If I Had $1 Million Dollars, I’d Go Into Debt

Yesterday I read three great posts all on the same topic: what would I do if I won a million dollars?

  • One blogger says she’d pay off debt, save for retirement, take a vacation and remodel a home.
  • Another blogger would “stare in sheer disbelief at the balance in my bank account.”
  • And a third blogger would be watching penguins in Antarctica.

So I decided to write my own post: what would I do with a big, fat million?

Caution: The answer might shock you.

I would willingly – deliberately – go into debt.

Note: All figures are based on 2011 retirement limits.

#1: Pay about 33% in taxes. There goes $330,000. Bye-bye!

#2: But wait! I can reduce my tax burden by maxing out my Solo 401(k). As of the time of this writing (2011), that’s a $16,500 tax deduction!

#3: If I got that million prior to April 15, I could retroactively max out the previous year’s Solo 401 (k). Another $16,500 in deductions!

#4: If I win the million between Jan. 1 and April 15, I’ll retroactively max out my previous year’s Roth IRA. There goes $5,000!

#5: Max out my Health Savings Account (HSA) contribution for a $3,050 tax deduction.

#6: Gee, how much do I have left? My taxable income, thanks to all the deductions, is $963,950. The top tax bracket is 35%, but it’s marginal, so let’s say I’m paying, effectively, 33% in taxes — I can kiss $318,103 goodbye.

#7: Now I have $645,847 remaining. (Wow, a million goes fast!)

#8: My goal is financial freedom, which comes from a steady stream of passive income for the rest of my life. There are a few ways to achieve this:

  • Laddered CD’s, which are the safest but lowest-yielding
  • Bond funds, which are also fairly safe but low-yielding
  • Exchange Traded Funds (ETFs) that track stocks that pay high dividends
  • Real estate: Become a landlord, collect rent. To make this “truly passive,” hire a property manager.

I have a pretty high risk-tolerance. So I’d skip past the laddered CD’s and bond funds, and divide the money equally between rental properties and commission-free ETFs that track dividends — like Vanguard’s Dividend Appreciation ETF (stock symbol: VIG) or Vanguard’s High Dividend Yield ETF (stock symbol: VYM).

So … how much do you make each month?

Let’s assume I put half the remaining money into ETF’s that track dividends: that’s $322,923 into dividend-yielding ETFs. Assume I get an average of a 4 percent dividend payout each year: that means I’m collecting a cool $12,916 every year without having to lift a finger.

If the stocks within that fund rise, great. If they fall, boo. But stock growth isn’t the point; to me, that’s only a hedge against inflation, nothing more. The point is that they’re sticking almost $13,000 in my pocket each year.

But … that’s not very much!

(Wo)man cannot live on $13,000 alone. Which is why I’ve diversified, and invested the other $322,923 into rental properties.

There are two ways I could do this: buy houses in cash, or cut the money up into lots of little down payments and take out a bunch of mortgages. Because I’m 27, I’m going to take out a bunch of mortgages. That’s right … If I had a million dollars, I’d go into debt.

Let’s investigate both of these scenarios:

The Cash Scenario:

I buy a triplex in Atlanta for $220,000 and spend $100,000 fixing it up. (Poof! There goes all my money.)

I collect $1,000 per month from Unit 1 (a 2-bedroom), $800 per month from Unit 2 (a 1-bedroom), and $650 per month from Unit 3 (a smaller 1-bedroom). Gross monthly rent: $2,450.

I pay $250 per month in insurance, $200 per month for water, and $300 per month in property taxes ($9,000 per year). I also assume a 10 percent vacancy rate. I manage the property myself because I don’t want to lose another 10 percent to a property manager.

This means each year, I’m collecting a net total of $17,460 on my investment of $322,923. This is actually a better return than the $13,000 a year I’m getting from my dividend ETFs, which makes me happy. Between the ETF’s and the rental property, my million dollars is netting me a total of $30,460 per year in passive income. If I wanted to hire a property manager and make the investment TRULY passive, I’d net $28,714 each year.

(Now are you starting to understand why so many self-made millionaires drive 10-year-old used Toyotas?)

But let’s say I want to “live large” — or at least live a lifestyle that requires more than $28,000 a year. What’s a girl to do?

The Debt Scenario:

I chop up the $322,923 into a series of down payments for multi-unit houses. (Multi-unit houses are the best rental properties because your overhead is lower … you only have to replace one roof, maintain one yard, pay one insurance policy.)

