January 10, 2020

JF1955: Learning From Investing Mistakes - Live Interview with Dan Gorman


This interview is from our monthly meetup, hosted in Cincinnati, OH. Joe interviewed Dan live on the mistakes he’s made in real estate investing, what he learned from those mistakes, and what we can learn from those mistakes too. If you enjoyed today’s episode remember to subscribe in iTunes and leave us a review!

Best Ever Tweet:

“As a whole, im way better off for having gone through that and making that mistake” – Dan Gorman

Dan Gorman Real Estate Background:

  • Founder of United Property Group
  • Been investing in real estate for 22 years, purchased approximately $50 Million worth of property
  • Currently owns 200 apartments, 6,000 Sq. Ft. in office space, and some retail locations
  • Say hi to him at united property group
  • Best Ever Book: E-Myth by Michael Gerber

Listen to his previous episode here:

JF1888: Lifelong Entrepreneur Builds Real Estate Investing Business with Dan Gorman

Attend one of our meetups by RSVP’ing here: bestevercincy

The Best Ever Conference is approaching quickly and you could earn your ticket for free.

Simply visit bec20.com/affiliates/ and sign up to be an affiliate to start earning 15% of every ticket you sell.

Our fourth annual conference will be taking place February 20-22 in Keystone, CO. We’ll be covering the higher level topics that our audience has requested to hear.


Joe Fairless: Best Ever listeners, how are you doing? Welcome to the best real estate investing advice ever show. I’m Joe Fairless, and this is the world’s longest-running daily real estate investing podcast, where we only talk about the best advice ever, we don’t get into any of that fluffy stuff.

We are doing this live today from the Cincinnati meetup. If you have not attended, that’s probably because you don’t live in Cincinnati, but we have a lot of out-of-towners who also come and visit. You can go to BestEverCincy.com, come join us the last Tuesday of every month. It costs $2,50, maybe $3, but you also get free pizza.

With us today, we are going to talk to Dan Gorman. First off, how are you doing, Dan?

Dan Gorman: Good, thank you.

Joe Fairless: Good to have you. We’re gonna talk about the ways he has lost money on deals. He is an incredibly successful real estate investor, and Best Ever listeners, you can hear our interview where I talk to Dan about some very successful projects – maybe we’ll touch on that briefly, just to give some context… But we’re not gonna focus on those projects, we’re gonna be talking about lessons learned from deals that didn’t go the direction that he intended.

A little bit about Dan – he’s the founder of United Property Group, been investing in real estate for 22 years, purchased approximately 50 million dollars’ worth of property. Currently owns 200 apartments, 6,000 square feet in office space in a few different buildings, and a couple restaurants, a Starbucks, a Graeter’s, which is a wonderful ice cream place in Cincinnati, a convenience store… Which one?

Dan Gorman: It’s called Churchill Markets. It’s next to Starbucks.

Joe Fairless: Churchill  Markets… And recently flipped a 42,000 sqft. shopping center after buying the note, which was in foreclosure. Based in Cincinnati. So how about first if you wanna just touch on some successes you’ve had… Let’s set the stage for who we’re talking to, and then we’ll get into the bad stuff. So a couple projects that have worked out well.

Dan Gorman: Well, before I got involved in real estate, I had my own business. I was a jewelry broker. I really loved being an entrepreneur, I loved being  in business, but I really was searching for something that had a little bit more predictable and consistent cashflow… So I started listening — I don’t know if any of you guys have ever heard of Carleton Sheets’ No Money Down… I was listening to his tape sets constantly, and I ended up buying my first property, which is a 25-unit deal, no money down, in Quarryville. Then I picked up another 20 units at the same time…

So I had 45 units at that time, and I just realized that I was really struggling trying to run my business at the same time and do that, because it wasn’t producing enough income to be able to afford to hire staff. So I ended up, through a series of interesting events, acquiring a 168-unit apartment community with no money down, that made great cashflow, better than the jewelry business had ever made, and it was gonna be the best month ever… So I kind of let that business go and started to concentrate on real estate full-time.

It was kind of the heyday back then, before the real estate market crashed; you could do a lot of really crazy, creative, interesting deals… So before long, I was up to three mobile home parks, a few apartment communities, up to about 700 units altogether.

Then probably for the last 5-7 years we’ve been kind of shedding some of those assets. All the mobile home parks are gone, most of the apartments are gone, because the prices are just crazy ridiculous that people are offering nowadays. So I’ve shifted into distressed office mostly, because you can find a lot of office properties that are sitting half empty, with the same person that’s owned it for the last 30-40 years. So that’s where I’m finding an opportunity now.

