I have a confession to make. I’m terrible at saving money.
For years I would set aside a percentage of my income only to pull the savings out for what I considered an emergency.
While some of the funds went to actual emergencies like car repairs or making payroll for my business, the majority of it went to lifestyle inflation.
That’s what an emergency fund is for, right?
Fortunately, all was not lost since I always contributed to my IRA in addition to my savings.
Over the years, my savings balance never accumulated enough to move the needle on my balance sheet until I merged the power of cash flowing real estate with some behavioral economic hacks.
Here are three ways I was able to turbocharge my savings by integrating the science of behavioral economics with buy and hold real estate.
1. Overcoming Hyperbolic Discounting by taking on 10 mortgages.
Hyperbolic discounting is defined as accepting a smaller reward sooner, rather than a larger reward later. In other words, we tend to focus on the present versus the future.
In my case, whenever my savings would hit a certain threshold, I would engage in self-destructive spending behaviors and spend the excess on wants versus needs.
In my distorted mind, I could always justify spending the savings now by making more money in the future.
Call this the triumph of hope over experience.
Here is how I overcome this destructive behavior without even realizing it at the time.
When I purchased my first small multi-family 20 years ago, I never bothered factoring in the benefits of mortgage pay down by tenants.
In my eyes, it was all about cash flow.
Back then, I was broke as a result of building my financial advisory practice while paying off credit card debt incurred from my hyperbolic lifestyle while living in San Franciso.
As I kept living month to month while reinvesting all my cash flow into my financial advisory practice, I continued to read as many real estate books that I could find while searching for an owner of a rental that would offer me owner financing.
Why owner financing? I was self-employed. No respectable bank would offer me traditional financing due to my debt to income ratio and balance sheet.
In May of 2008, I finally found the perfect deal which I discussed on the Bigger Pockets Podcast show 86. If you listen to the show, you might get a good chuckle on what happened when my fiancé saw this property.
Here is my original letter of intent to the seller.
To close on the property, I had to pull $4,900 from my IRA to cover the down payment. Since I was a first time home buyer and was moving into one of the units, I didn’t have to worry about the 10% early withdrawal penalty from my IRA.
By the way, this benefit is available today and I highly recommend it to any aspiring real estate mogul.
Being that the 9-year loan was small ($35,000 at 7% APR) the principal payment was only $241 per month. The total payment excluding taxes and insurance was $438 per month.
$241 Per Month…Whoop dee doo.
Rental cash flow more than covered all the expenses and this allowed me, my fiancé and the dog to live rent-free. I was hacking my housing long before it became a term in the real estate community.
As my portfolio grew from 3 units to 19 units 5 years later, I started noticing the power of forced savings from principal pay down by tenants on the 10 mortgages I had acquired.
As you will recall, the first deal provided $241 per month in mortgage pay down. By the time I had closed on my 10th property, the total had grown to $1,200 per month.
This may not seem like much of an increase to you, but all of these new properties had 30-year mortgages where the bulk of the mortgage payment goes to interest. Plus, I could finally obtain bank financing as a result of my track record from the very first deal.
As I began to focus more on principal pay down, I realized that If I simply held on to these loans and never saved a nickel over the next 30 year’s, my tenants would have paid off $993,691 of my debt along with owning 10 free and clear properties worth a few million.
Better yet, these properties provided an additional $4,000 per month in cash flow to reinvest in improvements or fund my lifestyle.
This was the birth of my “ten-to-million” idea. Buy ten properties over ten years and become a millionaire by letting inflation and principal pay down by tenants do all the work.
Today, due to the size and shorter loan duration of my portfolio, I’m at $18,118 per month in principal pay down (forced savings). Moreover, I can’t touch the savings since it’s locked up as equity and the cost to access it is prohibitive.
Sure, I can always do a cash-out refi to grab the money, but I’d rather let the equity ride until I find a smoking deal. So far, these deals are becoming harder to find as more and more investors search for yield. In the meantime, I’m perfectly happy letting my tenants continue to pay off my mortgages while I patiently wait for the next fat pitch.
2. Money Illusion, Inertia and Feeding the Beast
Money illusion is when people tend to think about money in nominal terms versus real terms. You see this whenever someone gets a bonus at work and spends it on a new car or an exotic vacation.
Another area you see this is in those silly articles by the financial media where they say you can skip Starbucks and become a 401k millionaire (nominal dollars) over 30 years. Yet, you don’t discount the million dollars by inflation (real dollars).