Each multi-unit property I want to buy costs $300,000. I plunk down a 20 percent down payment on each — that’s $60,000 per house. At that rate, I can afford 5.3 houses (let’s call it 5 houses, after closing costs).

Because I’m getting an investor loan, rather than a primary mortgage loan, my interest rate is higher: 5.5 percent, rather than the 4.5 percent that homebuyers with good credit are receiving in 2011. I get a 30-year fixed-rate mortgage, and don’t have to pay primary mortgage insurance because I’ve plunked down 20 percent. This means my monthly mortgage payment is $1,362.

My insurance, taxes and water for each house remain the same, at $700 per month in total. My gross rental income for each house remains the same, at $2,450 per month.

Add my expenses: $1,362 + $700. Subtract these from my monthly rental income: $2,450. I’m now left with $388 in my pocket each month.

Multiply by the 5 houses I own: this means I receive a passive income of $1,940 per month … which equals $23,280 per year.

Add this to the yearly $13,000 I’m getting from that dividend-paying ETF, and I now have $36,280 per year in passive income.

Debt Can Be Awesome — In Moderation

By financing those 5 properties — rather than paying in cash for 1 — I’m adding $6,000 to my pocket in passive income each year.

As the years pass by, and inflation kicks in, I can increase the rent (at the rate of inflation), though my fixed-rate mortgage payment will stay the same … which means the amount I’m collecting will grow every year.

At the end of 30 years, when I’m 57 years old, I’ll have 5 houses completely paid-off and will be raking in an extra $81,120 per year ON TOP OF the inflation-adjusted $36,280 I’m already collecting.

($1,352 monthly mortgage x 5 houses x 12 months = $81,120 per year).

This is why access to credit can be a very, very good thing.

Anyone can be wealthy if they live long enough.

Thanks to compounding interest — which Albert Einstein famously said is “the most powerful force in the universe” — anyone could be wealthy if they live long enough.

Unfortunately, life is short. And if you get started investing late in the game (i.e. past age 30), your investing life is even shorter.

That’s why access to credit can be so powerful. It accelerates time by letting us borrow money to invest. For every dollar we put in, we can buy 5 investment properties instead of 1.

Obviously, access to credit can work against us as well … when we use that credit to buy weddings, trips to Aruba, and jewelry. But used wisely, credit can be the key to riches.

That’s the principal behind micro-loans in developing countries: that millions of people are poor precisely because they CAN’T go into debt. That global poverty is partly the result of a lack of access to credit.

On a personal note, one of my biggest frustrations is how hard it is to secure a loan to buy investment real estate. Banks want 25 percent down payments, 18 months of work history with the same employer, a strong monthly salary, and … on and on.

If I had a million, I’d leverage it. I’d go into debt. And I’d come out stronger in the end. But I’d still be driving a used car.

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  1. says

    Ha! You’re awesome. I love the way you thought through this. I’m not sure I would do the exact same thing with my money, but maybe close! I think I’m going to have to spin off this too! Good way to get you some blog love.

  2. says

    Wow, you deserve a million just for putting so much time into this! Very interesting. I think there is a small percentage of people who would make it work for them like you, a very large percentage who would blow all of it, and a medium percentage who would keep it in a savings account, occasionally taking some out to pay for a new car/house/vacation, etc. I think I would be in between the medium percentage and your group: I’d like being able to have it all in one lump sum in my account, but I’d also like to have it making passive income for me. I think? Haha it’s very tough when you start really thinking about having that much money (at least when you’re 22 years old!). Good read.

  3. says

    Not sure if you’d be able to put any money into your Roth IRA if you won a million dollars. Pretty sure thats over the income limits.

    Extremely interesting article, however. Well thought out and an interesting take on personal finance.

    Pat S.

    • says

      Whoops! You’re right … Roth IRA eligibility is only for people who’s adjusted gross income is less than $114,000 (if you’re single) or $166,000 (if you’re married). If I got the million prior to April 15, I could max-out my previous-year contribution … but you’re right, I couldn’t contribute for the year that I won the million! Good catch! Thank you!