So I have morphed into less apartments and more of that, and also starting a company in Rwanda to build low-cost houses. We have a few employees over there right now, and we’re working with the government to try to build a concrete house very quickly, that we can reproduce from tens to hundreds at a time.

Joe Fairless: And how much did you make on the 168-unit deal when you sold it?

Dan Gorman: That is a pretty unique deal. I bought that property, like I said, for no money down, for three million dollars. In fact, it came with $100,000 in the bank and a reserve fund. So in addition to no money down, it came with $100,000… [laughter] So I bought that in 2001, and I sold that in the last year for 10,5 million dollars.

Joe Fairless: You netted about seven?

Dan Gorman: Yes.

Joe Fairless: Okay. So you’ve had some success. [laughter] Okay… And more to that story, and we get into the details, in the other interview that I did; it’s on the podcast. We’ll put in the show notes what day it’s airing… Because I’m sure a lot of people are wondering how the hell did you just do that deal with $100,000 in your pocket at closing. So we get into that.

Let’s talk about the 120-unit property that you spent a decade and a half on. Tell us about that deal.

Dan Gorman: Once I acquired that property we were just talking about and had a lot of equity in it right away, since we were able to refinance that within a year, a year-and-a-half, and pull about a million dollars out, so I took that million dollars and I used it to buy a 120-unit apartment community… And if we’re gonna be talking about mistakes, this was a super-complicated deal that I just did not understand. There was a lot of people — we used taxes and bonds to finance it, we used low-income housing tax credits to finance it, both of which I knew nothing about. There were people that were saying “Well, this is the greatest thing since sliced bread. You are gonna make a ton of money if you do a deal like this…” And unfortunately, everybody that was counseling me and telling me what a great deal it was, they stood to make really large fees if the deal closed…

So I got to the point where I was about a week away from closing, I probably had about 250k hard at that time, which means that this was a deposit you could not get back if you don’t close the deal… And I went to my attorney and I said “This deal – I don’t understand it. This is a stupid deal. I don’t think it’s gonna make any money, and I just want out.” And they said “Okay, we’re gonna start the process.” And they all powered up and they said “Well, you’re gonna get sued”, blah-blah-blah, so I just ended up closing on it… And I lost my butt on that property for years.

With 120 units, it went from about 85% occupancy down to — because we were rehabbing it, and because it had to go from a market rate property to an affordable property with tax credits, we went down to about 25% occupancy. I was losing $20,000/month. It was extremely painful. So I’d say that it was so expensive to close that deal, and there were so many fees involved moving forward…

I’ve found out that most of the people that close that deal are non-profit agencies – or a lot of them that do deals like that – because they’re not as concerned about cashflow; they’re in it because their purpose is affordable housing… So it didn’t matter how high our occupancy was, I just didn’t make any money out of it.

So 15 years later I eventually sold it, just like six months ago. I sold it for the same price I paid for it. I was just so happy to [unintelligible [00:08:04].01] And on top of that though, the problem now is that I still didn’t understand the deal… And when I was selling it, I asked an auditor to give me a tax consequence letter, and I asked my CPA to give me a tax consequence letter, and even though I sold it for the same price I paid for it and I thought I was fully informed with what the consequences would be, I still have a million and a half dollar gain that I wasn’t aware of. I didn’t find out about it until three months after it closed.

So now I have to pay tax on this million and a half dollar gain. I’m trying to figure out a way around it; I’m meeting with somebody tomorrow, I’m driving up to Columbus and seeing if there’s a way that we can work on that. I have a few months left in the year…

So this is just a very valuable lesson for me. You learn a tremendous amount when you get crushed in a deal like that. Things that you’ll never do again, things that you can help people out with if they’re about ready to get crushed in a deal… But the thing is don’t get involved in a deal that you don’t understand. That’s the big thing right there. There’s a lot of complicated financing mechanisms out there, there’s a lot of complicated deals with land contracts, and lease options, and things like that…

When I would call up an attorney who was supposed to be an expert at that deal, and the attorney couldn’t give me an answer, they would have to say “I’ll have to get back with you on that…” Now, if it’s so complicated that the attorney can’t even answer the question, then it’s a sign that this is a sandbox that I shouldn’t be playing in. So that’s a big one, understanding exactly — like, you need to really, really understand it. Anything you get involved with.

Joe Fairless: Let’s go back to the day where you said “I’d like to be out of this deal. I’ll eat the $250,000.” What exactly — you mentioned that people said “Oh, if you back out, we’ll take you to Court…” But what were they threatening exactly? Because I would think you should be able to back out and just hand over the $250,000.

