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Hello everyone! Today we will talk about seven different ways you can reduce or even eliminate risks when investing in real estate. This story came about when I was talking to a lawyer I respect, and as I was leaving his office , I said, " Be sure to invest in real estate." To which he replied: "I know it would be worth it.
I'm just a little wary of the risks ." And I thought, "Wow, wait a minute." First of all, you are a lawyer. And secondly, why don't I feel afraid of risks when investing in real estate? And then I realized: yeah, it's because I'm constantly thinking about seven ways to reduce risk in real estate. And I thought, you know what?
Even if it's just for him, why not compile these seven methods into one video, riding a Segway and discussing them? We'll talk about LLCs, trusts, insurance, and many other things you may not have heard of before. So hit the like button, subscribe, and let's get started. So, first of all: there are two types of risks you need to be aware of when investing in real estate.
The first one is pretty obvious. This is the so-called internal risk. This is, for example, a situation where you own a home, a tenant slipped, fell, and sued you for whatever reason. Your fear is that the risk from this internal problem will grow and put your own property, car, or money in the stock market at risk.
The second risk you face is called external risk. As we look at this list of seven ways to minimize risk, you will see which of them relate to internal risks and which to external risks. And then you will notice that it is worth using a combination of these seven methods, because one of them alone will not help you.
You need a little bit of everything . That's what external risk is. Let's say you're driving a car, get into an accident, and are sued over the incident. The last thing you want is for the liabilities after such an accident to take away your fortune or your real estate investments. That's why it's so important to protect yourself from both types of risks.
While I will give you a few examples that may give the impression that something is risk-free, realize that there is always some element of risk. I think this is clear, but before we go any further, it's important for you to know: I'm just a real estate broker and a regular guy who makes videos for YouTube while riding a Segway.
I am not a lawyer or an insurance agent. I cannot advise you on how to set up a trust or LLC . You know, I'm not the expert you're really looking for on this list. Think of me simply as someone who provides you with a list to think about so that you can then contact the appropriate professional. Obviously, most people think of a limited liability company when it comes to real estate investing.
It could also be another form of business structure. Theoretically, it could be a corporation, a limited liability company, or something else. The concept is very simple. The point is that if you're going to invest in real estate, why not transfer ownership of that property to a business structure, and then, theoretically, any liability that arises from, say, a rental property or a duplex remains within that business structure.
That's the theory. It's like you're putting your investment in a shell and trying to protect it from spreading like an undercooked egg. The problem is that you need to handle this "egg" very carefully and really know what you are doing. And unfortunately, most people who form LLCs do so in a way that doesn't protect them at all.
So, here are some advantages and disadvantages. The advantage of an LLC is very simple. You try to keep everything within the shell of this company. So, if you have two properties in this LLC, the goal is to have your liability limited to just those two properties. If you have two different LLCs and one entity in each, the goal is to keep the liability for one entity separate from the other.
Very simple. And an LLC can help you do that. But that's where the advantages end. Let's move on to the negative aspects. Oh, and I don't want you to think I'm some kind of anti-LLC. I'm actually a big fan of LLCs, but I'll show you how it fits in with everything else. But let's first analyze the shortcomings.
The main disadvantage of an LLC is that you have to manage it like a real company. Ask yourself: If you have an LLC or have been thinking about forming one, do you have a charter? Do you know where this statute is kept? Where do you keep meeting minutes? Are they recorded? Do you hold board meetings at a specific time and location each year?
And do you document these meetings by keeping minutes? And then where is the log of these protocols? Do you keep them safe , or are they just scattered around Google Drive along with the rest of your life? Like that traffic violation fine for an illegal U-turn. Also, even though it is an “ end-to-end” organization, do you make sure you file the proper tax documents with the tax office to ensure your company is legitimate?
And have you thought about concepts like " piercing the corporate veil, " which is quite easy for any single-member LLC owner like you and me or my wife and I to do? Uh, it's pretty difficult to defend yourself in court during a procedure known as 30B6 testimony. That is, if you are not prepared to have legal representation and properly keep records and document the work of the LLC, you may get into trouble, and then the LLC will not help you in any way .
Some states , such as California, charge annual fees for maintaining an LLC. Some states, like Tennessee, tax your LLC income every year. And while some states do n't have this, you still usually have to pay money to form and register an LLC. This sounds pretty pessimistic, but an LLC can be very, very useful.
If you're ready to understand everything I just said, and I'm not going to explain it all, know this: you'll have to work before you can rely on an LLC as your protection. Obviously, you should contact a lawyer here. Now let's move on to defense methods number two, three, and so on, and then I'll show you how it all connects.
Option number two for your protection is a trust. It doesn't work in every state. Some states have so-called irrevocable trusts for asset protection. These are states like Nevada or Tennessee, where you can actually separate yourself from your assets and after a certain amount of time, theoretically, have an impenetrable trust.
