John T. Reed's analysis of Eugene Vollucci’s book How to Buy and Sell Apartment Buildings

Copyright 2002 by John T. Reed

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Last updated 5/5/02

Vollucci says
Reed comment
Price $34.95 Surprisingly steep for a 5x8x3/8 inch book-store book
published in 1993 Surprisingly old for a book-store book
speaks of putting assets into “judgment-proof entities” Because of reader demand, I have tried repeatedly to write about such entities. I keep finding that the only things that are truly judgment proof (cannot be seized as a result of your losing a lawsuit) are pensions in some states (e.g., O.J. Simpson in California) and state bankruptcy exemptions (e.g., a free-and-clear home in TX or FL). The other popular tactics—like family limited partnerships, offshore trusts, and so forth—are all unreliable. That is, they have been penetrated or defeated in many cases. They also have numerous disadvantages. This is a very complex and dynamic field. As a result of 9/11 and other events, a number of countries that used to be havens are changing their laws.
Says buy whole life insurance if better return p.2 Consumer advocates are unanimous in advocating that you should buy term life insurance and invest the premium savings compared to whole life insurance. In other words, the return on whole life will almost never be better than the combination of term and an average mutual fund.
you may want to consider reducing liability insurance after you read asset protection chapter p.2 That’s dangerous advice. The late guru Charles Givens told people to eliminate uninsured motorist insurance, then was successfully sued by the widow of a man who was killed by an uninsured motorist. Except for pensions and bankruptcy exemptions in certain states, most so-called asset-protection schemes have been defeated at one time or another in court and any that haven’t been defeated yet are probably only months or a few years away from losing a court battle. Asset protection is the use of the law to defeat the law. The courts do not like to be used in that manner and generally try to find ways to prevent it.
“Many who relied on failed major banks…for financial security ended up short.” p.3 Nonsense. My wife is an FDIC bank examiner. Accounts are insured up to $100,000. A married couple can get a total of about $400,000 to $600,000 coverage per bank by mixing accounts in a certain way. She said when a bank recently failed, there were only 17 accounts that were not totally covered by deposit insurance and they only added up to $489,000. “You have to be an idiot to lose money as an individual in a bank failure,” according to my wife.
put assets in one or two “aggressive” investment instead of spreading them out. p.3 Covering risk management adequately would require an encyclopedia. Diversification, which is the risk-management strategy Vollucci is discussing here would take several volumes of the risk-management encyclopedia.

I had two “aggressive” investments in apartment complexes in the Dallas-Fort Worth area in the 1980s. Because of the oil glut, Tax Reform Act of 1986 and the savings and loan overbuilding crisis, everyone’s Texas income properties, including mine, dropped in value by two-thirds and I lost $750,000. I do NOT recommend that you concentrate all your assets into one or two investments.

In fact, deciding whether to diversify is a complex matter that is determined in part by the investment strategy you choose. If you buy traditional properties, it’s hard for a small investor to diversify in real estate because each property costs so much. But other strategies, like buying judgment liens, do enable you to diversify so you do not have all your eggs in one or two baskets.

Gurus whom I do not recommend often give their followers extremely simple rules to follow. Beginners are desperate for such rules. They make investing seem simple. The rules are very reassuring. But it’s like saying you can avoid ever getting cancer by not eating grapes. That’s a simple rule and it’s a great relief to learn that such a simple step will prevent all cancer. Unfortunately, it’s not true. Neither is there any truth to the notion that concentrating all your assets in one or two investments is a good idea. Sometimes it is. Sometimes it isn’t. I wish it were as simple as Vollucci says, but it’s not.

“If the pursuit of ‘risks taking’ makes you feel vibrant and alive, and it propels you into becoming a contributing member of society, go for it!” p.5 The first half of this sentence describes thrill seeking, not calculated risk taking, which is the only kind an investor should engage in.

The second half reminds me of Will Rogers admonition: “Buy stocks, wait until they go up, then sell. And if they don’t go up, don’t buy them.” I do not know how you can tell in advance of taking a risk whether doing so will “propel you into becoming a contributing member of society” or propel you into becoming a bankrupt leech on society.