Dan Gorman: Well, along with a complicated deal came a complicated contract… And there was a clause in a lot of the contracts called specific performance, that basically says “If you’re trying to get out of a deal without a valid reason…”, so maybe your due diligence period has run out, and now you really can’t pull out of the deal unless something happens with your financing, or something like that… Once you hit a certain deadline, you are stuck.

A lot of times you just collapse the deal, and maybe you pay legal fees and things like that for the person who’s selling it to you… But  if this person was a jerk, they can basically say “I’ve lost all my buyers because I held the property up for you for the last six months, and we’re gonna force you to close on it. Or at least we’re gonna try to.” So it just can get really complicated and expensive, with all the legal fees.

Joe Fairless: What was it about that moment in time that you thought “You know what – I need to get out of this deal”? Did something in particular take place?

Dan Gorman: Well, the first thing was that I didn’t really understand it, my attorney didn’t understand it that well, but there was somebody in his firm that really understood. And this attorney was saying “This deal is not that good. This deal is risky, and I don’t think that you are experienced enough to be doing a deal like this.”

This happens when I say this to young people now, too… I said “Yeah, but it’s really, really *this* or it’s really, really *that*. I can make this work. There’s a gob of money to be made”, or whatever. “Maybe I won’t make as much as I thought I was going to, but I’ll still make some decent money.”

So when you’ve got an expert that’s saying “Don’t do this” and then you blow past that, that’s a red flag. Basically, I just got less and less comfortable with it the closer we got to closing…

Joe Fairless: And what specifically about — was it taking the apartment community from market rate to affordable, and you didn’t have that underwritten with maybe turnover costs? Or what financially didn’t work once you closed on the deal?

Dan Gorman: Well, as we were getting closer and closer to the deal, we needed the support of the city of Middletown. And the city leaders did not want the deal to happen. They did not want this apartment community going from a market rate apartment community to affordable housing, and along with that, the restrictions for the next 30 years had to stay affordable housing. So I was not getting any love at all from my neighbors.

In order to make the deal work, there’s all these projections of what you could raise the rent to. For example, the two-bedrooms were getting $650, and it was underwritten at $750 after the rehab was done. There was 2,5 million dollars in rehab. So I started getting less and less comfortable that we can actually raise the rents to these levels, which was what this attorney was saying. “These underwriting assumptions are too aggressive. You don’t know if you’re gonna be able to [unintelligible [00:12:12].02] and if you don’t, you’re gonna lose your butt.”

Joe Fairless: You did. [laughter]

Dan Gorman: I did, so… So what I learned from that specific thing about increased rents is that I will never ever do a deal again if I am not happy with the rents to where they are. So I may have tons of optimism about raising the rents from $500 to $900 or whatever, but I know that with that deal I’ll not lose money at $500… Because there’s a track record at $500. I know that I’ll be able to get that. I have no idea if I’m gonna be able to  get $900. I’m gonna assume that I can, but I’m not gonna promise anybody that.

I just bought a property that was a vacant 16-unit building, and I own the apartment community next door, and I know we’re gonna rehab the heck out of this thing; we’re gonna put granite and stainless steel and everything, but I know it’s gonna blow the other apartments that I have next door away, but I’m still underwriting it to the same rent that I’m getting next door, because I know I can get that.

Joe Fairless: 15 years… Why 15 years?

Dan Gorman: Well, again, with this type of acquisition where you have low-income tax credits, and you have taxes in financing, and other taxes in bond financing, I was a general partner and I only owned a hundredth of a percent — I had 100% of the risk, but only a hundredth percent of the ownership… So there are so many risks and things that could go wrong that nobody wanted to touch it. I can’t just say “Hey, who would you like to buy a property that is losing $20,000/year, and you’re on the hook for a five-million-dollar note that might be going to foreclosure…” And in fact it did go into foreclosure.

Joe Fairless: What happened?

Dan Gorman: Well, this had two components to the financing – a construction loan financing and permanent financing. In order to get out of the construction phase and into the permanent phase, I had to finish the rehab in a certain time, then I had to have 90% occupancy for 90 days in a row, with a certain debt coverage ratio, and I just couldn’t quite get there. I would get to like 89%, I’d get to 90%, and I would stay there for two months, but not three months, and I had to keep resetting the clock over and over again… And then right as I was getting close, the collapse happened in 2008.

Fannie Mae was the permanent lender, and they basically said “We’re not lending money anymore. If we’re not in a deal — if we have any way to get out of a deal, we’re getting out.” And they sent a letter to everybody across the country and they just said “We’re out.”

