#063: Two Reasons Investors Get into BIG Financial Trouble

Welcome to The Accelerated Investor Podcast with Josh Cantwell, if you love entrepreneurship and investing in real estate then you are in the right place. Josh is the CEO of Freeland Ventures Real Estate Private Equity and has personally invested in well over 500 properties all across the country. He’s also made hundreds of private lender loans and owns over 1,000 units of apartments. Josh is an expert at raising private money for deals and he prides himself on never having had a boss in his entire adult life. Josh and his team also mentor investors and entrepreneurs from all over the world. He doesn’t dream about doing deals, he actually does them and so do his listeners and students. Now sit back, listen, learn, and accelerate your business, your life, and your investing with The Accelerated Investor Podcast.

So welcome back to Accelerated Investor. I’m so excited that you’re back again with me. Welcome back to another solo cast. Just me talking to you wherever you are in the gym, out for a walk maybe at night before you go to bed. Thank you so much for engaging with me, spending time with me for engaging in our Facebook community at Facebook.com/AcceleratedInvestor. If you’re not part of that free Facebook group, definitely check that out. So many great questions, comments happening there as well as on various social media platforms and podcasting platforms like iTunes and Stitcher.

We appreciate all of you for sharing, engaging, asking questions, leading ratings and reviews, and today I want to talk to you a little bit more about when I see investors fail or investors struggle or investors default. I’m seeing it from investors in two very common places. And so I thought it’d be therapeutic for me to jump on this podcast and talk about it because as a lender and as a private investor and even on my own deals over the last 15 years, it’s interesting to see when I see investors struggle, build a big portfolio and then have trouble keeping that portfolio afloat or do rehabs or small balance commercial, even big apartments. I always see the struggle happen in two main places over and over and over again. So I want to identify these and tell you about them so it doesn’t happen for you.

So imagine an investor starts with a couple of rental properties and then starts building more rental properties and buying more rental properties and then starts doing some rehabs and gets into doing some small balance multifamily properties, like 8 units and 12 units and 25 units and all of a sudden has a hundred unit portfolio and then runs out of money. Imagine. Okay so this is a situation that we actually are, have actively dealt with multiple times as a private lender where we’re lending our money out or we’re brokering loans for other institutions or other commercial lenders are even small balance commercial lenders or single-family lenders. And all of a sudden we’ve got a borrower that looks to be well capitalized, that has a good balance sheet and all of a sudden the guy is, or gal is raising the red flag and saying, I’m about to tap out.

I have no money left. And we’ve seen this a couple of different times and so why does this happen? It really happens in two main places. So I want you to be aware of this so this doesn’t happen for you if you’re building your own rental portfolio or doing your own flips or your own apartment buildings. And secondly, if you’re investing passively, I want to make sure that you see this in advance. Because borrowers can, you know, kind of finagle their balance sheet. They can kind of fudge the numbers a little bit to make themselves look a little bit better than they really are. And I want to make sure that you don’t make this same mistake that other investors make or other private lenders make.

And so the first of all, the first piece is, is what we call dead wood. Dead wood, number one is when an investor buys a property and it’s that time to stabilize that building, stabilize that single family rental, stabilize that small balance commercial deal, and it’s not producing enough income to pay the monthly mortgage. So if an investor has too much dead wood or too much non-performing properties on their balance sheet, it’s typically because they’re stabilizing too many properties at one time. And so you’ve got to make sure that that borrower is well enough capitalized and has enough free cash in their accounts to pay the monthly payments until that property is then rented out, right.

Once a property is rented out, you see very few people default on properties that are actively rented out, whether it’s a apartment building, whether it’s a single-family rental, whether it’s a 25 unit or a 500 unit building or a single-family rental it’s rented out. They can typically afford the monthly payments, so when can they afford the monthly payment? It’s usually right after the purchase, within the first three to six months or three months to one year when they’re stabilizing the property and there might be not enough cashflow from that one renter or all of their renters, if it’s a multifamily property, there’s not enough cash flow coming in to pay the monthly nut.