  4. says

    actually appreciated what that you just wrote . it really isn’t so simple to seek out great stuff to read simple things (you’re sure READ! in addition to going through it like some uniterested and flesh eating zombie before going to an additional post to ignore), so cheers man for not wasting my time! 😀

  5. says

    Great post, but a couple of problems. You can’t contribute to Roth IRA since you made too much money that year.
    Also, the bank won’t lend you money to buy 5 houses. I could be wrong, but the main criteria they use is the debt to income ratio. That mean if you have no income, they won’t lend you a lot of money even if you have a million dollar in asset/investment. You should research and see how much they will lend. I’m curious too.

    BTW, I would go into debt too since rental properties are so attractive right now! :)

    • says


      True about the Roth IRA — you couldn’t contribute to the current year’s Roth. You could contribute to your previous year’s Roth if you get the million between Jan. 1 and April 15.

      Regarding bank loans: as I said, that’s one of my biggest frustrations right now! There are a lot of attractive rental properties in my area, but getting a loan is tough. I recommend trying the following avenues:

      * A home equity loan against the equity in another home owned by either yourself or a family member who trusts you. Banks will generally lend you 80% of the equity, provided you have no other debt (like credit card debt). I did this to pay for the triplex I own.

      * A “hard-money lender,” who services unconventional loans (e.g. loans the bank won’t give)

      * Form an LLC. Ask the bank for a business loan (after all, real estate is now your business). Put up your mutual funds/index funds/ETFs as collateral against that loan. I know several small business owners who have done this in order to stem cash-flow problems in their business.

      * Risky: Form partnerships with trusted others. You contribute the down payment money; they sign for the loan. Exercise caution if you go this route; always keep everything in writing. Refer to Nolo’s series of legal books for advice on the issues to consider before forging a partnership or LLC. Also, be upfront with your realtor and banker so that nothing you do could potentially be considered mortgage fraud.

      • says

        Hi – very nice blog. I am so glad that i stumbled on this.

        You said in 2011 “Regarding bank loans: as I said, that’s one of my biggest frustrations right now! There are a lot of attractive rental properties in my area, but getting a loan is tough.”.

        Where do you see things now in 2015? Banks are a lot more relaxed in their lending criteria but if there are attractive rental properties and you are not able to get a loan or simply would like to compare options, please send me an email. I know several friends wanting to invest in real estate. (Most of these friends are not professional lenders, they are educated working professionals looking for alternate investments).

        • says

          Hi Ritu,

          Banks typically have 4 residential loan limitation, on top of 38-42% debt ratio to super securitize the debt as the under writing guideline. The low risk also means low interest rates, 3.8-4.3% for last 12 months 2014. It may creep up 2015 slightly, but euro / greek crisi, low gas price, roaring stock market but stagnant wage, inflation is still in check.
          If you have professional networks private money, I’m targeting’ mix use’ property in San Jose, California $800-900K asking price, and need about $700K which my friend and I willing to offer to pay 5.5% interest on the loan on fix 30 yr, including pre-payment penalty, 0.5% cheaper than commmercial loan lender, but less paperworks, the investor will be on 1st position.

          I have more than $500K equity on 3 properties to back this deal, but it’s difficult to secure HELOC with debt ratio from bank under writer guideline, as they only count 75% rental income.

          Hit me up or reply to will.weng@gmail.com if you’re interested to discuss further.


    • says

      With the amount of cash you’re putting into your retirement account you could put another down payment on a house with a non recourse loan using a self directed IRA. All the rental income goes directly into your retirement account.

    • says

      @Evan: LOL — that’s true, Evan! The “lottery” is just a tax for people who are bad at understanding the odds :-) I AM taking those steps … I max out my Roth IRA every year, have one year’s salary invested in equities, and bought a triplex last fall.

    • says

      @Barb Friedberg : Thanks for the compliment! Whether I’d manage it myself or hire a management company would depend on my priorities at the time.

      I own a triplex in Atlanta right now, and I manage it myself because
      1) I don’t have a high salary (i.e. it’s worth my time);
      2) I don’t intend to leave the city for an extended period of time; and
      3) I’m not really THAT busy (I don’t have children or aging parents to care for; I get 8 hours of sleep a night).

      If any of those conditions change, I’d consider hiring a management company.

  6. says

    I love it! Now all I need to do is win “Who Wants to Be A Millionaire?” and I can get your ingenious plan started. 😉

    All the best,

    Len Penzo dot Com

  7. says

    I can tell you did a lot of work on this post! I’m all for going into debt in service of a master plan. A lot of businesses fail because they are starved for capital and can’t expand or take advantage of opportunities. A little debt can help.