So this was a default. Under the term of the note, if you lose your permanent lender, you’re in default. I had never missed a payment, I was never late on a payment. I was making these $30,000/month payments and taking huge chunks out of my own pocket and I still got foreclosed on. So they brought in a receiver to run the property. I ended up getting out of that, which was very painful and stressful for a year, to get replacement financing and to get out of that.

Joe Fairless: Because you had a loan with a local lender and you were making your payments on the construction loan, just the permanent financing that you had lined up once you achieved certain metrics – that went away, so then the local lender that you were making regular payments to said “You don’t have that lined up anymore, so we’re calling it.”

Dan Gorman: Yeah. “We were never supposed to be the permanent lender, we don’t want this loan. We’re getting stuck with it now, so… Here’s your bill for 5,5 million dollars. You have 30 days to pay it.”

Joe Fairless: You got that bill, then what happened?

Dan Gorman: Then I called my lawyer and I said “What am I supposed to do with this thing?” [laughter]

Joe Fairless: You’ve got seven million in the bank, right? Pay in cash…

Dan Gorman: No, this happened ten years before that.

Joe Fairless: Oh, that’s right.

Dan Gorman: Yeah. So basically, we had to start circling the wagons and saying “Let’s talk about bankruptcy.” Bankruptcy is a really bad thing, even though this was owned in an entity, and everybody thinks that “Oh, you’re so protected, because it’s in an entity.” But there’s usually clauses in every other loan that if you declare bankruptcy in this entity, it starts to trigger defaults on every other loan that you have… So it was a scary, dark time.

I didn’t end up having to do that, because I found some replacement financing and that got me out of the deal, but it was very stressful.

Joe Fairless: How did you cope emotionally with that? What are some things that you did just to stay with it and into the process as you possibly could?

Dan Gorman: I don’t know, it was super-stressful. That’s all I’ll say. When you worked for a long time and you have all this stuff you’re pretty proud of, and you’ve got pretty good equity built up, and then this stupid deal you never should have been involved with to begin with, and you’re in it, you’re not making any money, you’re losing your butt, and it’s gonna take down everything else – it’s just very, very painful.

Joe Fairless: And the receivership – for anyone who’s not familiar with what that is and what the process is, will  you describe that?

Dan Gorman: When your property goes into foreclosure, the bank seizes control of it and they put in somebody to run it. It’s usually an accountant, or a lawyer, or somebody like that… And this receiver then becomes the boss of the staff. If there’s no staff, if it’s a smaller property, they basically start making the decisions.

The only good thing was that I didn’t have to make any more payments to the bank, so I got some relief there… But it was just such an unusual situation, because I was doing a good job running the property. We were at 89% occupancy – not 90%, but… It was just a really, really challenging location that I was in…

Normally, I would not be able to touch the property, but he just let me continue to run it. He kept all the same staff, I talked to them every day, he asked me questions, and it was just kind of this friendly thing. When I got out of it, we shook hands. But normally, the receiver – it’s his job to keep that thing frozen and not let it get any worse. He’s not necessarily going to put a bunch of money into improving it or whatever, he’s going to protect the value of the asset for the bank until that asset can be sold, or the bank can be made as whole as possible.

Joe Fairless: And what happens when you get out of it? What takes place then?

Dan Gorman: Well, normally you don’t get out. Once you’re down far enough to have a receiver put in, that means that project has failed, the foreclosure process is going to happen, and I would never be able to get that loan again, probably. Whenever  you get a big commercial loan, one of the first questions they ask — it may even be a non-recourse loan, which means I don’t have to guarantee it, but they always wanna know if you’ve ever defaulted on a loan in the past.

So even though I got out of that, because it got foreclosed on, I have to explain to every single one I get, forever. So I have a little piece of paper that’s ready to go, and I just submit it with my application to these commercial lenders… And it’s actually considered a positive to most lenders now, because of the fact that I didn’t throw the keys on the table when I was losing all that money, and I stuck with it, and it got foreclosed on even though I’d never missed a payment. They respect the fact that I got out of it. I stuck with it even when it got foreclosed on.

In fact, when I got out of it, which means I found replacement financing and a new limited partner and everything, and I shook the guy’s hand and he gave me my keys back (theoretically), and I said “Well, this has been a pain in the ass… How many people have ever gotten out of it?”, he says “You’re the first one in 25 years.” It’s been really stressful though…

I got foreclosed on and I didn’t really miss a payment, but at the same time these guys were shedding everything, these banks. They were foreclosing on everything so fast that the one good thing is that the replacement financing that I found for it was 1,5 million dollars less than what I got foreclosed on, and they did not pursue me for my personal guarantee… Which was a huge blessing.

Joe Fairless: And should someone come across a situation similar to that, where they’re getting foreclosed on, what are some things that you would suggest they do, emotionally, or just in the process, that were helpful for you?