So if you get sued over that car accident, you could lose and be liable for millions of dollars in damages, but theoretically no one would be able to touch your assets in such a trust. You see , it's actually different from a limited liability company because with an LLC, if you lose, someone can claim your share of the company and say, "Oh, you own this LLC." Perfectly.
Now we want 50% of your share to cover the costs of what you did." or they will try to take your profits. There are certain types of trusts across the country where you can completely protect yourself from this. Although it gets a little more complicated if you're not in the states where it's in effect.
Of course, California is one of those states where this does n't exist. Sometimes people from California try to get it done in another state, but it gets complicated very quickly. Trusts are usually useful for remaining anonymous and planning your inheritance properly. That is, if you die and want to pass on your property to your children, you will no longer be around to decide it.
So you create a trust to avoid legal proceedings regarding your assets. Therefore, if you can set up an asset protection trust, it may be worth considering . But if you're not in one of those states, you might just want to consider a trust to get a little more private and plan for your estate. Step number three: you can take advantage of renters insurance.
This is usually something that many of us fear. Eviction of tenants, after which they destroy the housing or do not pay rent and continue to live there. You still have to pay the mortgage, and the tenant doesn't . At the same time, they cause damage to property. This is terrible. Well, there is something called a landlord insurance policy that can help protect you from this risk.
That way, if you have an eviction or a tenant intentionally damages your property, this insurance policy can cover you. However, the problem with this policy is that you usually need to hire a professional licensed property manager to be able to take advantage of it. This is where many of you decide, "You know what, I can't afford to hire a manager or I want to have extra cash flow." Instead, I will try to protect myself by becoming the best property manager I can be.
That's why Lauren, my mother-in-law, who has been in property management for 35 years, and I are launching a self-paced property management course on January 15th. Follow the link below. And remember, the discount coupon for all courses, including this one , is valid until the 20th. And then there will be a new code for Christmas, but the price with it will be a little higher.
So, the fourth method of protection in real estate—and this sometimes sounds painful—is to set a slightly lower rent price to try to attract better tenants. This doesn't always work. Of course, if that were all there was to do, there would be no point in taking property management courses or landlord insurance.
Everyone would just get a little less rent. But there is a second part to this. So, part one: rents are slightly below market rate to increase tenant retention . You see, minimizing turnover is a form of risk prevention, and sometimes you get a better, higher-quality tenant who stays longer. Now the second is the purchase of the property itself below market value.
You see, the big risk in real estate that scares people a lot is: "what if the market collapses?" I don't want to go bankrupt. What if I lose my job ? I don't want to have negative cash flow. These are all dangerous things. Therefore , if you can buy a property below market price, in the worst case scenario you can usually sell it and make a profit, even if the market falls or the situation changes.
But another great advantage of buying property below market price is usually greater cash flow. Many people complain and say, "I'm trying to buy a house, but every time I want to buy a property, I get a significant negative cash flow if I rent it out." And this is relevant for many regions of the country today.
This is why it is so important to learn how to find deals below market value, as it increases your cash flow. Of course, another way to increase cash flow, although it's a little more painful, is to make a larger down payment. Now method number five— civil liability insurance. This should be pretty obvious, but here's the thing.
Most people have a house like this one . It was built in 2008 and they insure it at 2008 prices. Over time, the insurance cost and your insurance premium increase slightly. But often people simply don't keep track of their insurance value. So, suddenly they buy something like that for $300,000, and after a certain amount of time, say from 2010 to now, it costs $700,000, and the person finds themselves completely uninsured.
Then the forest fires come, burn down the house, and suddenly you don't have enough money to rebuild it again. This is exactly what happened relatively recently in the city of Ventura during the fire known as Thomas, where many homes built in the 1970s and 1980s were critically underinsured. The same can happen with tenant liability or other forms of liability, and you don't want to be left with a bill in your hands.
So make sure your insurance coverage meets the requirements and you are insured against what you need. This is extremely important. Here are some quick examples of where people often make mistakes. First, when someone buys a property, lives in it, and then rents it out, they forget to take out a landlord's insurance policy.
This is very important. Take out a landlord's insurance policy. Another mistake is that people have an empty house that they are renovating and do not take out so-called vacant property insurance. If you have a landlord or homeowner's policy, but the house has been under renovation for 4 months, you should have vacant home insurance.
Otherwise, you may suffer serious financial losses. I know many people don't like insurance, but I have to say it. Your first line of defense is usually insurance . Have proper insurance, update it on time, and always document your conversations with the insurance company and insurance agent. This can really help protect you from liability.
The next way to minimize risks is to take out an umbrella insurance policy. There are different types of such policies. There are personal umbrella policies. They can cover things like your home or car. And there are commercial umbrella policies, which are often required for LLCs, business structures, or business services.
They are usually more expensive than personal ones. Remember, every time you hear " commercial," just think—it's more expensive. Greetings. Congratulations. So, here's how an umbrella policy works. Let's say you own this duplex. They are actually sold as separate objects. So you own one for $550,000 and another for $550,000.
Yes, I know, California is expensive. Now let's say you have $300,000 in liability insurance on each of them. Then the tenant slipped and fell here, sued you for a million and won. And your insurance says, " Oh, we'll only cover 300 grand." Oh, what a mess. And suddenly you're left with $700,000 in debt, which means you have to pay cash.
You can sell that or part of that to cover the $700,000, or hopefully you had an extended policy that would help increase the limit from, say, $300,000 for each to a million for both combined. That's why it's called an " umbrella" policy. Just imagine a large umbrella over these two objects. Now I'll show you how to tie all of these things together, but here's method number seven for reducing risk.
Think about it. The newer your property, the less risk you usually have. And often, if you are buying a new build or relatively new home, you can get transferable warranties . Remember, we're not just talking about risks associated with tenants. We are also talking about the risk of heating failure, electrical system failure, earthquake or window damage that needs to be replaced.
There are many products for which, when buying a new home, you can get a lifetime warranty, or a warranty for 10, five, or three years. Guarantees are useful. I know that insurance companies can suck all the blood out of you because they look for loopholes to avoid paying. I understand. Warranty companies are trying to do the same thing .
But trust me, as someone who has been through the court system at least three times. I want you to know: I would rather have insurance and argue with the company about coverage than be left alone with the problem and pay a lawyer myself. So, new and guaranteed is good. This also applies to the area of housing guarantees.
Look, I know they have the worst reputation in the world, but think about it. If you are a first-time buyer and are afraid to buy a property to death, most sellers will provide you with a one-year warranty plan. Just take it. I had a lot of buyers move in and the next day the water heater would fail because the utility company would turn the water off and then turn it back on and it would explode.
Strong water hammer. Fortunately, in cases where there is a home warranty plan, someone pays about $70, usually the customer, and gets a new water heater. Now I'll add a few bonus methods and then summarize it all . So, bonus method number one is a neighborhood like this, and I know this will upset many, but I'll say it anyway: the condominium fees here are very low.
That's about $18 for houses. I know, this sucks because technically you're not allowed to repair a car in a garage. You can't paint your house the color you want. You can't prune trees the way you want and all that stuff . I understand. There are a bunch of rules here, but think about it from the perspective of an investment property owner.
If you own investment property, what does this mean? For $18 a month, your tenant is now required to follow the neighborhood's rules. And usually, when you pass through a neighborhood with condominiums, you think, "Oh, this is a clean and nice neighborhood." Not always. There are a lot of bad associations.
By the way, if you check out—and you don't have to pay for anything —if you go to the real estate investing course at the link below, you can see a free lecture on how to value homeowners associations . It seems there are two parts. One part is a free preview. So feel free to check it out. Okay . Now the other thing, and this is another little bonus: if you don't want to deal with all this crap, then maybe just don't buy real estate.
You can do this by buying stocks. You can buy real estate investment trusts. You can buy shares in syndicates. And you can get a kind of passive income and limited liability this way. Obviously , there are other things to consider, but it's worth considering. Now let's summarize everything and I'll show you what I do.
So, since we've almost come full circle, let me show you what I do. So what I'm actually doing is a combination of all of the above . First, I always focus on buying real estate at a price below market value. These are my " wedge" deals. A huge protection factor for me. This is priority number one. Second: I always manage my property professionally and set the rental price slightly below market value.
This is very, very important. First, it is important to have well-maintained, high-quality properties, manage them professionally, and invest in good, high-quality deals. If possible, I also buy new buildings. This is another way to minimize my risks. I always have proper insurance policies with extended coverage.
Apart from that, I use a combination of methods, but that's a topic for another conversation. I am aware of this. Perhaps this is a topic for a separate video. In California, I combine the use of a trust and a limited liability company for my real estate. So that's another thing to learn. In addition, whenever there is an opportunity to obtain transferable guarantees , I make sure to register them.
I usually don't buy home warranty plans because when you have multiple properties it gets very expensive and doesn't justify the cost. This is normal, if you don't have money and you really need this protection, because a heater failure could ruin you, then you will also have to make this decision. Do you want to get into real estate?
But, listen, if the seller is going to pay for a warranty plan for you, then why not? And the last thing I do—I always try to stay up to date with the latest tips, techniques, and laws about property management so that I can not only provide you with the best information, but also understand how to best protect myself.
But it's not just property management, which we teach in the DIY course, but also the issue of keeping track of tax and insurance legislation, as well as liability or law in general. Well , that's how it is. I hope you enjoyed it.
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