Podcast Transcript: Eric Sussman

Eric Sussman

Here's a transcript of the conversation Mike Sante, managing editor of Interest.com, had with Eric Sussman, who teaches accounting and real estate at UCLA's Anderson School of Management.

Mike Sante: Hi, this is Mike Sante, managing editor of Interest.com. I am in Los Angeles to talk with Eric Sussman, who teaches accounting and real estate at UCLA’s Anderson School of Management.

Mr. Sussman has been voted Teacher of the Year an incredible 12 times by Anderson’s MBA students. So it is pretty safe to say he is one of the business school's most popular instructors.

And when he is not teaching, Mr. Sussman is running several companies that own and lease 1,800 residential units. So he seemed like a good person to ask about buying and managing investment property.

Mr. Sussman, does it make sense for someone who is trying to build financial security to have an investment property, a rental house or a rental condo, as part of what they own?

Eric Sussman: I think so. I think a rental property for an investor trying to create long-term wealth is a great idea and something that I am absolutely in favor of, as well as having portfolio stocks and other assets as part of their wealth.

Mike Sante: OK, what is the big pitfall? What is the mistake that people make most often when they are buying their first investment property?

Eric Sussman: I would say, actually, there are two things that come to mind.

There is an old saying in real estate that you make money on the buy, which is a way of saying that you need to buy it right. You need to pay the right price. Obviously, if you overpay for anything, it is hard to create wealth. So it is a question of making sure that you do adequate due diligence and research investigation on the property and the market to make sure you pay the right price. You do not overpay.

And the second point I would make is what we call sort of a holding period.

The point is wealth, long-term wealth, creation. And that means having that long-term view in perspective.

Real estate as an asset to own. Buying investment property — it has high transaction costs.

In other words, you pay high commissions and fees, both to acquire the asset and then when you sell it as well. So if you are thinking I am going to flip this thing, I am going to buy it and then flip it really fast for a quick profit, I think that is sort of dangerous and certainly may not be the way to create longer-term wealth.

I like the idea — I love the idea — of acquiring rental property, gathering rents from a tenant and also enjoying some longer-term appreciation to acquire longer-term wealth.

Mike Sante: When you say longer-term, are you talking about three years or 30 years. I mean, probably somewhere in between, right?

Eric Sussman: Sure, somewhere in between.

To me, maybe the way to think about that is cycles. I think everyone understands that real estate and the economy moves in cycles. So just making a tiny investment improperly can sort of be a drag, a drag on your portfolio and your returns.

But to me, I think it is a longer term. I would say 10 years is a good holding period. That will take you through probably two economic cycles, as you suggested, sort of in between the three and your 30.

Mike Sante: So — but, for example, is it realistic to think that if you bought a property, and you had, let me say, a 3-year-old kid, and you held it for 15 years, which would be three of your cycles, would you be able to then — having paid down the mortgage and having seen some, hopefully some appreciation — that you have got a pretty good chunk of change there to send that kid to college?

Eric Sussman: I think that would be the goal. I think the short answer is yes, absolutely.

The longer answer, and of course I can always throw longer on an answer, but just thinking about paying for college, that is a great question. Because obviously the real estate itself, unless you sell it, is not going to pay for the college.

But hopefully you have taken the cash flows; you have invested those cash flows. If you wanted to sell the property you could. You may be able to refinance the property with a loan and use those proceeds to pay for the college education.

So I absolutely agree with your, the premise of your question, for sure.

Mike Sante: The amount of money that you get in rent should be how much compared to what your mortgage is and your maintenance cost and your taxes are on that property? What should be your goal?

Eric Sussman: I think here is maybe the way to think about it.

Let us say you bought a piece of property and maybe you got a mortgage, maybe you paid all cash, but let us just keep round figures and say you put $50,000 as an investment into the rental property.

With the rents you get, less the expenses you pay, property taxes, maintenance repairs, etc., I think you should be getting, at least in this market, I would say a 7% return.

In other words, the cash flow at the end of the day, after all of your expenses, is at least 7% of the amount you put out as your initial investment.

So just, in our example of $50,000, you would get at least $3,500 a year in cash flow. If it was $100,000, $7,000 now, 7%.

Mike Sante: So not just an appreciation — your goal should be not just to have the appreciation of the property and the growing equity of the property but actually making money, turning some cash around.

Eric Sussman: Absolutely, and in this economy, and where real estate is, that is the opportunity, and that is what people have done the last couple of years.

People who had real foresight saw — one thing about real estate is that old saying, you are going to buy real estate, they are not making any more of it. Obviously, that is a little bit simplistic, but the idea is, people with foresight realize that the amount of construction, new properties, is going to be sort of fixed for an extended period, while the home builders sort of got themselves out of the mess that they were in.

But people keep multiplying; population keeps growing; people need a place to live. If they were not going to buy a place, what are they going to do? They are going to rent.

You become their landlord; you become the beneficiary of those people who are now renting instead of buying. There are cash-flow opportunities, and that is what makes it a certain, exciting time.

I think you have got to have that longer-term perspective. I am very bullish for the next couple of years on real estate. I really am very bullish. Beyond that, it is sort of hard to see.

But I see that, and again if you buy in the next couple of years, I think you have got — you made up to 15 years, and your sort of horizon — I think you are really on your way to creating some long-term wealth for you and your family.

Mike Sante: Becoming a landlord is a big step.

If you buy a CD, there really is not much work involved. If you put money into your 401(k) plan and you turn it over to a mutual fund, there is not much work involved. But you have been a landlord, you know — I mean, there is lots of work involved. Do you need any special skills to do that? I mean, do you need to be able to be a plumber?

Eric Sussman: No, I do not think you need to be a plumber.

Do you need special skills? Well, certainly being a landlord is more work than being a passive investor in certificates of deposit or in a mutual fund.

But we are talking about negotiating a lease. OK, you can have someone help you with that if you need be, and then having access to service providers as needed.

So certainly, if you need a plumber or a roofer, let your fingers do the walking, ask for reference, the way people do it with their own homes, right, or with other services. You get referrals in a marketplace for a good plumber or a good roofer.

And certainly, those are costs you need to factor in, in your investment analysis. Those are definitely the expenses that you have to pay.

And I will just add one thing, and that is why, as well as the plumbing and roofing, when you buy any piece of property, you need to do a thorough inspection. You need to have your eyes wide open to know what you are buying. That is critically important.

And some things like a roof, unless you climb on the roof, you may not know what is involved.

The plumbing, when you go into a house, you have got to turn on every faucet to make sure the water runs clear and there is enough water pressure. It sounds so obvious, but these are the things you need to do when you are about to become a landlord.

Mike Sante: Thank you very much. We have been talking with Eric Sussman, one of the most popular professors here at the UCLA Anderson School of Management.