Dan Gorman: Well, I think that you should pray. That’s a good thing. It helped me a lot. And I think it’s just very helpful to find an expert. You’re already probably in the situation because you’re losing a gob of money to begin with, but if you can get a recommendation for an attorney who’s very well-versed in this type of thing… The banks – they really don’t want that property. There are things that you can do to short-circuit that  process.

For example, I bought a shopping center note not too long ago… And this shopping center was getting foreclosed on. It had a Walgreens in it, and the Walgreens left. So they went from getting $25,000/month for this space, to about $2,000/month from a mattress store. So they stopped their payments, they got foreclosed on. The bank put the note up for sale. They didn’t feel like the property had much value to it, so I bought the note, I became the person foreclosing on them instead of the bank, and I said “If you sign the deal over to me, then you can walk away free.” And within one day I owned the shopping center and they were no longer getting foreclosed on.

Kind of going back to what I said, they will have to disclosed the fact that they were involved in that process, but the fact that they got out of it through me is a huge win for them.

Joe Fairless: Going back to the apartment community – you said you found alternative financing… How many lenders did you reach out to about getting financing? Because it sounds like — was that the linchpin that you needed in order to get it out of receivership, just get another group in there to give financing? I imagine you were hitting the street pretty hard…

Dan Gorman: Yeah, I was working on it every day for a year, pretty much, trying to avoid the bankruptcy thing and trying to get out of the foreclosure. A good attorney and a good person who was just another tax credit investor who really understood it a lot better than I did – they helped hook me up with the bank that was willing to make a loan.

Joe Fairless: How did you get introduced to the tax credit investor that helped you out?

Dan Gorman: I don’t remember the exact series of different people who introduced us, and stuff like that. This guy used to be a bond trader, so he really understood the taxes in bonds, and he understood the tax credits, so he introduced me to a bank that he was on the board of… So that helped.

Joe Fairless: Okay. Anything else as it relates to that deal that you think we should talk about, lessons learned from that experience?

Dan Gorman: I think that I hit on all the points. The big one was the property qualified because it was in a certain area, that wasn’t the best area, and then the combination of trying to go in there and spend a bunch of money on improving things and then at the same time thinking I could increase the rents by a couple hundred dollars a month in an area that was struggling to begin with… An area that 15 years later I never got to the rents I was supposed to get to. Underwrite to whatever you know for sure you’re gonna get, I’ll say it again.

Joe Fairless: And I know you’re in the middle of it right now, but do you know how you’re on the hook for a 1.5 million dollar gain if it’s the same price that you bought it for?

Dan Gorman: Yes… So what was happening was that every year I was having a lot of profits from some of my other properties, but I was having tremendous losses on this property. So because I was only a hundredth of a percent owner, my limited partner which was Huntington Bank (because they bought all the tax credits), they were getting all of the losses. I was the one who was taking the money out of my pocket and paying it. So a few years into it I said “I’m getting crushed on this property. Can you push some of those losses my way? Because you can trade your losses back and forth on your K1’s…”

They said, “Well, we understand. We want you to survive, so we’re gonna push a lot of losses your way. We have to have a certain amount for the [unintelligible [00:22:43].18] that equals the depreciation, but you can have everything else.” So what was happening – and probably somewhere along the way; it goes with the stuff I didn’t understand – somebody said “This is gonna affect your capital account, because you cannot take losses on something that you actually physically don’t own 100% of.” Does that make sense?

So I was accumulating all these losses that were offsetting all my other taxes that I would have paid, and it felt like it was a slight win for me, just because I hated this project so much and I was getting killed on it… But at least I was getting the losses pushed my way. But what was happening secretly – which I didn’t realize – was that this was all adding up, and something called your capital account… So after I sold it and I got the opinions of everybody, everybody said this was taken over the last 15 years, and now you have to pain a gain on those… Because you would have paid the tax if you wouldn’t have taken losses every single year… Does that make sense?

So if I would have owned 100% of the property it wouldn’t have been a big deal, but I didn’t really own much of it at all, and I was still taking a lot of the losses. So it’s complicated…

Joe Fairless: And I imagine it was an accountant who figured that out at the end… Was that accountant not on your team during the process?

Dan Gorman: Yeah, unfortunately it was the same accountant that I asked with the tax consequences…

Joe Fairless: Is that still your accountant? [laughter]

Dan Gorman: Yeah, she’s working hard to try to figure out a way out of it, so…

Joe Fairless: Okay. Thank you for sharing that. Very–

Dan Gorman: Yeah, I’m sweaty right now, only talking about it.

