Donna Milling began her foray into real estate nine years ago. Considering her experience, it's a wonder she didn't decide to take up a tamer avocation -- white-water rafting, say.
A schoolteacher at the time, Milling had saved up $3,000, which she then wanted to invest. A little fast talking convinced the owner of a five-unit Wilmington, Del., apartment building to sell her the property for $32,500, with the $3,000 serving as her down payment.
Even then, $32,500 for five units didn't exactly buy a top-of-the-line structure.Milling had owned the building just six weeks when several bricks fell out of the chimney, stopping up the furnace. "Smoke went through all five units," she recalls ruefully. "I had an insurance claim, and the tenants were threatening not to pay the rent." Nor was Milling in a particularly strong position to deal with the tenants' grievances. Nervous about her status as landlady, she hadn't even told them that she owned the building.
In the end, things worked out: The insurance company paid, the tenants calmed down, and Milling still owns the building, which is now worth roughly $120,000. More to the point, Milling found that she had survived this baptism by smoke -- and that being a property owner had its attraction as well as its calamities. Gradually, she began acquiring properties, mainly suburban singlefamily houses in the northern Delaware and Philadelphia areas. Today her portfolio includes upwards of 60 houses, most ranging in value from about $40,000 to about $60,000 -- and her net worth, she estimates, is more than $1 million.
Along the way, Milling has become something of an expert in the tricks of the real estate trade. And if there is a theme that permeates that expertise, it is that a real estate transaction is very rarely a cut-and-dried affair. "You can end up," Milling says," negotiating deal within a deal within a deal."
The deals she describes range from the simple-but-clever to the relatively sophisticated. One purchase, for example, was a $75,000 house with a $50,000 outstanding balance on a 10.5% assumable mortgage. The owner, Milling learned, had $15,000 in unpaid hospital bills.
Milling called the hospital and discovered that the administrators were willing to settle for $9,000, paid in monthly installments of $78 a month, interest-free, with the debt assumable by anyone who eventually bought the house. She went back to the home owner and offered to assume the $50,000 mortgage, take care of the hospital bill, and pay him $10,000 plus interest in the form of a second mortgage -- $1,200 a year for 10 years.
It was, Milling says, a win-win situation. The seller got rid of his house, had his hospital bill paid, and got an additional $1,200 annual income for 10 years. Milling got a house valued at $75,000 for $69,000 in liabilities -- and she hadn't shelled out a penny in cash.
In general, Milling advises prospective real estate investors to structure deals backward: Figure out your monthly rental income first, then plan your offer accordingly. She has found this approach particularly useful when she is buying single-family houses foreclosed on by the Federal Housing Administration or the Veterans Administration, both of which sell off government-insured houses when the mortgages aren't paid for 3 to 10 months. The buyer is chosen through sealed bids offered to the real estate agents selling the property. Working backward, Milling found herself winning about 95% of the time.
"Project what you think the building's market value will be one you fix it up," Milling says. "Then determine the spread between your cash investment and the appraised value of the property." Shooting for a spread of 20% to 25%, Milling was winning bids with such prices as $31,683.92. "I always won them by just a few dollars," she says with a laugh.
Milling uses a tax-shelter strategy that she calls "superleveraging" to pyramid her holdings; that is, she borrows more than the amount she needs for a mortgage. She advocates superleveraging at about 115%. Milling found a house in southern New Jersey, for example, that had a foreclosure sale tag of $35,000. She estimated that a fair-market value for the house, with improvements, would be $50,000. Her costs -- $35,000 cash, plus an estimated $3,000 for renovation -- would allow for a healthy $12,000 spread, about 32%.
As an investor with good credit, she was able to arrange for a mortgage covering 83% of the house's fair-market value after improvements, or $41,500. After paying the purchase price, repair costs, closing costs, and miscellaneous expenses, she had $1,400 left over. "If you buy houses in this manner 10 times in one year," Milling explains, "you'll have 10 houses and $14,000 more than you had in the beginning of the year. You'll also have approximately $350,000 [in properties] that you can depreciate over 18 years."
One way to find people eager to make a sale, says Milling, is to save the classified section of the Sunday newspaper and then compare it four weeks later with the current Sunday paper. If a house is still for sale or rent, the owner may be ready to cut a deal.
Recently, Milling found a couple who had moved to California two years before and couldn't sell their house in New Jersey. Milling believed the sellers' $44,000 asking price was too high; the house's true value, she estimated, was closer to $41,000.
Instead of making a direct bid, Milling used a strategy called lease/option (to buy). This strategy allows her to control a property's appreciation over a set period of time, again without a cash outlay. She offered to lease the house for an amount equal to the owners' mortgage payments ($319), and to assume responsibility for any maintenance costs that were more than $75 a month. As part of the deal, she obtained an option to buy at $44,000 in five years. Milling then rented the house for $485 a month, giving her a positive cash flow. At the same time, she locked in a $44,000 value on the house, with a chance to buy it if it significantly appreciates in value. Win-win? The sellers, Milling explains, liked the deal; they got rid of a headache 3,000 miles away, and could now begin to depreciate the house on their tax returns.
Milling makes one last point as she relates the story. Never own the house you live in, she says, since you can't take depreciation on your residence. Instead, buy someone else's house, rent that out, and let another investor own your house.The same is true for vacation houses.
While Milling is no longer averse to the role of landlady, she acknowledges that bad tenants can turn real estate investing into a nightmare. Her prospective tenants must undergo interviews lasting at least an hour, and must sign detailed leases. Milling prefers renting to blue-collar workers, who, she says, "are usually skilled with their hands and are not afraid to fix the plumbing." To motivate tenants to pay the rent on time, Milling offers a $75 discount if the rent is paid on the first of each month and if the tenants make minor repairs. If these conditions aren't met, however, Milling takes a hard line. "I own the house you live in," she told the teenage son of a couple whose rent payments had been chronically late for two years. "When your parents come home I want you to tell them that you will not be living in that house a week from now if I don't get the rent tomorrow." The tenants, she says, paid the rent the next day.
Not long after she began her real estate acquisitions, Milling found that paperwork was consuming up to two weeks out of every month. Working with a programmer, she designed a computer program -- dubbed Rentman -- to simplify record keeping, accounting, and the like. Two years ago, she founded a company that sold a version of the program for micro-computers. Milling, however, is not an ambitious software entrepreneur. She is trying to divest herself of the business to invest full-time in houses. For all the hassles, that seems to be where Donna Milling's heart is.