    That said, I don’t know that I would be a real estate investor right now. Maybe it’s different where you are, but in Dallas we have a huge number of vacant units. Owners have trouble selling their houses, so they try to rent, competing with condos and apartments. The only reason my landlord is making money on the place I’m renting is because he bought it over 20 years ago. I don’t see the real estate market bottoming until 2015 or so.

    • says

      @Jennifer Barry: I think a real estate market is good for being a landlord if it has the following features:

      ** a high density of young people (such as near a university or in a “hip” urban area with young professionals)
      ** an area where buying a home is expensive (at least, “expensive” in the eyes of the average 25-year-old)
      ** an area where lots of people, especially educated professionals, are moving to (such as Atlanta and Denver)

      I own a triplex in a hip, trendy neighborhood in the urban core of Atlanta, where young professionals live + work. The triplex is walking distance to bars, restaurants, concert venues. Development is happening in this neighborhood (new shops are opening; homes are being renovated.)

      My parents live in suburban Atlanta, where you have to drive to get to a restaurant or shop. It’s stable and cookie-cutter. There are homeowner’s associations and little league teams. People who live there have to commute to work. Their neighborhood would probably have a much harder time finding renters.

  8. says

    Great article! Very thought provoking. In the case of rental properties, wouldnt the mortgage interest on a second home be tax deductible? That would lower your tax burden even more. And yes I would suggest taking out a mortgage even if you do have the cold hard cash to pay for it outright. I especially like what you say about dividend ETFs…i would stray from the laddered CDs and bonds myself!!!

  9. says

    What a great, well thought out post. I’m glad you commented on my site so I could find yours :)

    One day I might want to get into rental properties, but right now I’m happy just to be the renter. I love the flexibility of being able to move every year and not be tied down to one place.

    • says

      @Kevin: Don’t forget — just because you own a property doesn’t mean you have to live there! I own a triplex right now, and I rent the room that I currently live in. The rent I collect from any given bedroom within the triplex is higher than the rent I pay for my bedroom, which means I’m coming out ahead each month. I DO plan on moving into the triplex later this year, but only because I want to — not because it necessarily makes the most financial sense.

  10. says

    I love this post! I haven’t really thought about what I’d do if I won a million dollars… but I probably wouldn’t invest it in real estate, just because I know nothing about real estate. Clearly, you do. This post to be shown to everyone who wins the lottery… before they run off and blow their money.

    By the way, I saw you are going to the Personal Finance Bloggers Conference. I just signed up today to attend as well. :) I look forward to meeting you there!

  11. says

    I too would go the real estate route. Ideally you would also gain a 3% – 5% increase in your equity as you are bringing in rent. The hardest piece in this scenario to achieve is the initial million dollars. Start from scratch (and I mean less than $0 net) makes it tough.

    • says

      You can not include your exntiisg debt into your mortgage. It will count against you when you go to get a mortgage. It is good that you have a good credit score but you will have to come up with a min of 3.5% down plus closing costs. Even with your stuff in order making $26K per year will have you at about the $75-95K house range.

  12. says

    A way to get around the fact that the bank would not lend you the money for all five is to buy one, wait two tax years and then buy the rest. Once you have had a rental for two tax years you can count the rent as income for the purpose of calculating the debt to income ratio.

  13. says

    Great post! I’m a multi property landlord, and I have to caution you that it’s not all cupcakes though. It feels good collecting positive cash flow and watching the mortgage debt decrease, but as you say, you’ve got to stick with it for the long term.

    Best to go into debt with a precise day when you’ll be out of debt!


    • says

      @Financial Samurai — I keep reading “tenant from hell” horror stories, but every tenant I’ve dealt with so far (knock on wood!) has been a tenant from heaven. They’re responsible, friendly, they pay rent on time. I hope it stays this way forever!!

  14. says

    Excellent article! But for those of us working the daily grind…and still struggling to find that $60,000 down payment (or $30,000 salary!), where to suggest starting? For someone with no current investments to leverage or use as collateral, where do you begin? I open this question to anyone who has advice!

    • says

      @Not Yet A Millionaire — Saving for a down payment happens one dollar at a time. Write out all your expenses, and see where you can make cuts on things that don’t matter much to you. Every $5 you can slash here, $10 you can slash there add up … if you save, for example, $25 a week, that’s $100 a month; $1200 a year. If you have a partner who can do the same, that’s $2400 a year.