And all of a sudden now they’re coming out of pocket to pay the monthly mortgage or they’re robbing Peter. Maybe they have one deal where they have capital and they’re robbing Peter to pay Paul. They’re robbing one deal to pay for the other and all of a sudden money’s going out the door in interest payments, but they’re using maybe rehab funds or profit from other deals to pay the monthly payments, okay. This can become a very big problem because if you’re robbing Peter to pay Paul, if you’re robbing from one deal to pay the monthly payments on the other, while that deal is still not stabilized, all of a sudden you’re draining down your resources from one deal to pay for the other. So it’s a major, major problem. So how do we fix that problem?

One we make sure that we build in enough private money. We build in enough free capital to make the mortgage payments for 3 to 6 months to 12 months. We’ve got to have enough in the reserve account to pay for things like real estate taxes, monthly payments to pay for things like insurance to pay for those things. So we’re not robbing from the rehab dollars to pay the monthly payments. So we’ve got to make sure whether we’re lending, whether we’re borrowing, whether we’re buying whatever it is, that you have enough money in the reserve account to cover the monthly payments because that is a very easy to spot easily to identify area where people get in trouble.

Secondly, is the contractor.  The general contractor overruns the general contractor quality of work that has to be done and it has to be redone by a different contractor. So on the residential side, you know it’s actually much harder on the residential side to find good contractors. On the commercial side, you’ve got way more professional insurance permits, you know, way more professional quality of work. You’ve got guys that are working, you know, crews and subcontractors that are more expensive, but the quality of their work is much better.

And so that’s a huge, huge piece of the puzzle is contractor delays, contractor overruns. Quality of contractor work is a big deal. I’d rather pay more for a good contractor and make less money, then hire a shitty contractor who sucked. So I’ve got to rip out their quality of work, redo it. There’s overruns, there’s delays. And I find a lot of guys, you know, that like the idea of being a general contractor because they don’t have to do the work and they can just get a fee.

But the problem with that is that then they have to go find the subs. They have to go find the laborers. They have to go find the guys to do the actual work and they’re running into issues. It’s actually easier to hire a larger contractor. It’s easier to find somebody that can do the work on multifamily and large apartment deals than it is single-family rentals, okay. The other piece, the other talking point around contractors is I would much rather pay a guy $25 to $35 an hour to be at a property and get the work done and get the work done very well than to pay somebody $15 to $18 an hour or $12 an hour, trying to save money. Because a significant difference between the guy making $15 an hour and the guy making $30 bucks an hour, okay. The guy making 15 bucks an hour is barely making $25,000 a year. He’s barely scraping by. He’s barely able to afford his car payment.

The guy making $30 bucks an hour, right? He’s making about $60,000 a year, so at $60,000 a year and now you can afford an apartment, you can afford a decent car, you can afford maybe a small house payment. You can afford those kinds of things. Especially if you have a dual income where you have a contractor and then maybe his wife works or whatever. They’re making close to a hundred thousand dollars a year, they can afford that kind of lifestyle. But the guy scraping by at $15 bucks an hour is barely making $30,000 a year, barely able to afford his bills. So guess what happens? He misses his car payment, his car breaks down. He can’t show up on the job. He needs a ride to work, right. There’s all these other issues and problems. So I’ll give you a specific example.

One of my rental properties just last month became vacant. I had a tenant in there for a long time. She got pregnant. The boyfriend left her and she had a kid and then now she only had one income. The boyfriend left and she had one income, so she couldn’t afford the rent on this single-family rental anymore. She started missing payments. We had to evict her. She moved out, okay. Typical situation, no big deal. Well in the basement. We found that in the bathroom that was a finished bathroom, there was mold in the one corner of the shower, so hired a contractor, brought in, his name was Will Berto, brought Will Berto in, who has a tremendous amount of experience and quality of the work is really, really good. $25 an hour, he tells me he can sledge out the entire shower, which is a concrete shower with tile. He can sledge the whole thing out, find out where the mold is coming from. He can then rebuild the shower with new two by fours, put up new hardy backer, put up new tile, move the plumbing drain, and then he can paint the entire bathroom.