Joe Fairless: Very valuable. You do or don’t?

Dan Gorman: No.

Joe Fairless: No? But you offered to — so we had coffee three weeks ago, and you said “You know, it would be good to talk about ways I’ve lost money.” “Okay, great.” So thank you for this…

Dan Gorman: I mean, I am really seriously sweaty. It just brings you back to the situation, so… I would not be sweating if [unintelligible [00:24:32].25] But I do think that it has affected positively every single deal I’ve done after that. The way I underwrite a property right now, very conservatively… And I’ve been able to share a piece of that story with so many different people as we’ve been talking about another deal… Or that has affected my deals positively since then. So I would say that as a whole, I’m way better off for having gone through it, and I’m sure everybody has a horror story that is a mistake they’ll never repeat… And  hopefully it was a mistake that didn’t cause somebody to go bankrupt, and then they could learn from it and have a way better business because of it.

Joe Fairless: So here’s another bullet point I’ve got here in my notes and then we’ll wrap up… “Didn’t think he needed permits for commercial space. Costing him money now.” What’s that about?

Dan Gorman: So  I’m one of these guys that tries to fly under the radar. I love value-add, I love rehab… My dad was a builder, I love to rehab stuff; that’s my passion in real estate. So a lot of times it’s really obvious when you don’t need permits, sometimes it’s really obvious when you do, and sometimes there’s just kind of this grey area in between… So I would say that I have a tendency to ask for forgiveness rather than permission. I do a lot of things — if they’re on the borderline, I’ll just push through and do them without any permits… Or I used to.

I am involved in a deal right now where I have an office building and I rented the entire second floor (about 6,000 sqft.) to a tenant. I met the building inspector there, I met the fire department there, I said “This is what we’re gonna do with it. We’re gonna take all the walls out, it’s gonna be this big innovation hub with glass garage doors, and everything like that; it’s really cool. Is this cool if we do this?” And everybody gave their input and said “Yeah, go for it.” So I just charged ahead with the rehab, and I never really got a permit for it… Because you know, I knew what I was doing…

So after  these folks moved in and there was a bunch of news on it, the building inspector called me up and said “Hey, I know we went through it, but I don’t recall ever seeing a permit.” I was like, “Well, you never said I needed one. You were right there.” So now it’s just really painful to go backwards, because I do have to have a permit… And what has been the most painful thing with it is that what comes with a permit and proper plans is a determination of what your occupancy levels should be, so based on your HVAC, and your fire exits, and things like that… This tenant has a need to have 50 to 100 people in there on a regular basis, and I just found out this week that my occupancy is 42. And then the only way to get around that is to add a fire alarm system in the whole building, with strobes and buzzers.

We could have either made the decision not to rent to this tenant, or it would have been way cheaper to do it during the rehab when I had everybody there to begin with, than try to work around their schedule. They have to cancel stuff now… It’s embarrassing.

So every job now, I always call a building inspector if there’s any rehab to it at all, unless it’s super simple. I’m gonna be moving walls, or whatever; I know it is a pain and it slows things down, especially if they say you have to get drawings – man, does that slow things down… But it is way better to be on their good side than to get caught. And I’m not even gonna say “caught” like you’re trying to do things under-handed. It’s always better just to get their opinion. Building inspectors really like it if you’re proactive and you say “Can I get your opinion? Can you stop by? I wanna show you some things I’m gonna be working on here.” And then if they say “You’re gonna need a permit”, then just get a permit. Stuff can come back and bite you in a thousand different ways if you don’t.

Joe Fairless: What’s the fire alarm system cost, approximately?

Dan Gorman: Well, this is a three-story building, and the ballpark is about $25,000. So that is really, really not good news. I could have asked the tenant to pay for that upfront, before I leased it to him, we could have shared that cost before we signed a lease… And now this is my responsibility.

Joe Fairless: Well, we’re gonna open it up to questions. I’m sure we’ve got some… And if you can repeat the question – that way we can get it on the recording.

Audience Member: You mentioned that the large unit – you got into a project that you were unfamiliar with, so your advice would be to not do that. On the other side of the spectrum, you’re supposed to stay on — all your success is on the other side of your comfort zone… So how do you reconcile those two things? Does that make sense?

Dan Gorman: It does. Summarizing the question, if I say “Don’t get involved in a project that you don’t fully understand, then how do you expand your business and grow?” So I’m not saying “Don’t do things that are risky”, because that’s how you grow, but I’m just saying really understand it well. So if there are components that you’re signing your name on that have big financial consequences if they don’t go your way, you have to fully understand the deal that you’re involved with, underwrite it properly, fully understand all the risks and how it can go sideways on you.