Have they every watched Austin Powers?
At a 3% inflation rate, you need around 2.4 million in 30 years to have the same purchasing power today.
Inertia is related to regret avoidance in behavioral finance circles. It means you fail to take action on things you want or have agreed to do.
As humans, we tend to avoid regret by not making a decision. This is why you see target-date funds in 401k’s since people tend to avoid reviewing all the funds in their 401k and implementing a diversified portfolio. By investing in a target date fund, you can simply make one decision and never have to worry about picking the right funds or rebalancing.
In my case, as rent checks would come in around the first of the month, I would succumb to money illusion by thinking I had lots of money. By the end of the month, I would be scratching my head and asking myself where did all the money go?
Worse, as my real estate portfolio began to snowball, I ran into a new problem with my poor savings habit. Out of the blue, things would suddenly fail and my cash flow would nose dive.
New water line? $5,000
New boiler for a 9 unit apartment building? $17,500
Value-add improvements as tenants move out of an apartment? $5,000 plus lost rents as you take the unit down and then advertise it again 30 to 60 days later.
My real estate portfolio had morphed into a hungry beast requiring gobs of cash to keep him fat and happy. I felt like Seymour in the Little Shop of Horrors.
“Feed me, Seymour!”
If I didn’t feed my beast capital improvements and repairs, my tenants would leave and my principal pay down hack would bite the dust.
Enter Digit Savings
When I discovered the Digit Savings App, it was a game changer for my business. This nifty tool helped me overcome both my money illusion and inertia behaviors in one fell swoop.
The Digit savings account is FDIC insured and automatically monitors your spending to see if you can save more money. So far, they have helped customers save a billion dollars.
When it spots some extra money, it automatically transfers it from your checking account to your Digit savings account on a daily basis.
The amount can be as small as $18.60 to as high as $615.13 in my experience. Over time, these amounts begin to significantly add up. For instance, I’ve already saved an extra $22,207 this year as I write this post.
You have complete control over how this works. I like to think of it as my friendly little savings Roomba. Instead of vacuuming up dust and dirt from my floors, it’s sucking up pennies and dollars from my checking account and sweeping them into my rainy day fund.
Here is how I hacked Digit. While most people link this tool to their personal checking account, I ended up linking it to my business checking account where all my rents are automatically deposited.
Now I have my Digit Roomba cleaning up my business account and automatically sending me chunks of money into my Digit savings account without me ever thinking about it.
While they charge a small fee of $2.99 per month for this service, it is well worth it in my case since I would never have saved over $22,000 this year without it.
They also pay 1% interest on your savings balance and there is no minimum to open an account. This more than covers the monthly fee once your Digit balance is $3,588 or more.
Digit has saved my butt numerous times over the last few years. I’ve enjoyed watching my savings balance automatically grow and have tapped the money for real emergencies as well as unexpected repairs.
Click this Digit link to get started.
It’s an affiliate link that costs you nothing and I will get a $5.00 referral fee. Once you are a customer, you can send the same link to friends and profit from spreading the word.
3. Nudge Theory and Pete the Banker
Nudge theory rose to prominence as a result of Richard Thaler receiving the Nobel Prize in Economics back in 2017. He also appeared in the movie “The Big Short” and wrote the book “Nudge.”
A nudge is a strategic policy shift that encourages people to act in a certain way without any penalty. For instance, employers set up automatic enrollment for new employees in 401ks. The new employees could easily opt out if they wanted, but very few do. As a result of this nudge, participation rates in 401k plans skyrocket and people save for retirement.
My particular nudge came from Pete, the banker. He runs a small community bank that could not escrow my property taxes for the commercial loans he provides me.
Knowing I would periodically run into cash flow issues when it came to paying property taxes in May and October, he decided to open a special savings account for me that would only be used for paying real estate taxes.
While he couldn’t prevent me from grabbing the money for other things, he realized I would most likely never touch it since it helped me qualify for more loans with his bank.
To fund the account, he set up an ACH monthly transfer from my main account at a major financial institution to his bank. As a result of this nudge, I have my taxes covered for the year.
Another technique I employ is having a separate bank account for my coin-op laundry money. Again, this is at a separate bank that I have purposely set up where I literally have to drive to it to make deposits and withdrawals. The bank tried to give me some checks to access the money and I politely declined.
