digest
Short Summary
Main recommendation: Analyze every rental property's return on equity (ROE) using today's numbers, today's rents, and current interest rates, then decide whether to keep it, cash-out refinance, or sell and reinvest based on whether your goal is growth or income. The video walks through this analysis using a client (Matt)'s Denver rental, which he purchased in January 2012 for about $125,000, arguing it currently has a weak return on equity.
Key Points
- ROE is calculated by adding the four ways rentals make money (appreciation, debt paydown, cash flow, and depreciation/tax benefits) over the next 12 months and dividing by the equity in the property. In the example, $24,000 divided by $312,000 gives 7.75%.
- Loan-to-value (LTV) shows leverage, and a low LTV (about 35% in the example) usually goes with a low ROE because the property is not leveraged.
- Cash-on-cash return is a buy-time metric and is misleading for a long-held property with no remaining cash invested, so the video recommends looking at cash flow relative to current equity instead (about 1.8% in the example).
- A low cap rate (3.1% in the example) is a signal to consider selling, and the owner should ask whether they would buy the property at today's numbers, plus weigh operational and emotional burden.
- Growth mode versus income mode determines which moves fit your goals. If paying off all rentals would generate enough cash flow to retire, you are in income mode; otherwise you are in growth mode.
Details Worth Noting
- Concrete instructions:
- Step 1: Enter today's market value, rents, and loan balance into an analysis tool (Property Llama) and calculate ROE, LTV, cash flow relative to equity, and cap rate.
- Step 2: Compare three options: (1) keep the property, calculating NOI as if paid off (host misspoke figures as both $115,000 and $155,000, but it computes to about 4.8% on roughly $300,000+ equity in the example); (2) cash-out refinance at current rates and reinvest; (3) sell, using a 1031 exchange or paying capital gains, and buy elsewhere.
- Ask whether you would buy the property at today's numbers, and consider both the numbers and operational/emotional cost.
- Decide based on personal goals and macro trends, not a single metric. Do not focus only on a low interest rate; evaluate it alongside ROE and cash flow.
- Do not let 1031 exchange rules box you in. Compare the option of paying capital gains and not doing a 1031, since that can be better.
- Re-analyze each property whenever you are about to lease, refinance, or remodel it, and at least annually, because it does not rebalance automatically like a stock fund.
- In the example, a cash-out refinance at 8% interest dropped the current property's cash flow from about $6,000 to about negative $1,000 per month, while the new property was expected to cash flow about $100 per month.
- Selling and doing a 1031 exchange raised ROE to about 13.3% but cut cash flow from about $6,000 to about $2,500 per year.
- The chosen option was selling, paying capital gains, and investing passively in a Delaware Statutory Trust (DST) syndication, with an estimated ROE of about 23% and cash flow near $10,000 per year. The video notes passive DST investments typically do not allow 1031 exchanges, and that about 20% was deducted for transaction costs and capital gains.
- The speaker says the example owner's portfolio would reach a $12,000 annual income goal in about 9 to 10 years with the optimized approach, versus about 30 years doing nothing.
Bottom Line
Treat each rental as a capital position to be measured against alternatives, and make the keep, refinance, or sell decision based on your growth-versus-income goals and current market trends rather than habit.