“The asset conversation period usually starts in the early fifties and extends until you’re pushing up daisies.” p.5 I think he means “conservation.” Such typos—this one occurred twice on the same page—are surprising in a book published by a major publisher like John Wiley & Sons. This sounds like not only a typo, but also a Freudian slip. One pictures an elderly Vollucci boring everyone talking about his real estate empire a la Bart Simpson’s grandpa.
“Most people spend so much time aiming, they never get off the ground.” p.8 This is either a mixed metaphor or a passage from a motivational manual for human canonballs.
quotes Forbes magazine saying three times better chance to get wealthy in real estate than any other type investment. p.9 I have been a Forbes subscriber for decades. I recall no such statement. In fact, I have written repeatedly since the 1970’s that Forbes seems to have a blatant bias against real estate, which makes it unlikely they would ever say what Vollucci claims.

How could anyone make such a statement? Sometimes real estate does better—like in the late ’70s. Sometimes the stock market does better—like in the late ’90s. Which is more likely to make you wealthy depends on when you invest and what specifically you invest in.

Real estate lets you control your risk because you make decisions regarding its management p.9 About the only risk I can think of that is “controlled” by your participation is embezzlement. If you invest in a company with employees, you have embezzlement risk. If you do everything yourself, you eliminate that. Other real estate risks, like interest rates going up, the neighborhood going bad, or adverse tax law changes, are all unaffected by your participation.
real estate values are less erratic than stock prices p.9 This is a widespread myth. In fact, real estate values move up and down rapidly like pork belly futures, but no one knows because it’s hard to get an appraisal. For example, if mortgage interest rates jump 20%, real estate values drop 20%—instantaneously. The reason is investors want and need a higher return to cover the higher interest costs and home buyers can no longer afford the same size mortgage as before the rate increase. I and other experts said that income property values fell 25% overnight the day the Senate Finance Committee approved the Tax Reform Act of 1986.

It often appears that values do not fall in such a case because sellers pull properties off the market or take back below-interest rate mortgages so they do not have to reduce prices. The slowness of getting appraisals and the reluctance of values reporters like the National Association of Realtors® to show declines make it look like real estate values move slowly. In fact, it is real estate appraisers that move slowly. Values can jump or fall in a heart beat—because buyers can change their minds that fast and it is they who determine values.

real estate only investment with high leverage that lets you amplify profits p.10 and losses
rent increase slightly higher that inflation “is expected” for rest of decade [said in 1993] p. 16 Expected by whom? Miss Cleo? Vollucci does this throughout the book. He repeatedly forceasts the future, but states it as the prediction of some unidentified, disembodied clairvoyant. No one knows the future.
always be a need for housing p. 19 Real estate boosters frequently cite the fact that shelter is a necessity of life as evidence that residential property is low risk. It’s not that simple. There is a phenomenon in residential real estate called “doubling up” during recessions and depressions. People do need shelter, but they do not need as much as they neededbefore the recession hit. For example, a person renting a one-bedroom apartment may move home with their parents or get a roommate. The turns an occupied one bedroom into a vacancy. As that is repeated thousands of imes in your local market, the vacancy rate soars.
inept attempt at buying foreclosures pp.20-22 Vollucci tried to buy foreclosures and went about it about as wrong as possible—spending all sorts of time trying to see the inside of the properties, hiring contractors to give repair estimates, then was unable to buy a single property. Now he denounces the foreclosure business. One of his subheads is “What they don’t tell you about foreclosures.” I don’t know who “they” are, but every book I have ever seen on foreclosures—including my How to Buy Real Estate for at Least 20% Below Market Valuedoes tell about the things he says “they” don’t tell you about, like the high percentage of properties that are withdrawn from the auction at the last minute. Sounds to me as if Vollucci did absolutely no homework on foreclosures before he stumbled ineptly through one auction. He could not figure out how you make money in foreclosures, so now he says it’s “foolishness.” The foreclosure investor in my book, Paul Thomson, made $256 per hour pursuing foreclosures. You decide who’s the fool: Thomson or Vollucci.
dismisses the pre-foreclosure industry as “people who continually try to become rich on other people’s misery” p. 21 Thank God oncologists don’t refuse to become rich on other people’s misery. Making money on other people’s misery is basic economics. All doctors, nurses, firemen, policemen, and so forth make money off people’s misery. Bed manufacturers make money off tired people. Grocery stores make money off hungry people. Denouncing people who profit from filling the needs of others is self-righteous silliness. Find a need and fill it is the basic rule of business. You do not help people in misery much by refusing to do business with them.