      Now, do something extra on the side that EARNS you $25 a week. Have your partner do the same. Now the two of you are up to $4800 a year. Double your efforts (earn an extra $50 a week plus save an extra $50 a week), and you’ll have an extra $9600 per year.

      That’s enough for a 20% down payment on a $100K home after only 2 years. (Or if you’re a first-time homebuyer, you may qualify for a 3.5% down payment FHA loan.)

      If you’re willing to do so: buy a home and get some roommates; have their share of the rent cover your mortgage, taxes, repair and insurance costs. Then take all the money you’d normally be spending on rent, and stash it into a savings account so that you can buy your second home. (Here’s my related story on doing this: http://afford-anything.com/2011/04/12/investing-in-a-home/ )

      Make sure the rent you collect on the second home covers the mortgage, repairs, insurance, and taxes, with a little extra to spare. Take that “spare” money (probably $100 – $200 a month) and stash it into a savings account to buy your third home.

      Keep repeating this process until you’ve collected a good number of homes, which are cumulatively kicking off $1,000 or $2,000 or $3,000 a month … then retire on that passive income.

      Other readers — what advice do you have?

  15. says

    Very interesting post. You’ve forgotten a few tax issues, however. First, you don’t seem to be accounting for state income taxes. These average around 6% for most people, but can be up to 11%. There are a few states that have none, however. In addition, the federal income rate of 35% is the federal portion only. If you receive this money after 2012, don’t forget to include the new 3.8% medicare “surcharge”, which now applies to ALL income (not just wages, tips, etc). In addition, since you’ve won this money, you can’t contribute it to ANY retirement account at all. NO 401ks, NO 403Bs, NO IRAs of any kind (Roth or otherwise). You can only contribute EARNED income to those accounts, and an inheritance, lottery win, etc would not count as earned income. Ditto for health savings accounts, and just about all the deferal strategies that exist for normal (sub 250k earner) households. You see, the rich are different, they don’t get tax breaks. The kicker is, you wouldn’t even be allowed to write off health insurance premiums or costs (unless they exceed 7.5% of your AGI, or $75,000), because, again, those can only be written off against EARNED income. You will wind up paying massive taxes on this money (close to 50% in most jurisdictions), and you won’t be able to do most of the tax magic/retirement account/HSA stuff you can do with earned income. And after paying those taxes, and not being able to write anything off, there would be a lot of people reminding you that you still haven’t paid your “Fair Share”.

  16. says

    Great article. I would consider going into debt. I have never thought about it before, but the way you have explained everything is very thought provoking.

  17. says

    My vote: Debt.

    But what debt means in this case is: investment.

    I am a gardener, and one cilantro seed planted last year gave me hundreds of seeds to plant this year. Now I have cilantro to share or sell. But to get there, I had to let that plant go to seed (or buy a bunch of seeds). I opted for buying my eating cilantro last year–instead of getting it for free by using up the plant I already had. I invested my garden plant to produce more in the future. And that is the dilemma–consume all your garden today, or invest some in the future.

    People live paycheck to paycheck when their “garden” is not producing more than they need. To get a garden to produce more than you need requires some planting, some faithful tending and time. The question is–who will do the work today and be willing to wait for the “big” harvest that is not coming immediately?

    Have you read about the Buddhist monasteries that teach not worrying about the future…and the monks who live in the mountains of China and Tibet? Even they save seeds and grow gardens.

  18. says

    I definitely would be in debt too!
    The thing is if you got tons of money, there are many things you want to acquire. And the expenses arises. Seeing that you got money you go risk it through debt.
    Sad but true!

  19. says

    Well, for me, if I had a million dollars, I think I won’t go into debt. Or what we called investments. I think I will save it to the bank and some I will buy a house and lot.

  20. says

    Here’s an idea: take one year of all that money you’ve won and dump it into one of the new income annuities. You’ll quickly make up whatever you lost in taxes. I can’t wait to win the powerball and put this idea to work!

  21. says

    The thing that a lot of people forget is that a lot of wealthy people start off using other peoples money not there own. You have to have a plan and a well thought out just in case something happens. Many don’t and they squander their own money or they don’t have good enough credit to do anything but get credit cards.

