I think this will be a shorter post. I wanted to explain why I am deciding to go with these two routes as opposed to other routes that people take to gain Finance Independence.
My goal is to generate income each month that not only covers my expenses, (Phase 1) but allows me to travel, allows me to pick up side projects, and allows me to not worry about if it is pay day next week or not. (All inclusively Phase 2)
With rental properties, the math is a bit more simple in my mind. That is, after you’ve made the purchase on the rental and your numbers are correct to what you thought.
Simply speaking with rentals, you have a pretty fixed income each month, say $1000 of rent paid by the renter.
You then have your expenses. This includes a few things, but my list won’t be all inclusive, nor is it a perfect representation.
Mortgage: Principal and Interest: $400
Utilities: Electric Bill: Paid by Tenant
Utilities: Gas: Fully electric house so $0
Utilities: Water, Sewer, Garbage: $100
Home Owner’s Insurance: ~$50
Capital Expenses: Repairs Savings: 5%-10%: $50-$100
Vacancy: 5%: $50
Adding these up, you get about $800 on the high side. This leaves you with $200 left over as cash flow each month. Yep. Pretty simple. A lot of other people just take the Capital Expenses and Vacancy as cash flow as well, but I am hesitant to do that due to the fear of something breaking and then just not having any money to fix it or having to fix something while looking for a new tenant.
These numbers work pretty well for a house that sits around $100,000 to $125,000 which is around the price I would plan on buying if I did.
If it was enough to own one rental property and then retire, I’d be putting a lot more of my savings into it. But $200 a month is not enough to live entirely off of. It’s a great amount, don’t get me wrong, but not enough to stop working.
The beautiful part about it though, is that each month, that $200 is saved as well as what I was saving before for rental properties and it grows. Say I was putting away $500 each month for a rental. In a year, I’d have $6,000. After the first rental happens, I am doing $700 a month which in 12 months, is $8,400. That’s pretty sweet! Just imagine what it’s like after 2 or 3.
And no, this is not fully passive. I don’t think my goal after working was to not do things for my financial future. It will still take some work, it will still take some planning and time, but the payout can be great and the work can be rewarding and that is good for me.
So that is a start. Will it take a while to get there? Of course! I plan on buying my first rental property in year from now. I am not waiting for some inevitable crash or for prices to drop, I just have to save and 20% down on property is quite a lot. To imagine, a $100,000 house requires $20,000 of down payment, about $2,000 in closing cost if you are lucky, as well as having to pay for a month or two of rent while you find tenants. That could be $1,000 or more. So you look at around $24,000 savings just in case. And while we are finishing up paying off my wife’s student loans, I am pouring everything I have into those. Once that is done, I will funnel it all into the other items and it will grow much more rapidly.
Why dividends? Why not just put money into funds that grow til I’m 60 like VTSAX and FIAX?
Well, I’m not fully NOT doing that. I have a 401K that is contributing to some mutual funds that are growing great. Something around 14% on average each year. But really I can’t tap into that money until I am 60 and that is just so far away.
Dividend income allows me to get money into my pockets now or when I retire. While dividend payments in a Roth IRA can be taken out, my plan is to keep them invested as long as I can. Since Roth IRAs have a limit on what you can contribute (currently $6,000), the dividends will help to grow that portfolio to a greater amount than I can if I just pay myself. As well, this gives me another stream of income when I need it.
Right now, I am no where near maxing out the Roth IRA account I have. Mainly because I started it in August for the year of 2019. That means, I’ve only contributed to it for about 2 months. And not terribly exciting. Right now, as I mentioned in my last post, Current Investments, I am only making a few bucks a month. As things ramp up, that should change pretty rapidly.
The whole idea that I bring up though, is that once my portfolios start to grow to 5 and 6 figures, my dividend income will be several hundred dollars a month. That covers a lot of expenses. Of course, this will take time as well.
But the nice thing about these is the compounding effect. I don’t have to wait another year of rental incomes to buy another property. I don’t have to wait to see if Amazon or MCD is going to go up high enough by the time I retire so I can sell the stock and pay for my retirement then. I am able to get a decent return back into my pocket now, and continually put that back in. Maybe I only get 4% back annually, but I get to put that back in, every couple of days as opposed to every year.
Many people talk about how rough is it to have student loans because they compound daily. Why does a 8% student loan sound worse than a 10% car loan? The same goes for daily compounding investments like dividends. And at the same time, those dividends will eventually cover expenses while keeping my stock in the market to grow as well. Warren Buffet follows this same strategy. Last month he wanted to buy into a deal at 10% (which is the highest an individual can hold of a company but we wanted 8% dividends as opposed to whatever they were going to give out to normal investors. Now, I am restating what a lot of people write, but someone made a great point of “Why wouldn’t he just ask for those stocks at a discounted price?” That would leave him with a better share and his stocks would grow better. The 8% dividend allows him to grow his investment faster. Nail in the coffin. Do you think I’m wrong? Let me know.
In any case, Dividends and Rental Income are great ways to get paid in order to cover my expenses but I also get to keep the original investment as an asset. This means that if continued, it will produce more and more and open up doors that weren’t open before. The possibility of Part-Time work or more flexibility in what career I choose. Maybe it will be motivation to quit a job and start a business passion I’ve always wanted to try out. The real goal is to cover the expenses of daily life and to open up opportunities greater than I would have if I decided to not save my money. I can easily make it to 65 just working each day and I don’t have to save a dime. It’s for when I am switching job or when I stop working that I want this saved money to kick in and pay for everything that I was paying for by spending 8 hours a day at work.
Hopefully that gives you a good idea of why I think these two vehicles are great ideas. If you would like to talk more, you can message me on Twitter and Instagram @YoungBudgeteer or comment down in the comment section. Thanks for reading and I hope you have a great week!