I think that I’m a pretty decent example of going from apartments, to mobile home parks, to shopping center, to office, or whatever, and each one of those is a risk that I don’t know anything about before I go into it… But I’ve just been a lot more careful now.

Audience Member: With the variety of your experience in owning rental property, do you have a preference for residential apartments or for commercial now? And if you do, why?

Dan Gorman: Yeah, residential is the best, for a lot of different reasons. I think first of all, the more you get merged into commercial — it’s very expensive to get a tenant in the commercial space… I’m releasing a 2,000 sqft. space to a CPA. I met with him today, it’s gonna cost me $25,000 to prepare the space for him for a three-year lease.

Joe Fairless: And what’s the rent?

Dan Gorman: The rent’s gonna be just under 3k/month. Now, as soon as he signs the lease, I’ve started thinking a little bit more long-term, meaning that when he signs that lease, the value of that property goes up — I spent $25,000, but the value of the property goes up $100,000 because of the cashflow and the net income increases. But the risk is so much more spread out with apartments. So if I could find a good deal in an apartment community – which I cannot anymore – a 100-unit apartment community that maybe costs 5-6 million dollars, and the same type of property in anything else commercial, I would definitely take the apartment community. Your risk is so spread out, to 100 units, instead of three different tenants, or one tenant, or whatever… And it’s just a lot more predictable what can go wrong.

The problems that you have with residential are fairly minor compared to some of the things that could happen with commercial, where  you have a boiler — or an elevator (that’s the perfect example) go down. I had an elevator get stuck and people got trapped in it. That was not good. Then the fire department had to come and get them out. Then the elevator company came and they fixed it, and then three days later somebody else got trapped in it. They called 911 again, because they’re stuck and they don’t wanna be stuck. So then the fire department comes and lets them out and says “Alright, if this happens one more time, we’re gonna shut your building down.” And it happened again, four days later.

So there’s things that you just don’t know anything about, and you’re thinking you’re doing everything you can by hiring a reputable elevator company, and still this stuff happens and it just costs so much money. Every time the elevator company comes out and tries to fix something, it’s thousands of dollars.

Whereas if we go back to residential, it’s just much simpler.

Joe Fairless: Did they shut the building down?

Dan Gorman: They shut the elevator down, they did not shut the whole building down. But I did have some disabled people that could not get to their offices for 2-3 days until the elevator company came again and got it working.

Audience Member: I have a follow-up…

Dan Gorman: Sure.

Audience Member: I’m a residential guy, apartments, and I know people who rent commercial spaces who like to talk about how magical triple net leases are. It sounds like you would still advise “No, if you get your money into apartment buildings, that’s better”, even though with a triple net lease I’m not paying any of my own expenses, I don’t have to deal with so many things… And if you could give a brief description of a triple net lease, that’d be really helpful. But doesn’t the opportunity in the commercial space to get things like a triple net lease make that appealing?

Dan Gorman: Okay, so a triple net lease is basically as a landlord you have zero responsibilities. Your tenant pays the insurance, they pay for all the maintenance, they pay the taxes… So all you do is get a check every month, and then you pay your mortgage, and you don’t do anything else. That’s actually what I did with the big property that I’ve just sold – I invested in 12 Dollar Generals. Dollar General is opening stores up like crazy. So you’re not gonna get any type of a bargain on a triple net lease. You’re gonna pay THE highest price of any type of real estate there is, because no responsibility is very attractive to a lot of people who have been in real estate their whole career and now they want something easy. So there’s all kinds of money pouring into triple net, all the time, so the returns are much less.

The other disadvantage is that I have a ton of money tied up into these properties, so I did a tax defer exchange where I don’t have to pay the taxes…

Joe Fairless: They’ll get you later…

Dan Gorman: They’ll get me later, right? But because I get a certain return on that and I will never, ever be able to increase the value of that property, in my opinion… Because there might be an inflation clause built into the lease, so 15 years from now if Dollar General decides they wanna be in that place, they’re gonna say “Well, I know our lease says the rents are supposed to go up 4% or 8%, but if you want us to stick around, you’re gonna have to keep it the same.” It happens 100% of the time. So basically, you’re kind of locked in, there’s no upside at all. But what it does do for people – if that’s their strategies and they wanna have that – is it kind of sets the money aside and you don’t have to worry about it anymore for a while.