  22. says

    I found your blog today after another blogger linked to your “Stop Crying” article. Your advice is fantastic!

    I have to ask though: in your About Me post, you mentioned that you were not born rich. Where did you get the seed money to begin building your wealth? Your previous job? I apologize if that’s too personal. I’m starting from scratch myself after a divorce, so I’m trying to figure out how to create wealth for myself. I don’t have kids so that’ll help!

    Thanks for a great blog.

    • says

      @Juliana — Great question. My business is based online — I’m a self-employed writer — so I didn’t need much startup capital: just a laptop and a high-speed internet connection. It required a huge investment of time, but not much of a financial investment.

      I’m also a landlord, and my post on this upcoming Wednesday will describe in detail how I found the funding to buy that property. The short story is: instead of buying a home for myself (that I’d simply use as a consumer), I bought an investment property — a multi-unit building — that I could both live in AND rent out.

  23. says

    Paula this is very cool. And for those of you looking in from other cities, Atlanta does have a unique situation. Our rents haven’t fallen much but our property values have fallen significantly. So, Paula’s multi family investment that would have cost her 400k 5 years ago now cost her less than 300k for the initial investment. The rents, on the other hand, may have gone down about $100 per month per unit in that same period of time.

    You can get a better return with higher risk elsewhere in Atlanta (i.e. less responsible tenants). Everyone has their comfort zone.

    Can’t wait to see what else you do!

    • says

      @Mom Equity — These days when my family or friends ask if I’m planning on moving elsewhere (I’m famous for being restless and moving around a lot), I answer: Heck no, not while Atlanta’s rental housing market is this fantastic!!

  24. says

    Very interesting post. There are other avenues that would bring you income other than real estate. Since you have the liquid assets, you could also invest in a franchise business. I have traveled the US and notice new smaller franchises that are doing very well, $600,000+ gross profit a year. Find a niche, a new location and build your first location. Do well, and build other ones in near by locations. Talk to the company and become a developer for new franchisees and collect a percentage of the new franchisees business. Develop enough franchises for others and then sell yours. You will then collect a percentage of their profit just by stopping by and ensuring they are operating within standards. Hey… it is an idea.

    Also, I would not buy a $220,000 triplex that needs $100k in repair. Find something that needs a little TLC to become profitable. Another idea would be to buy rental properties dirt cheap, rent them for a while and then flip them. If you hold a rental for 3 years, you can show a good rental history. Of course there are a lot of variables in this plan but it could be done.

    I look at “what would I do if I had a million dollars” more like “how efficient can I make my money.” Obviously investing it in interest bearing accounts and mutual funds make things very efficient since you really don’t have to do much but let it sit there. Real estate is good if you are in a good area and you buy right. I have a couple properties myself and my tenants are blessings. It is all how you choose them and explain to them your expectations. Make it feel like their home and you will do better than if you act like a greedy rich slum lord who only cares about money. Anyway, sorry for the ramblings but I probably could go on for days!


    • says

      @Martilyo — Before going into properties, I think its important to decide your strategy — flip or hold? — and stick to it. Too many investments have gone awry because the owner doesn’t have a “business plan” that determines whether he’s investing for appreciation or investing for rental income. You evaluate property using very different sets of criteria depending on whether you’re flipping or holding, so you need to be clear about which strategy you’re using.

      Personally, I’m 100 percent in the “buy and hold” category. Flipping feels to speculative. I know people who have done it successfully, and I know people who have lost everything doing it. Owning cash-flow rentals is a safer, more stable strategy — less upside potential, but also far less risk.

      • says

        I do not know much about owning property. Yet I plan on buying my first house, sometime this year. I do know a lot about remodeling a house. I can do everything but the heating & cooling. I do not do tile or carpet. Everything else is easy for me. So all the main work that needs to be done, I can do myself. Which will save me a lot of cash in the long run. New floors, roof, insulation, plumbing, electrical & sheetrock. Or mix it up & put wood half way up the wall & finish it with sheetrock the rest of the way. Make it nice, so it will be more appealing to renters.

  25. says

    If one advances confidently in the directions of his dreams, and endeavors to live the life which he has imagined, he will meet with a success unexpected in common hours.

