Is Real Estate a Good Investment? The Pros and Cons of Owning Rental Property
These days people talk about the pros and cons of rental property. People refer to this as passive income, dreaming of checks showing up automatically while you munch on Cheetos on the couch while watching your favorite show. John Scherer has owned multiple different investment properties and even owns one, now. We talk about the pros and cons of investing in real estate. What is the reality. We talk about investing in real estate versus working more in your regular job. Plus we talk about how investing in real estate compares to investing in the stock market. John has concluded that you really need to have a higher return in real estate to make up for the risk that you’re taking. What risk? According to John, the proverbial broken toilet at 2 a.m. is less of a problem that ongoing maintenance. The time and effort needed to paint the front porch on a Saturday and find and hire a contractor to fix a complicated roof have caused John to pause. Bert Whitehead says that real estate has made more millionaires and created more bankruptcies than any other investment.
John: Owning rental properties can be a great way to make money. Or is it really? And that's the thing we're going to talk about today on Friends Talk Financial Planning. Hi. I'm John Scherer, and I run a fee-only financial planning practice in Middleton, Wisconsin.
Bridget: And I'm Bridget Sullivan Mermel. And I've got a fee-only financial planning practice in Chicago, Illinois. John, people like rental property. They feel like they can make a lot of money at it. They feel like it's passive income. The rent shows up every month. It's an easy way to pay off their mortgage. You have had extensive real estate experience. So why don't you start telling me about the pros? What do you like about it?
John: Sure. And you just described some of them, right. I mean, rental real estate can be a great way to make money. It definitely is. And the one thing that I caught my ear as you're describing some of the benefits is that when it works well, it's like printing money. The checks just show up in the mail these days. When I was doing it, it would show up in the mail, right, or they show up in your checking account. You get these checks, and it's like printing money. It just shows up. It's fantastic from that standpoint.
But then the thing that I tell people about my experience, at least with it, it's like a part time job because it doesn't come without any work that goes into it. And you can hire some of the work out. But then those checks go down. And so I tell people, I had a client one time, an attorney, a successful person. He said “Gee, I'd like to get into rental real estate and do some of the things that you're doing.” And I said “Well, on a Saturday morning, do you want to go down and paint the porch on your duplex or do work on your heat unit and resurface the driveway or whatever things need to go on? Or would you rather go into your office and spend a few hours doing what you're really good at doing and some legal work and get paid for that sort of thought process?” So that's one of the big things that I think people don't always take into account is people often think about “Oh jeez, I don't want to get the calls in the middle of night when the toilet is broken” and it happens. But, man, that's a rarity. It's for me in my experience anyway.
And from the clients that I work with, it's the more the ongoing daily grind of owning property. Right. You've got to take care of these little things over time that people think about your personal house, whether it's an apartment, or a condo, or a home that you own. There's just all the stuff that goes into it and then multiply that, and it's not yours that you're enjoying. So that's one big thing for people to think about when we talk about investment real estate.
Bridget: Yeah. I think there's ongoing maintenance. But I also think that sometimes people underestimate the risk involved and that can be money risk, but it also can be time risk. So I had an old landlord at my place of business, and I swear that the reason that she sold the building, she was great at keeping it up. But the reason that she sold it was because we had a really harsh winter. The pipes froze, [inaudible], constant snow to be shoveled. There was just really hard and things were going wrong. Heat went out, all this, you know, every problem you could have. Now that's just a cold winter in Chicago, which happens; that wasn't a tornado, that wasn't a…other natural disasters that a lot of areas are subject to. That was just a regular, old, bad winter. It happens every 10 years or whatever. So I think that, and that's not even talking about the market dropping.
Bridget: Or having difficulty selling. So that's my two cents, is that I think that people underestimate the risks involved.
John: Yeah. You know, a friend of ours, of both Bridget and mine, Burt Whitehead, has said that “real estate has made more millionaires than any other vehicle in America. And it's also created more bankruptcies.
John: That I think really…you think “Golly” and “can that be true?” And in my experience, a lot of the time it works out well, but it has some disastrous effects or some really awesome, right, you can get rich and be a mogul, a real estate mogul. But the down side of things you really need to think about and sort of correlated with that, but not exactly on that is the other thing that I tell my clients is, look, take a good, hard look at the financials and the numbers. And what are you actually getting for your return on your investment in this property? And it all sounds good. But oftentimes when a new client comes in, when they've got rental property, we always take a look at what type of return are you getting. Jeez, I'm getting 1,000 dollars a month coming in. Well, if it's a 50,000 dollars investment, that's a fantastic return. If it's a 200,000 dollars investment, that's not just an awesome return. And if it's a million dollars investment, you golly, that's a terrible return, right? And to think about what that is, and then to consider and to your point on this Bridget, one of my properties we had, we had to put on a roof, and it was this weird sort of deal. It was a 10,000 dollar, 12,000 dollars expense. Well yeah, I was making 5, 6, 10,000 dollars a year. Well, there's a year or two years of profits down the drain, right? So for the next two years, all those checks that came in went to pay off that roof.
John: Then those sorts of things, those unexpected but regular, as you said, was hey a Chicago winter. That's just regular, a roof, that happens with these things. And that's the type of stuff that I think people can get tripped up on and lose sight of the fact of “well yeah, there's cash coming in.” But then it's an important thing to think about is what are the alternatives? And by that, I mean, listen, we can put money into an investment portfolio and get some return, eight or 10 or whatever the number is without doing any work, right? Your investment portfolio doesn't spring a leak. It doesn't need a new roof. And yeah over time, it fluctuates. But you don't have that same level of risk and involvement in it.
And so if we're going to buy a rental property, you've got to get something significantly, in my opinion, higher than that. Meaning your return has to be expected to be 12 or 15 or 20% for it to be worth that risk, right? So just exactly on your point. That's maybe the other takeaway for focusing on; look at the numbers, and you got to be…it's not good enough, if you can get eight to 10% on your rental property, well shoot the risk isn't worth it compared to your alternatives.
Bridget: Yeah. So we could do a whole other show on how to evaluate the returns. I think that'd be great.
Bridget: But John, you're just mentioning just like, people are foggy about what they actually make. So that's another like, how do you actually track this thing? It's not just the check that you get in the mail.
John: Right, that's right.
Bridget: So with that, I think we should wrap it up John. Again, I'm Bridget Sullivan Mermel, and I've got a fee-only financial planning practice in Chicago, Illinois. And this is John Scherer. And he's got a fee-only financial planning practice in Middleton, Wisconsin. And we both are members of ACP or the Alliance of Comprehensive Planners, which has planners all across the country that operate with a lot of the same philosophy that we've got.
John: So then the other thing, so check out ACPlanners.org if you're interested in finding one of our colleagues. And the other important thing is to please subscribe. When you hit that subscribe button, you can learn about future episodes. And it helps other people find this information. So help others by clicking subscribe. And with that, let's wrap it up, thanks Bridget.
Bridget: Thank John.
At Sullivan Mermel, Inc., we are fee-only financial planners located in Chicago, Illinois serving clients in Chicago and throughout the nation. We meet both in-person in our Chicago office and virtually through video conferencing and secure file transfer.