He can replace the vanity, replaced the mirror, replace the vanity lights, lay new LVP flooring. He could do it all in a week, so at $25 an hour, 8 hours a day, that’s $200 bucks a day. If he does that for six to seven days, he can do the whole bathroom in, you know, basically five to seven business days. So it’s going to cost me about $200 bucks a day between a $1,000 dollars to $1,400 for his time. Now the LVP, the tile, the hardy backer, the two by fours, the drywall that we needed, the vanity, the light, the mirror, all that stuff. We’re buying it for a single-family rental, so it’s all, you know, mid-grade to low grade type of stuff. So all the material cost me about $800 bucks and Will Bertos time cost me between a $1,000 to $1,400 bucks. But here’s the thing, we turned around that entire bathroom in seven days, sludge it out, got rid of the mold, treated the walls, rebuild the whole thing and put it back together.

That’s the difference between hiring somebody at $25 to $30 an hour, who knows what they’re doing and wants more work, wants good quality work to be done. Is professional and proud of what they produce versus the $15 an hour, $12 an hour guy that you’re trying to save money on, who’s car breaks down, okay. Now, if you’re doing this on a multifamily property with 25 units or a hundred units or 300 units, you can just multiply, multiply, multiply the either the solution or you can multiply the problem. And so every single time that I’ve seen a investors, especially cashflow investors, guys building portfolios get into trouble.

It’s those two issues. It’s monthly payments that are not being covered by rents. So they’re robbing Peter to pay Paul to pay the rents, okay. Or they don’t have enough cashflow coming in. So they’ve got to rob Peter to make the payments for the mortgage company or the single family rental or the rehab company that gave them the private lender loan or it’s the contractor, the quality of the contractor being able to slam out the work and do it quickly versus somebody who’s cars breaking down and issues and problems.

It’s those two things. So if you’re looking to build a big portfolio, whether it’s 25 units or 3000 units, I’m currently invested in over 2200 units of apartments. We lend on multifamily, we lend on small balance commercial. We do single family rental loans, we fund about 15 to 25 or prehab deals per month. I see it every single day. This year alone, we’ve closed nearly 150 loans in the last eight months, about 20 loans per month. And the guys that I’ve seen that have get into trouble, it’s always, always, always for those two reasons, monthly payments that are not covered by cashflow and contractor overruns, delays in quality of work.

Solve those two problems and you’re going to bulletproof your business from default, from delay and from financial trouble. Okay, got it. All right, so I hope you enjoyed that and the, you know, from my own experience and the troubles that I’ve had with people that I’ve invested with lent money to and even a few of my own deals along the way that have gotten sideways for those two reasons.

You’ve been listening to Josh Cantwell and the Accelerated Investor Podcast. Leave a comment on our iTunes channel and let us know what you want to learn next, or who you’d like Josh to interview. While you’re there, give us some five star rating and make sure to subscribe so you can be the first to hear new episodes. Follow Josh Cantwell and his companies, the Strategic Real Estate Coach and Freeland Ventures on all social media platforms now and stay up to date on new training and investment opportunities to start your journey toward the lifestyle you’ve always dreamed of. Apply for coaching at JoshCantwellCoaching.com.

Even the most successful real estate investors get into a financial pickle, every now and then. But those who are prepared for occasional setbacks are the ones who push through and recover quickly. 

So, what are the two biggest reasons that investors run into big financial problems? In this podcast, Josh explains the two most prominent reasons why investors struggle, in his experience. Hint: both problems can be almost entirely preventable, if you plan strategically. 

Whether you’re in a strong financial place now, or having some serious setbacks, Josh has some insightful advice that can help you strengthen your processes and build a more solid strategy for reaching financial freedom. 

What’s Inside:

  • Why even the most successful investors can suddenly run out of money
  • How to avoid working with borrowers who may be fudging their numbers
  • Identifying how much “dead wood” (non-performing properties) an investor has
  • How much money you should put into your reserves for each property
  • How to avoid contractor delays, overruns, etc. that decimate your profits

Mentioned in this episode​