  26. says

    Interesting Read! Just curious as to why limit to triplex, and not a bigger unit property.. from what i have read it is cheaper to run a bigger unit property since only paying fee’s for buying and taxes on one property instead of in this case 5.. would it even be possible to buy a property worth 1.65million with 330k down? not sure how many units that would buy you there but i would think it would be in the same range of 15units+.. and if were able to find one that is a deal.. would be all the better..

  27. says

    Good article. Ive had the same thought process. It requires $2.4 million in investment to retire at the median household income. So bottomline a multimillionaire still has to have active incomei.e work.

  28. says

    I invested my garden plant to produce more in the future. And that is the dilemma–consume all your garden today, or invest some in the future.

    People live paycheck to paycheck when their “garden” is not producing more than they need. To get a garden to produce more than you need requires some planting, some faithful tending and time. The question is–who will do the work today and be willing to wait for the “big” harvest.

  29. says

    What about repairs and maintenance, catastrophic loss due to insurance not covering something, legal fees, and the opportunity cost associated with the time you will spend managing the houses, legal stuff, paperwork, etc, which you could otherwise spend working at some other job? Not to mention that if the houses are any significant distance apart or away from where you live, you will also have associated transportation costs (gasoline, motor oil, car repairs and maintenance, insurance, fees, depreciation, etc…) ? You make it sound rosy, in part because you are ignoring what is perhaps best known as “real life”…..

  30. says

    In this day and age the idea of ‘I wish I had a million dollars’ is slightly less relevant than it once was as essentially it wouldn’t be all that helpful. As you said; the taxman would take a third of if, once you’ve payed of your mortgage and existing debts and bought the car of your dreams, you are going to be broke all over again!

  31. says

    This is a great article! I do wish you had gone further into the possible capital gains/losses associated with real estate. Real estate can be a major home run or a terrible sink hole. The key is to really research and find a great property.

    Really like this Blog!!!

  32. says

    Don’t forget about REITs! (Real Estate Investment Trusts).

    They pay super high dividends and are “flow-through” for tax purposes. So in subsequent years you won’t pay much income taxes on the dividends (which are the rental income) Plus, you have no direct risks to tenants taking you to court if your furnace explodes on Christmas Eve, the pipes freeze and they sue you for being unable to get repairs done for 2 weeks. All the while you’re in court (say 3-6 months) they are NOT paying you rent, yet you’re still on the hook for your mortgage, insurance, gas, water, electric.

    Yes, a property manager should deal with all of that for you, but the REITs ARE essentially that, but they manage hundreds to thousands of tenants and dozens to hundreds of buildings. (Thus diversifying your tenant base reducing your risk.)

    Plus since they are publicly traded you can sell your shares lickety-split!

  33. says

    Very interesting thought experiment. Might I propose a different scenario:

    You’re right that taxes take out a big chunk of the initial winnings. I only take home about 60% of my annual bonus, and I’m not even in the highest tax bracket. For the sake of argument, lets say the net takehome is around $600,000.

    Instead of buying real estate, lets invest the 600k into an index fund with the following assumptions:

    Initial principle: $600k
    Expected appreciation: 8% (the S&P has returned 11%/year over the past 30 years according to the SEC: http://www.sec.gov/investor/tools/mfcc/rate-of-return.htm, but we’ll be a little more conservative with our estimate)
    Years to invest: 30
    Dividend Yield: 2.5%
    Tax rate: 35% (could definitely vary here)

    Using these inputs, this calculator (http://loanlane.com/divcalculator2.php) estimates the ending result at $9,450,000!

    (As a side note, the calculator does not take into account fees from the mutual fund/ETF used, which would probably round that down to roughly $9M)

    Now having 5 multi-unit homes usually comes with their own rate of appreciation, but according to Robert Shiller, the housing market guru, home values have historically not appreciated any faster than inflation. (http://www.fool.com/investing/general/2012/04/11/history-says-your-house-may-not-be-a-good-financia.aspx)

    So assuming a 3% inflation rate, lets say the homes appreciate around 3.5-4%, that’s still significantly less than the 8% reinvested returns we’re getting from market appreciation.

    On top of it all, the only maintenance required would be a little math at tax time. I’d take that over waking up at 3 A.M. on a Sunday to repair a tenant’s toilet any day.

    • says

      @TC — I like your scenario. Just two comments:

      First, you’re reinvesting your stock market capital gains and dividends, which is a great practice. But to make that an apples-to-apples comparison, you’d also have to reinvest the cash flow coming from the properties. (In other words, you can’t have “realized” annual income in one scenario and “unrealized” annual income in the other).

