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I HAVE LONG HELD a grudge against Los Angeles, and not just because they stole the Dodgers from Brooklyn when I was a kid. It’s a city where too much value is placed on how you look, a metric where I don’t score particularly high. By contrast, New York City—my old stomping ground—is principled more on what you know, and on that score I feel I deserve at least a gentleman’s C.
That said, there was one visit to Los Angeles that made me a little fonder of the city. The caper began innocently enough, when my wife Alberta arranged a trip for us to see her widowed mother.
Opportunity. The year was 1983, when the conventional 30-year mortgage rate was 13.2%. Builders were laboring under the weight of bridge loans as high as 16%. With few buyers able to afford or even qualify for a mortgage, many of these corporations were strapped for cash and often fending off bankruptcy.
One such company was Daon Corporation, which had speculated that the 9.9% annual real-estate appreciation of the 1970s would continue to roll in California. Instead, the company was facing the high interest rates that brought on the 1981-82 recession. By 1983, those high rates had only just begun to subside.
Like many of its fellow developers, Daon was forced to unload inventory to avoid financial disaster. Fortunately for Alberta and me, her mother subscribed to the Los Angeles Times. I spotted a prominent advertisement from Daon offering to sell apartments in a large residential building.
The terms were a hefty 25% down, but with a big hook. The company offered an unimaginable seller-financed fixed teaser loan of 0% over five years, putting the time value of money squarely on the side of the buyer.
Research. A telephone call and some quick number-scribbling helped sort out the pros and cons. A child of Los Angeles, Alberta knew the location well. Not primo, but a confident B+. Daon would assume most closing costs. Four residences remained to be sold, three two-bedroom apartments and one one-bedroom. All were rented with leases. The clincher was an impending conversion from a weak legal structure to condominium status, a move sure to bump up value.
But what about price? A little figuring turned up what should have already been obvious: The only way for Daon to overcome the absence of mortgage interest was to ratchet up the selling price above fair market value. A perusal of recent sales in the complex, however, revealed no such premium—but no discount, either. For the purchaser of these apartments, the financial edge would be in “buying the mortgage” more than the property itself.
Planning. The catch was that the buyer had to purchase all four units, which at the time was out of my league. I eyed the small unit, which sold for $50,000. We had $12,500 stashed away for this kind of opportunity. But how would we manage the high monthly payments needed to pay off the $37,500 loan in just 60 months, which was what the seller required?
We devised a plan. Each of us had two income streams. Alberta had a faculty position at the university and a fledgling private practice. My salary had two components, one for my teaching and the other for my clinical work at the medical school. We would hunker down, using our income from patient care to make the monthly payments.
Then came some soul-searching. Was I being too conservative? Anticipating a return to real estate’s go-go days but lacking cash in the recession, many investors opted to put down little or no money to maximize leverage. The game was to flip the property after just a year for a capital gain before the mortgage burden became insurmountable.
Yet, here I was, considering a deal that required us to plunk down a wad of cash that would severely limit our leverage and reduce it to zero after five years. On the other hand, I felt it was too early in my retirement voyage to risk shooting for the stars.
Family ties. What about the other three apartments? Enter my brother Richard. Right from the get-go, he wanted all three. He’d done a lot of real estate, large and small, and had a thriving law practice in Fort Lauderdale. More important, we had collaborated on several deals and had no trust issues.
Rich would send me the money for the down payment and incidental expenses for the three two-bedroom residences, and also hook me up with an attorney in Los Angeles to oversee the transactions. His office would handle all the paperwork. I’d arrange for the inspections, hire the property manager and be on the lookout for ominous developments.
That’s how my Los Angeles gambit played out. The conversion to condos took place as planned and management proved easy. The only excitement was provided by a mold scare, but the tenant who might have encountered respiratory sensitivity agreed not to file a claim in return for two months’ free rent. Real estate values declined for some time and I was glad we hadn’t gone with a high leverage program. Unable or unwilling to sell in that market, many “nothing down” speculators were derailed by their payment obligations.
Alberta and I sold the one-bedroom condo in 2007 for $252,000. This sounds spectacular until you consider that over 24 years the compounded annual rate of appreciation on the $50,000 purchase price was an okay 7%. Of course, the property also threw off 5% net income annually, plus we enjoyed the tax advantages of private real estate ownership. Even so, I suspect many readers would prefer the hassle-free ride of owning the broad stock market instead.
Steve Abramowitz is a psychologist in Sacramento, California. Earlier in his career, Steve was a university professor, including serving as research director for the psychiatry department at the University of California, Davis. He also ran his own investment advisory firm. Check out Steve’s earlier articles.
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My hat is off to you Steve. I tried owning multiple properties in my younger days and it just wasn’t for me. I have no regrets though; the experience helped me know who I am…. and who I am not.
Truth be told, it’s not my cup of tea either! I simply played out an old family tape about how directly owned real estate is the surest path to financial security in retirement. Knowing what I know now, my mantra for my son is hassle-free broad market index funds. Liquidity and no commission in or out are also nice advantages.
Great article, as usual, Steve. I am 65 years old, and I have bought 3 homes starting at age 27, sold 7, ( my parents and grandparents, homes, etc., ) and every time I cashed the check for the proceeds, I breathed a huge sigh of relief and slept very soundly.
I do not enjoy holding more than one home, for many reasons, first and foremost is the lack of liquidity, especially compared to the opposite with online investment accounts.
The second reason is I am not a handy man, by any measure, and I have rarely been 100 percent satisfied with any contractor, I admit I am fussy, but, they set the prices, etc., and I want it right.
I applaud you for your successful endeavor, but I will continue to own only one house, and even then , that is one too many, occasionally. if money was no object, I would rent , and let the owner deal with the negative issues, and writing the rent check wouldn’t bother me.
As Jonathon and others have mentioned, there are plenty of REITS in the markets, and that’s good enough for me.
Great. You’ve said it all—I couldn’t have said it any better. My son is renting in LA rather than purchase an outrageously priced condo with a stupendous mortgage and California-style property tax. I hope he continues to find his choice a virtue and not fall victim to the social status pull of “home ownership.”
Interesting story Steve.
To your last point, I lately find myself of two minds on this. As we own no property, even a primary residence, almost all our current net worth is in the stock or bond market. I feel like we would be well served to have some of it in real estate even if it’s not going to beat the market.
But, I’m also increasingly one of those people who would prefer the (somewhat) hassle-free ride of owning the broad market, especially since becoming retired and nomadic. I’d like the diversification but at the same time I can’t be bothered…
I waver between the two.
When you factor in the tax breaks of private property ownership, you may come out slightly ahead of the broad market. But is it worth all the travail, endless hassles and worry-plagued vacations? Not a fixer and a free bird, I like you would own a property or two for diversification, but overall pass on the illiquidity and high commission for buying and selling.