There is still risk. I have these Dollar Generals, I have 12 of them, they’re all in Michigan, in really rural areas. They’re so nice, we don’t do anything, but in the back of my mind I’m always worried than on year 15 how many of them are not gonna renew the lease on? And if Dollar General is not the tenant, how much rent am I gonna get if I have to rent it out to some local company? And how much does the value decrease if I do that? So there’s still risk involved in it. It’s really easy right now…

So my strategy with that would be “Dollar General is great, they’ve been around since the ’50s, but instead of having all the leases expire at the same time, I may sell 3-4 of them in the next year or two, replace those with brand new ones, so the leases are always kind of renewing on a different schedule, instead of all in the same year.”

Audience Member: [unintelligible [00:34:26].17]

Dan Gorman: The question was do I look at deals differently now with more clarity than having gone through that terrible time? I think it’s totally different. First of all, I don’t get sucked in by the sizzle some of these sales presentations/marketing brochures and things like that of how amazing this property is and how much upside there is, and everything’s value-add if you look at it… So I’m just much more conservative when I look at this right now, and I’m so much faster at just ignoring a deal instead of getting sucked in and wasting a bunch of time on it. If it even smells like over-promising some returns or something like that, I don’t even wanna get involved with it.

Joe Fairless: We’ve got time for one more question. Yes, in the back.

Audience Member: Hi. I wanted to ask about Airbnb. Do you do any real estate with Airbnb? Do you have any real estate properties that you rent out?

Dan Gorman: We only have one Airbnb, so I don’t know a lot about it… But I’ll tell you about my experience. I have a three-unit building in Bellevue, Kentucky that my daughter lives in, and we have this nice, awesome, consistent income from one of the units in there. And then the lady leaves, and my daughter wanted  to do an Airbnb, which I thought was not the best idea myself, just because we have $600/month coming in from this apartment, and she wants to do the Airbnb. But she’s killing it, she’s doing great.

It has been really challenging to deal with Bellevue, Kentucky. They keep changing their regulations. She went and asked them if she could do an Airbnb on the property, and they said yes. So we fixed up the unit and got it all ready. Then I said, “Okay, just go fill out the paperwork now, so we can make it official”, and they said “Well, you can’t do that. We just instituted some new regulations two weeks ago.”

Everybody’s doing their best to regulate these things, because Bellevue for example had a bunch of homes all over the place, and it’s pretty close to downtown Cincinnati, so people rent these homes for Bengals games and Reds games, and Riverfest… And if you have a three-bedroom home, you can fit like 12 people in this thing… So they party, and they take up all the parking, and they cause all kinds of problems.

So Bellevue – and from what I hear,  other towns – are trying to push through these regulations and figure this all out, so they don’t have situations like that. So they instituted a program where you have to be an owner of the property that you are renting out, and you have to live in it at least six months a year. So it was my daughter, but she wasn’t an owner. So then we’re so far into the darn thing that we had to form an LLC just for this, and she became a hundredth of a percent owner, so we were able to apply for it… And then they soon expect something else that said that — even though they said that if we did that, it would qualify, they sent us something back and they said “Multi-unit dwellings don’t qualify. You have to have single-family homes.” I’m like “This is not what the regulation said just two weeks ago.” So we’re still fighting it.

I’ve been very upfront with the city manager there. I’m like “Listen, we’re doing everything you’re telling us to do, so we’re just gonna be renting this thing out now, because I know there’s tons of people that are trying to do it on the down-low, and you just have to help us qualify. I think you’d rather have the owner living right next door, than somebody from out of state doing it.” So he’s fine with that, we’re okay.

So now she only gets $60 or $70/night for it, a $40 cleaning fee, and she is probably 28 out of 30 nights a month she’s booked. But it is a heck of a lot of work. She has to find people whenever she wants to go out of town; she’s gotta try to find people that can take care of any issues with her guests, she has to find somebody to clean it… And out of the 28 days that it’s rented, it’s probably turned at least 12 times to 15 times… So that’s a lot of work for somebody to go in there and turn it over. And if you like to do things like travel or something like that, you have to have some other — so her mom goes in and cleans it. I don’t know who’s gonna take the distress calls if there’s a problem.

People are finicky. They say “This is too hot”, “It’s too cold”, “You’re out of this”, “My towel looks dirty”, stuff like that. So to me it’s easier to have an apartment than that, but I have a buddy in Pittsburgh that has started to convert a lot of his multifamily units into Airbnbs because his township is fine with it. He doesn’t travel much, he stays around, and his kids are involved in this business, so they all kind of share… So for him, it’s been — he’s gone from $1,800/month for this one building to almost $5,000/month because of Airbnb… But it’s a lot more work.

Joe Fairless: Hey, thanks a lot. I appreciate it.

    Get More CRE Investing Tips Right to Your Inbox

    Get exclusive commercial real estate investing tips from industry experts, tailored for you CRE news, the latest videos, and more - right to your inbox weekly.