My How to Buy Real Estate for at Least 20% Below Market Value book has a chapter on pre-foreclosures. They are a legitimate way to make money in real estate. John Beck once pointed out to me, and I agree, that people who are in the process of being foreclosed need to sell before the foreclosure and the more bidders, the better off they are. If you offer to buy for all cash and refrain from misleading them regarding market value or bamboozling them with lease options or seller financing, you are doing them a service, even if your offer is as far below market as it should be so you can profit. If you refuse to make them an offer, like Vollucci, that’s one less buyer and the fewer the buyers, the less money they get and the more misery they suffer. If your low ball offer is the best they get, which is often the case in such situations, they are crazy to turn it down and let the property go to foreclosure.

says avoid pre-foruclosures because they may have title problems p.22 Well, duh! Of course they often have title problems. The seller has not been paying his bills. Part of buying pre-foreclosures is doing your own title search or making some arrangement with a title company to get one done more cheaply and quickly than normal. If you rejected every investment strategy that had any difficulties, you would never do anything.

Vollucci turned tail and ran away from foreclosures and pre-foreclosures after relatively little experience with them. He says you should, too. But it’s really just a personal problem of his. Both are viable strategies with their own advantages and disadvantages. Both have many happy, sucessful practitioners.

many states have laws to protect consumers being foreclosed p.22 California has laws that restrict what pre-foreclosure investors can do. [California Civil Code Sections 1695 (Home Equity Sales Contracts) and 2945 and Business and Professions Code Section 11700). I heard one other state was considering following California’s lead. I am not aware of any other such laws. Vollucci is correct to warn you to check for such laws in your state, however.
says not to buy single-family rental houses because you need to turn them over more to become rich p.22 Nonsense. Turnover increases transaction costs which depress return. You need to buy more inexpensive properties than expensive ones to achieve a given amount of wealth, but you do not need more turnover because the properties cost less.
says it’s more time consuming to invest where you live than in distant cities p. 23 And I guess the next chapter will tell us that up is down and black is white.
says people afflicted with “smallitis” think they can only buy smaller builidings if they do not have much cash p.23 That’s not “smallitis,” it’s being in touch with reality. The less cash you have, the harder it is to buy big, expensive buildings. Vollucci’s way for those with small cash available to buy big buildings is to form large groups of “partners” who pool their money to get enough to buy a big building. Well, duh! Who needed Vollucci to tell them that? Also, such groups are so difficult and complex and have so many adverse legal and other implications that you should not do any such thing. Start small. Invest alone or with your spouse only. More below and in my books.
“Money working for you can earn much more than your working for money.” p.23 To those of us who have read Robert Kiyosaki’s Rich Dad Poor Dad, this is a familiar sounding sentence. Kiyosaki says, “Don’t work for money. Make money work for you.” It would appear that one is paraphrasing the other. Which one? Vollucci’s book is copyright 1993; Kiyosaki’s, 1997.

In this sentence, “can” is a meaningless word. The median metropolitan area income in the U.S. was $36,986 in 2000. To earn that much at, say 6.5%, you would need $36,986 ÷ 6.5% = $569,015 invested. So Vollucci’s statement is only true if you already have a heck of a lot of money or if you take high risk and get lucky with a smaller amount.

