Streams of Income vs Piles of Income

Dec 30, 2021

Today we’re going to discuss are piles of money better than streams of money?

What do I mean by piles of money?  A pile of money are profits made from the sale of a property.  For example, when you sell a property such as a rental property.

What is a stream of money?  Its the rents earned off of a lease. It’s the mortgage payment earned from a mortgage, if you’re the lender.

Which is better?  There is no right or wrong answer, it depends on your risk tolerance and how much you’re willing to pay in taxes.

Here’s how I learned my lesson.  For several years, I had been flipping homes with a partner.  At the end of each year, I found out from my CPA that I was paying a lot in taxes.  Why?  Because the income from a flip was taxed as a short term capital gain and the rate was a lot higher than if I held the asset for a year or more which was a long term capital gain. Clearly this wasn’t fitting my objective.

And if that wasn’t enough punishment, I decided to do my own flip and if you recall in Episode 7 – The Flip that Flopped where I told you about a flip I had done and at the end of the deal the house wouldn’t sell and I had put too much money into it and I bought it at the wrong price?  

Plan B – I decided to put that house on the rental market.  This is the great thing about real estate, there’s always another way to solve the problem.

Why?  Because if I held the house for 1 year and then sold it, I would pay Long Term Capital gains which is a lower tax rate.  

I placed great tenants in the house and held it for 1 year.

The tenants were so great that after 3 years of rental history with me, I decided to sell the home.  I decided to sell for 3 reasons, 

  1. The house had appreciated enough for me to recapture money 
  2. I no longer wanted to be a landlord and fixing everything that broke
  3. I wanted to trade-in being the landlord for being the lender.

How did I do that?

First, I did not sell this house outright because this time, I didn’t want a pile of money!  Everything I had learned about piles of money meant to me that I’d be paying way too much in taxes.  I wanted to lessen my tax burden!  This time I wanted streams of income!

Second, I reached out to my tenants to see if they wanted to buy the house and they were all in.

Third, I hired an attorney to structure the deal.  In this case, there was an existing mortgage on the home and I did what is called a Wrap Around Mortgage – basically, we agreed on the selling price, the tentants became the borrower and I went from being a  landlord to Lender.   Each month they pay their mortgage to me, I pay the existing mortgage and what’s left is mine.  The money that’s left over is considered passive income and at the end of the year I’m only taxed on what I earned.  If I had sold the house outright I would have been taxed on a pile of money and not the stream of money.

Today, I have several streams of money coming in and I always shy away from piles of money, even though for some reason I seem to attract piles.  Now, I plan my exit strategies so I don’t end up with a pile of money.

I often run into many sellers in the market that are of the belief that a pile of money is what they want.  When I believe in their minds, they are thinking, if I get a pile of money, I can do XYZ with it.  Which typically means, they are going to go buy doodads (unnecessary items) or they say they want to pay off their bills and before you know it, the money is gone and now they face regret.

Why do I know this?  It happens every day, because in general most people, including me early on, don’t know what to do with their money once they get it – meaning they don’t know where they can invest it.  I know several individuals now with money and they have no where to put it because the real estate market isn’t in what most people consider a buying market, so they are holding on to it. These are typically seasoned investors. 

If you’re well versed in real estate you will find a viable investment but for those not yet educated in real estate may invest in the stock market.  Personally, I don’t invest in the stock market because I can’t control the asset.   

Here are 5 reasons you should consider streams of income.

1). You save on taxes!  Let’s say you earn $100,000 on the sale of a property and your single. Your Short term capital gain tax rate for 2021 is 24%  meaning you’ll pay $24,000 in taxes.  If you held on to that asset Long Term Capital gain rate is 15% meaning you’ll pay $15,000.

2).  Pays down Debt. If you have multiple streams of income, you can pay down existing debt quicker.

3).  Provides a safety net.  What if you lose your J.O.B or become ill? Having streams of income you could take your time looking for another job or take the time off needed to heal from an injury or illness.

4).  Creates Financial Security – Let’s say your debt is paid off, then you can take this stream of income and invest it in more real estate.

5). Allows more free time – With multiple streams of income it allows you flexibility in your free time for more vacations or starting a new business.

It has been my experience that when the piles of money run out, you’re either left with nothing or you’re left with nothing and a huge tax bill at the end of the year.  I’ve seen this happen with first time Wholesalers.  They make their first $20K profit from their first deal and then they go on vacation.  It’s not until tax time, that they are faced with a big dose of reality when they realize they don’t have the money they need to pay their taxes. 

Obviously, based on my experience I prefer streams of income over piles of income, and for you maybe your circumstances are different and you prefer piles.  My best advice would be to play out each scenario and understand your tax implications before you decide on a pile or a stream of income.

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Episode 7 – Flip that Flopped