four deals the next year, that’s a lot! Or do I spend a 12 months to pick up one 15 unit deal? Because I can tell you, once you do a 15 unit deal, you’re not doing a 15 unit deal the second time around. You’re going to do probably a 50 unit deal in year two.
Now you’re at 65 units in 24 months and you’re at, I don’t know what you are. Maybe 10 units on the other side. Now you’ll eventually wake up from your duplex strategy and go, “Oh man, now I’m finally ready but I already wasted the last two years on this,” and maybe you didn’t have to do that. It all depends on what your goals are.
That’s great, that’s awesome. I know that you mentioned your students, you have a great website. Themichaelblank.com. Tell us a little bit about your website, about what you’re doing over there and how you’re helping people.
Yeah, I was asked about three, four years ago about how to go about raising money and how I put the deals together and I was like, “Man, one day maybe I’ll put some of this together and I was asked to teach about apartment buildings at my local Ria and I did an all day Saturday, it was really well attended and it was really encouraging to me and I think I have a little bit of a passion for teaching, I really enjoy it and so I said, “One day,” this was like three years ago.
“One day,” you always say one day and then one day I actually thought about that experience and I was like, “You know what? I think I’m going to do it.” I started writing about, blogging about a partner building investing with a special focus on raising money and put up the website, themichaelblank.com and I put out a free eBook that’s called a Secret to Raising Money
, to buy your first apartment building and started blogging on the bigger pockets.
I’m in year two of being a weekly contributor like you have been as well. Not easy to write an original article every single week as you know but I also have a podcast like you do and a YouTube channel, there’s a lot of free information on the website. It will be a good place for people to start if you want to raise money for really anything but specifically for apartment buildings.
No, great stuff and yeah, you have a lot of great resources on there and I think anybody who listens to this podcast can tell you know what you’re talking about when it comes to multi-unit and putting big deals together, great stuff. Awesome. Well I think that is everything I wanted to cover with you. Do you have any parting advice for people looking to get started on multifamily?
What’s the most important thing they can do if they haven’t invested yet and are thinking about getting started buying multifamily properties?
Yeah, the biggest thing really is taking action and everybody’s first action is of course reading a book or doing a seminar and that’s easy and most people are able to do that. I’m talking about a kind of action that’s a little more strategic, that requires a little more reflection on your life goals or what you want to achieve, maybe involving your spouse and family in this kind of decision.
Then really committing to a course, a strategy and if you’re committed to that, that means you’re not just buying a seminar and there’s people that buy my course all the time and that’s great but really, as a coach, I want someone to change a life.
I don’t want you just to buy my course, I want you to actually apply what’s in there and I see a lot of drop off between that step and really, it’s because you’re not really very clear about the why, the big why. I wanted to retire, I want a million dollars, everybody wants a million dollars right? Why do you want a million dollars, what does that mean to you? What would that allow you to do?
What is a meaningful thing to do, is it to pay for college for your kids, is it to leave a legacy, is it so that you can do something more meaningful in life, you have to be very clear about that. When you’re very clear about that. It’s much easier for you to actually take continuous action which is what you need to do.
It’s really being clear at what you want and why you want it. Then taking continuous action, not just an action for a short period of time but continuous action.
Awesome, I love that. Great advice. Okay, well that’s all I’ve got, best place to contact you I’m guessing Themichaelblank.com your website? Thank you a ton for being on the show. I know I learned a lot, I hope everyone else did too and yeah, I’m sure we’ll talk again here soon.
Thanks Mark, I appreciate it.
Alright, nope, thank you very much.