In the past, I would simply deposit the funds in my main rental account and see it disappear on general operating expenses. By not having easy access to the money, I’m forcing myself to think it is not available.
You would be surprised how much those little quarters add up.
Year to date, I’m up to $9,317 in laundry savings.
What do you think? Are you employing any unconventional hacks to trick yourself into saving more money?
Philip Wong says
Hi Cory
Very interesting tips on saving money – “out of sight, out of mind”.
I came across your name from the reading the book The Million Dollar, One-Person Business… by Elaine Pofeldt, leading me to your website.
Your story is an inspiration all of us can take on. I too am looking to build a one person business with enough cash flow to help me get back into property investing.
I once had an investment property but sold that to upgrade to a better suburb and moved into it. Then I got married and had to move again, selling that one bedder and buying a 3 bedder townhouse. The property dynamics are a little different in Sydney, Australia.
Would love to stay in touch and hear more success stories.
Dowplus says
Thanks Phillip! Feel free to follow the blog to stay in touch.
Jeremy says
I love your way of thinking as I’m biased because it aligns with my own philosophy. At 25, my wife and I bought our first house, a two-family in a pretty affluent area in NJ. I’m 38 now and we have 5 homes and 7 doors, excluding our primary.
What I embraced most about your post is the behavioral aspect. While economist may argue that investing in the stock market can be a better vehicle over the long haul, I simply don’t believe most people have the discipline to live modestly and force as much as they can into savings. While I started in corporate, I eventually became a real estate agent. I built a nice business there, my schedule allowed me “opportunity time” to find good investments, and the lifestyle exposed to me to deals and made renting and buying an easy practice for me.
Moreover being in the business made the investing a game, work hard, save 20%, find a deal, buy it, improve it and rent it — repeat.
This is a long way of saying I altered my behavior to align with the goal of earning and saving money. Our portfolio of properties is cash flowing nicely, worth more than a million, growing nicely and we have no plans of selling before they are all paid off.
While it is counter to my business, I recommend to all my real estate clients that they never sell real estate and only buy it. Nearly all laugh, I explain my perspective and they listen but shrug it off. There is nothing wrong with them, they simply aren’t open to my behavior as it is so foreign to them and not aligned with their mostly corporate, 401k-focused career path.
I think often financial blogs emphasize financial theory too often without recognizing how behavior plays perhaps a larger role into the success of true wealth building.
Dowplus says
I used to think investing was all about intelligence and research. As I grow older, I realize that behavior is the number one trait for investment succeess.
Over the years, I noticed many of my investment clients who embraced simple behaviors ended up with more money at retirement than my sophisticated clients who were always trying to optimize returns or chase the next new thing.
Many of my less sophisticated clients were prone to hang on or even add to their accounts whenever the market was getting crushed like it always does every 7 to ten years or so. A far cry from the sophisticated clients who demanded that I sell and wait on the sidelines.
The same holds true for the folks I know in real estate. The ones that accumulate real wealth are the ones that simply buy for cash flow and let the real estate do all the work.
For instance, my local dry cleaner is the classic “millionaire next door.” His small dry cleaning business paid for his modest lifestyle while his real estate holdings made him a multi-millionaire. He would buy a property every one to three years and hold on. By the time he retired, he was easily worth 5-6 million based upon my guesstimate. Today, he is living the dream in sunny Florida.
I will never forget the day I was dropping off some shirts during the tech boom in 1999. He asked me what I did for a living and I mentioned I was a financial advisor. He told me how he wished he knew how to invest in stocks since his buddies were making a killing in the tech sector. Since I already knew he was a real estate mogul, I told him he was better off sticking with what he knows. We all know what happened next.
Nice job building that portfolio and having the discipline to follow through on your plan. You should reach out to Dan Lane at the Rental Income Podcast as a guest for his show. I bet you have a great story. Tell him I sent ya! https://rentalincomepodcast.com/
Art Smith says
Cory,
I learned of you from the Rental Income podcast with Dan Lane.
I started in real estate investing by keeping my first home as a rental. Then I moved again and kept that house as a rental. I now have 7 rentals, 3 out of state .
I agree behavior is a powerful metric for financial success.
Keep up the great work.
Art
Dowplus says
Art,
Thanks for the kind words.
Nice work on keeping the homes you lived in.
When I worked in California, I met a mid level executive who did the same thing. He ended up keeping all the homes he lived in throughout various job transfers and retired well with 10 properties plus a nice 401k and stock options.