Calls the no-money down gurus charlatans p.24 Right on.
Costs “much” more per square foot to paint 4-plex than 40-uni building p. 24 No, it doesn’t. Why would it? The painting contractor has to drive to the building for a number of days in each case. There might be some savings to a contractor to take a full-day job rather than a half-day job which forces him to drive to two properties in one day, but there is no savings to the contractor to do a 40-unit compared to a 4-plex. It is true that you can often get volume discounts when you buy goods or services, but only when the incremental volume results in some savings to the seller. There might be a volume discount on buying the paint for 40 units, but nowhere near enough to warrant Vollucci’s statement.
Apartments in medium size [18 to 100 units] buildings rent for more than in smaller buildings because of swimming pools p.24 Owners of apartment buildings that have fewer than 200 units should fill in their pools if local law requires a lifeguard; 67 units if no lifeguard is required. I ran the numbers for my book How To Manage Residential Property for Maximum Cash Flow and Resale Value. Vollucci apparently never ran the numbers.
There is a generally nutty discussion of why buildings with 18 to 100 units are the best around page 22. For example, Vollucci says a 4-plex is worse than a 40-unit because one vacancy is 25% in the 4-plex, but only 10% in the 40-unit. But on page 22, he says to become wealthy, you have to buy more smaller properties, thereby increasing the chances you will make a mistake. Why doesn’t that apply to renting apartments in the 40-unit? The more apartments you have to fill, the greater the chances that you will make a mistake. And why so pessimistic? Why don’t more “at bats” increase your learning and thereby your success?

The fact is each size rental propery has its advantages and disadvantages. Vollucci has done a very poor job of identifying them. For example, it is infinitely harder to find institutional financing for buildings with more than two units. And the easiest multi-unit buildings to finance are huge complexes with more than 100 units. Vollucci’s “ideal” size of 18 to 100 units is the absolute hardest residential category to finance. I have called his favorite size “orphan” properties—before I ever heard of Vollucci—because hardly anyone wants to finance them.

Another disadvantage is that most rent control laws exempt one- or two-family buildings, but never 18- to 100 units. There are many other hard advantages and disadvantages that should be discussed. Vollucci manages to miss them all and provides only muddled analysis of the issue.

says you sohuld not manage property yourself p. 24 Managing the property yourself is exactly what you should do. What you must never do is hire an independent %-of-the-gross property manager. I have explained why elsewhere.
“midsize apartment building purchased correctly has enough income to support expert property management company” p. 25 I want to say this is a barefaced lie, but the use of the word “correctly” prevents me. If you buy an apartment building through a real estate brokerage, it will almost certainly have negative cash flow, in which case you will support it and it won’t support anything. In order to have positive cash flow, you would have to make a bargain purchase (See my book How To Buy Real Estate for at Least 20% Below Market Value) or put an extraorrdinary percentage down—like 40% or more.

Most people would interpret “correctly” to mean paying market value and getting market terms on the financing. If you do that, there is not a snowball’s chance in Hiahleah that you will have any positive cash flow, let alone enough to share with a property management company.

hypothetical example of 10 investors each putting in $6,000 to come up with the 10% down payment on a $600,000 property p.26 I learned long ago to avoid hypothetical examples. Readers kept asking questions that revealed them to be invalid. With actual case histories, you do not have that problem.

Vollucci claims to be a successful investor. He should have plenty of his own case histories he could tell us about. My own deals are one of the sources of the case histories write about. Why does he need hypotheticals?

Gathering a small group of investors is generally not feasible because of securities laws. You can only justify the hassle and extra expenses with large groups raising millions. Vollucci says he has ways to avoid securities laws. I do not buy it. Those laws are not very clear cut and they are biased against the “promoter,” which, in this case, would be Vollucci or his follower.

10% is an extraordinarily small down payment for an 18- to 100-unit apartment building. You would almost certainly have to overpay for the property to get such a mortgage (which would invariably come from the seller who was benefitting from your overpaying).

To be continued.

John T. Reed, a.k.a. John Reed, Jack Reed, 342 Bryan Drive, Alamo, CA 94507, Voice: 925-820-7262, Fax: 925-820-1259, Email: