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Real Estate Why we chose a B&B for cashflow (and how we got to this point)

Russ H

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NOTE: THIS WAS ORIGINALLY POSTED IN JUNE 2005

Let's talk about big ticket items instead. Businesses that you buy. I know that you purchased a B & B a couple years ago (has it been that long?), and I imagine that there was some type of funding involved. *Why did you choose that particular kind of business; was it one you were looking for (e.g., an interest), or was it the numbers?
It was both. My wife and I wanted to have some type of investment vehicle where we could work with each other each day (we love hanging out together). So the B&B was a natural choice because it utilized both of our skill sets: Running a biz, acctg, mgt, making things run better/cheaper, cooking, working w/people (her skills), and Running a biz, design/construction/rehab, cooking, making things run more efficiently, working w/people, marketing, and working from home (my skills).

The numbers were important. We wanted to live close to her family (all in CA), and making RE work here is, to put it mildly, a creative enterprise. Running a B&B works because we're putting in a lot of sweat equity-- and we bought undermarket. In the first year, we increased revenues 15% over past highs. We're on target this year to double that rate of growth (30%+). Banks love to see this.

Which brings me to our third reason for doing this: Making this biz a success made us way sexy to lenders, who wanted to loan us money for othe similar ventures. So we got a $1.5mil bldg that we plan to convert to a B&B worth in excess of $3 mil. If the city doesn't allow conversion to a B&B, our "Plan B" is to convert it to condos, which will also be worth in excess of $3 mil.

Cost for conversion: around $200-500K, plus 1-2 years.

Someone like Les Gee would never do something like this, because it's too time/labor/resource intensive. He's an acrobat, hopping from one deal to the next, always keeping his money moving. This is an excellent strategy, and works extremely well in Northern Cal, where appreciation is just plain mind-boggling.

Me, I'm a rehabber. I buy houses, fix 'em up over a few years, and sell 'em.

A few examples:

House #1: Bought in 1995 for $200K. Over the next 7 years, put $250K into it. Sold it for $757.5K (not too shabby). Most important item to note: Since I had lived in it for 2+ years, I got $250K TAX FREE. That's the equiv of nearly $500K in after-tax income, had I gotten this money via a "J*O*B". Plus I got the $250K back that I'd put into it.

House #2 Bought in 1998 for $169K. Over the next 7 years, put $150K into it. Sold it for $730K. Most important item to note: $411K in appreciation was too much for me, so I 1031'd' it. Took $200K out 2 years ago when we bought the B&B, and pulled another $200K out when I sold it, for the down on the new 10-unit apt bldg.

House #3 bought in 2003 for $475K. Over the next 2 years, put $25K into it. Sold it for $602K. Most important item to note: Since I was my primary residence for 2 years, I got $75K TAX FREE. That's the equiv of nearly $120K in after-tax income, had I gotten this money via a "J*O*B". Plus, I spent next to no time fixing it up (it still needed lots of work-- I sold it to another rehabber!)

All of the above examples are just steps on the way to my latest rehabs:

B&B #1: Bought it 18 mos ago for $1,350K. Put $350K into it. Current FMV (based on gross sales and RE values) is just shy of $2,500K. That's $800K of appreciation in less than 1.5 years. What's important: We got this appreciation using money for the down from one of the other houses, then used HELOCs from 3 houses for the $350K in fix-ups. Then, we sold the other houses, made money, and cleared the debt.

Used the money from the sale of 3 houses to buy:

B&B #2: Bought it 1 mo ago for $1,500K. Plan to put $250-500K into it. Current FMV w/changes: $4,500K, if we can get the same kind of numbers we're doing on B&B #1. This should be a cinch, since we'll have economies of scale (same staff, marketing, answering phones, etc. for both B&Bs). The most important thing here is we got $1,200K in loans (300K down) with virtually NO personal income last year. The loans were based on the bldg's ability to generate money, and the confidence of the lenders in our ability to make the changes happen.

I'm going to hit each of your questions, Jason, in individual posts. That's enough for me for today (brain is tired, and I stil have other work to do).

The take away from this post:

1995: I started w/ a $200K house and $40K down.

Today (2005), my wife and I have $4,000K in RE, $1,500K in equity,
and $100K in cash (not counting the additional $300K out of pocket that we also have after selling the houses).