      Secondly, I hope that no landlord is waking up at 3 a.m. to repair a tenant’s toilet! The property manager, not the landlord, should be getting that 3 a.m. phone call.

      (If the landlord chooses to manage the property himself, he’s taking on a second job. He should pay himself for this, at the same market rate that he would pay a property manager. That money should be considered his “active income,” not his “passive income.”)

  34. Josefa Villarreal says

    Develop enough franchises for others and then sell yours. And yes I would suggest taking out a mortgage even if you do have the cold hard cash to pay for it outright. Best to go into debt with a precise day when you’ll be out of debt!

  35. says

    So you are essentially saying “leverage your investments and you will earn a higher rate of return”. Which is absolutely true, whether you are talking about rental properties or just the stock market.

    My problem with your post is that you are ignoring the downside of leverage, which is increased risk. Every investor should evaluate their potential investment not only on the estimated rate of return, but also on the expected amount of risk. So in this instance you have increased your expected rate of return, but you have also increased the amount of risk associated with your investment. According to the Capital Asset Pricing Model, there is a linear relationship between expected rate of return and risk.

    So what does this mean? It means that leveraging doesn’t actually create value for an investor, it just changes your expected rate of return and expected amount of risk.

    When evaluating an investment, the amount of risk you are assuming is like the cost of the investment, while the rate of return is like the value created. So by leveraging you are increasing your cost and your value. Its like asking the question: Which is better, a Honda Accord, or a Mercedes? In this case you are saying the Mercedes, but in reality the answer is neither because while the Accord provides lower value, it also costs less.

    Each individual should evaluate potential investments based on their tolerance for risk and the rate of return they need. So buy the Mercedes or the Honda because they are both good purchases.

    Sorry for the long response but I see a lot of people who misunderstand leverage and I think its an important concept to understand. I’m not saying you should never try to use leverage to increase your rate of return, all I’m saying is that you are not increasing value, which I think is an important concept to understand if you are planning on using leverage.

    • says

      @Jim — I absolutely love your response and I agree 100 percent. Risk and return are closely correlated, and risk is, indeed, the “cost” of the investment. I’m in my twenties, have no non-mortgage debt, no dependents, and a high risk tolerance (“high” being relative, of course). But a person in their fifties or sixties, with consumer debt and a generally low risk tolerance, should avoid leverage.

      I recently wrote a post about the risk-reward tradeoff when it comes to paying down your mortgage versus investing, and about a year ago I wrote about paying down (general) debt versus investing. In both, I said that there’s an opportunity cost to paying down debt (you lose that “lever” that can propel your returns either upward or downward), but of course you reduce risk by paying the debt down. Neither option is “right” or “wrong,” because both feature tradeoffs.

      • says

        I read this article when you first published it in March of 2011. On a whim, I actually purchased VYM with my ($4500) Roth Contribution that year.

        Thanks for the tip. It’s up 38% ( to $6318) after 3 years and 9 months. I’m going to add another $5500 to this ETF in January when I make my 2015 Roth contribution.

        • says

          @Catherine — That is AWESOME!!! Thank you so much for sharing that — and thank yourself for ACTING on this advice!! Reading this article helped you grow almost $1,818. Love it!!

          It goes to show: Nothing is more powerful than taking action. :-)

  36. says

    So great to see a post on the positive use of debt. A powerful tool when used correctly.

    Don’t forget, you can contribute to a Self-Employed (SEP) retirement program with up to 25% of your income as well. Another great way to defer taxes on money you don’t need immediately.

    Great post.
    Joseph Hogue, CFA

  37. says

    Ahh, the genius of dividends! It’s funny how one starts to imagine spending $1,000,000 when they’ve learned about dividends. Your cool, passive, $12,000 figure sounds very nice!

  38. says

    buy a tax free Muni bonds at 5% and earn $25,000 and every year reinvest that 25,000 in another Muni bond, in 20 years you have a $50,000 income and 1 millon in bonds with no risk.

  39. says

    Hi Paula, I always appreciate your content. very illuminating. As of August 2015, has the difficulty in obtaining financing to purchase investment property increased, decreased or stayed the same? I’ve owned a 3 unit for 7 years, and have found it very difficult to get financing, despite a near 800 credit score to buy additional properties without hefty (10%+) down payments.

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