By 2007, we'll have $6,500K in RE, $3,500K in equity, and that same $300-500K out of pocket. So we could sell the places for $6,000K (the buyer saves $500K), and still pocket over $3,000K, counting the out of pocket.

$3,000K at 5% intereest (30 year t bills) = $150,000 per year. Enough to get out of the rat race.

The really bizarre thing here is, we learned how to do this by playing Cashflow. Never would have tried it had we not learned about leverage and making businesses pay your bills.

Kinda cool, eh? :)

-Russ H.
 

ProInvestor

New Contributor
Re: Why we chose a B&B for cashflow (and how we got to this point

V. Cool Story!!!!!! :cool: :cool: :cool: :cool: ++Rep!
Hmmm... perhaps this should go into Fastlane Multi-Millionaire Stories....

Nice equit; Know what you mean about appreciation, All of Australia = CA (zero cashflow in ANY city, EVERYTHING based on Cap.Gains).
However motel/B&B = cashflow here as well.

Russ H do u still work in biz or do have u systematized everything? B&B would be hard to systematize without management??

Rgds.
ProInvestor
 

Russ H

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Re: Why we chose a B&B for cashflow (and how we got to this point

ProInvestor-

We still have the B&B (and are developing another nearby).

We have a lot of "hands off" mgt at this point. In fact, I was saying to my wife this morning, if we weren't working on this next big project, our lives would be almost like retirees right now-- just a few hours on the B&B each week!

Those few hours are CRITICAL, though. Giving staff input/feedback, answering their questions, and catching little fires before they become big ones.

-Russ H.
 

Russ H

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Re: Why we chose a B&B for cashflow (and how we got to this point

Another big step forward in our PLAN today:

Just pulled out almost $1M in equity to fund our development projects.

(actual total cash we got was $980,457.76)

Off to do the staff meeting (my one hour working @ the Inn this week).

-Russ H.
 

andviv

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Re: Why we chose a B&B for cashflow (and how we got to this point

Just pulled out almost $1M in equity to fund our development projects.
(actual total cash we got was $980,457.76)
First, congrats in achieving that important goal.:banana:
Second, please do tell HOW you got that equity out, given the current lending situation. I'm curious as to the details of accomplishing this.

I'm stuck right now with lenders approvals and re-appraisals as nothing is getting reviewed/approved in the time frame needed, so we have been losing a lot of time waiting for the banks to decide is time to start lending again. I know, my case is different as it is "only" rental SFHs, so I wonder if you got the loan based on the business income, the RE value, or a combination of both.
 

andviv

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Re: Why we chose a B&B for cashflow (and how we got to this point

Oh, nevermind, I just saw the details in the other thread
 

Russ H

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Re: Why we chose a B&B for cashflow (and how we got to this point

bump for RichKid.

I really wasn't kidding about Cashflow changing your life.

It made us realize we could be millionaires. Fast.

-Russ H.
 

Yankees338

Bronze Contributor
Re: Why we chose a B&B for cashflow (and how we got to this point

Wow! That's a hell of a post. I don't remember reading that before.

If that's not your success story, does that mean that there's one coming? :hurray:
 

LightHouse

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Re: Why we chose a B&B for cashflow (and how we got to this point

bump for RichKid.

I really wasn't kidding about Cashflow changing your life.

It made us realize we could be millionaires. Fast.

-Russ H.
Thats interesting Russ, I never saw this thread in the past. Although i am not a super fan of RDPD, I have always wanted to try out this game.
 

Russ H

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Re: Why we chose a B&B for cashflow (and how we got to this point

Yankees338 said:
If that's not your success story, does that mean that there's one coming? :hurray:
I've been holding off submitting the success story until we hit $5M.

We're within a few hundred K.

-Russ H.
 

Sid23

Bronze Contributor
Re: Why we chose a B&B for cashflow (and how we got to this point

This is an excellent strategy, and works extremely well in Northern Cal, where appreciation is just plain mind-boggling.
Just to confirm, you were referring to Les's strategy, correct?

Thanks for your contribution to the forumn.

-Sid23
 

Russ H

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Re: Why we chose a B&B for cashflow (and how we got to this point

Sid23-

Yes, I was referring to what Les was doing back in 2005 (when I originally wrote this post).

Les is a sharp guy, so I'm sure he's changed gears and is doing something more appropriate to the changing markets.

-Russ H.
 

msa1

New Contributor
Re: Why we chose a B&B for cashflow (and how we got to this point

Andviv, I still dont know if that answered the "how'd ya do it" question. Maybe its different in CA but in MI lenders arent giving a dime on investments. Is it different because its a B&B and they live there?

I know investors here that own investments outright and cant pull any equity. I'm screwed to the wall myself right now. I cant finance a hot dog at the local Coney Island these days.
 

andviv

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Re: Why we chose a B&B for cashflow (and how we got to this point

I think in this case it was because this is an income-generating property. They are refinancing it based on what it produces. It is a business that is backed by Real Estate, so it is easier to get the money out, especially when they are running at 100% occupancy at times. Maybe Russ can add more details about how the loan was structured...
 

andviv

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Re: Why we chose a B&B for cashflow (and how we got to this point

You are referring to a house. The housing market is being hit hard. B&B's are businesses.

Breaktime? doesn't ring a bell...
 

Russ H

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Re: Why we chose a B&B for cashflow (and how we got to this point

msa1 said:
Maybe its different in CA but in MI lenders arent giving a dime on investments.
msa1, there have been lots of commercial properties bought and sold in MI in the past 6 months.

If you are referring to refinancing a single family home (SFH) used as a rental, that's a different story.

A B&B is a commercial loan, similar to buying an office building or any other commercial property.

The loan is not based on the value of the dirt, or the buildings, but more on the income that the property generates.

For instance, when we bought the B&B, it was generating about $400K a year gross revenues.

Since at least some of these revenues were from non-permitted uses, the appraiser said the property was worth $1.3M.

If it had documented uses that were all permitted, it would have been worth about 5x revenues:

400K x 5 = $2,000,000

On the other hand, if the house had just been appraised for its real estate value, it would have appraised for $800K or less.

Our Plan: Make all of the gross revenues legal (making the B&B worth $2M), so we'd have a gain in net worth of $700K (since we bought it for $1.3M, and it would now be worth $2M).

Make sense?

However, since we dramatically increased the revenues (to $750K/yr), it appraised for much higher:

$750K x 5 = $3,750,000 is what it's now worth.

Because the climate is so "tight" right now, the lender didn't need it to appraise for more than $3.4M, so that's what the appraiser brought it in at.

Since we had an outstanding loan (we'd paid it down to $1,020,000), this now meant we had:

$3,400,000 - $1,020,000 = $2,380,000 in equity.

So the lender was HAPPY to give us a million in cash (well, OK, $980K), added on to the original loan:

$1020,000 + $980,000 = $2,000,000 loan on a property worth $3,400,000.

(meaning we still have $3.4M- $2M = $1.4M in equity, or 1.4M/3.4M = 41% equity).

An easy loan for them, since we still had LOTS of equity (more than 40%).

And a great way for us to get cash for our development projects. :)

Please let me know if you need further explanation-- happy to help.

-Russ H.
 

Russ H

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Re: Why we chose a B&B for cashflow (and how we got to this point

bump for Sid23.

-Russ H.
 

ricerocket63

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Re: Why we chose a B&B for cashflow (and how we got to this point

$1020,000 + $980,000 = $2,000,000 loan on a property worth $3,400,000.

(meaning we still have $3.4M- $2M = $1.4M in equity, or 1.4M/3.4M = 41% equity).

An easy loan for them, since we still had LOTS of equity (more than 40%).

And a great way for us to get cash for our development projects. :)

Please let me know if you need further explanation-- happy to help.

-Russ H.
This brings up a question I have always had with these kinds of transactions, I understand the 'cash out refi' but how do you all work with that on the books? That's something I am having a tough time wrapping my head around with these, maybe I am just looking at it wrong. Course, I wished I had the kind of equity to worry about this for myself... :rofl:

The cash out refi, increases debt on your b&b correct? Do you book that against the b&b or separate it out to your new projects, that pay a portion of the note back? Maybe I am just making this more complicated than it seems up front?
 

Russ H

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Wow. long time since I updated this.

Part 3 will be presented at the B&P, in about an hour.

-Russ H.
 

CPisHere

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What kind of occupancy do you need to make money with a bed and breakfast? How much work is required to keep it up?
 
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