what is a property portfolio?

It’s a straightforward question – and the answer is very simple: when you have two or more investment properties you have a property portfolio.

So if you’ve reached that point you might think it’s time to celebrate – or is it?

Perhaps the real question you should be asking yourself at this stage should be: Is your current property portfolio generating enough passive income to allow you to be financially independent?

This phrase contains two terms that you need to fully understand before moving further in your plan to develop and maintain a property or real estate portfolio.

These are: "passive income" and "financial independence".

We assume that you've read our solid foundations in property module, which shows you how to acquire the knowledge and develop an action plan to succeed as a property investor. If you haven’t done so yet, please read the main page and return here when you’ve finished.

Assuming that you own your own house, if you only have one investment property in addition to this then it’s unlikely that this alone will make you a living for now and for many years to come. But if you accumulate three, four or five investment properties you’ll have a small portfolio to look after and the chances are that this will already be keeping you busy - perhaps even very busy!

So returning to our question: Is your current property portfolio generating enough passive income to allow you to be financially independent?

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Why build a property investment portfolio?

One of our associates, a financial adviser, asked several people the following two-pronged question: "What do you like in your job and what do you dislike in job?"

It’s worth taking a minute to think about it right now.

Most people, regardless of their profession managed to find things that they liked in their job - which came as a surprise to our friend, but not to us!

We acknowledge the fact that everyone has their place in society. We’re not advocating a society where employees have disappeared and every citizen is a millionaire. We’re far more realistic than that!

Just as it’s worth asking yourself what you like and dislike about your job, it’s worth asking yourself what your main reasons are for wanting to build a property portfolio.

You might come up with one of the following:

• I would like to have the same level of income when I retire that I now have.
  
• I want to be in control of my pension plan through property.
  
• I need to supplement my income without working more.
  
• I would like to use my properties to finance my children’s university education fees.
  
• I want to donate money to my community or to charity

Eventually, your needs, goals and dreams will all be translated to two simple things:

• How much capital will your portfolio be worth?

• What passive income (also called “return on capital”) will it generate for you to meet those goals and dreams?

When your passive income meets all your needs you've achieved financial independence.

It’s worth bearing in mind at this stage that there is an important timescale element to achieving this.

How long will it take you to earn £30,000 (or £60,000 – or even more!) without lifting a finger?

When your passive income meets your dreams and you can afford to stop working for the rest of your life, then you've become financially free.

A good guide to this kind of financial freedom is Robert T. Kiosaki’s book The Cashflow Quadrant.

Before you start to take on the world, we strongly advise you to start small – it’s the best way to reduce your financial risk and learn from your mistakes. And believe us you will make mistakes as you grow your portfolio and gradually become a skillful investor.

How do you build and maintain a property portfolio?

1. Climb the property portfolio ladder

A common question people often ask is: how do I get started?

Usually what they really mean is: how do I get there (owning a property portfolio) from here (wherever they are now)?

Making sure you ask the right questions to start with is an important first step - in our experience knowledge is most easily acquired when you have a problem to resolve and are looking for answers.

If you're a first time buyer, obviously we recommend owning your own house first. We also recommend that you read our “solid foundations in property” report and the "why should you learn to invest" report.

If you're already a homeowner but have never invested in property, we recommend that you read our “solid foundation in property” module and the “first-timer property investor action plan.”

2. Fix any financial leaks in your existing property portfolio

Our financial adviser friend also told us that most of the property investors he knows do not have the necessary cash flow to sustain their existing portfolio. Surprising perhaps, but nonetheless true.

If you fall into this category don't despair. We'll give you some important principles and essential tips to get out of this situation. But before we do, let's explain why many investors get bogged down with their portfolio.

• First-time investors neglect elements of due diligence and risk assessment during the acquisition phase. They are simply too optimistic or they rely on others for their research and due diligence.

• Some not-so-new investors focus entirely on the acquisition phase and ignore management and maintenance aspects after a new property has been added to the portfolio. They crunch the relevant acquisition numbers to see if they stack up and proceed if they’re happy with their deal analysis without considering the aftermath of the purchase.

• Many investors add the wrong type of property to their existing portfolio. You've probably heard it said that sophisticated investors buy property below market value (BMV). However because this trick has become public knowledge, it’s harder to find BMV properties. They still exist but they’re definitely harder to find.

• Finally, many investors completely mess up their refinancing activities. They put too much financial weight on the portfolio or fail to comply with their future exit strategies.

They are many other factors that can lead to property portfolio leaks, some of which can even lead to a property portfolio breakdown.

So how do you fix these mistakes? First, learn what you should have done and then address the mistakes property by property while taking an overall view on your portfolio.

Learn

•The five portfolio keys
•How to buy the right property at the right time

And:

• How to create a secure and passive income for life

3. Expand your portfolio

As part of our Agenda For Property Investment we suggested that you should aim to build a portfolio that expands both in size and geographic area.

Some investors only invest locally and never venture outside of the area they know and love. Their argument is that investing far from your local area is risky.

While it's difficult to argue against this strategy it’s worth bearing in mind that every area is dynamic. And to be able to see some spectacular capital gains in the shortest possible time, you should be aware that the chances are it won't continually happen for you in your area.

So you need to assess the risk and reward of hunting further from your own home village, town or city. You may catch an elephant to sustain the village (your portfolio) for a while but sooner or later opportunities locally may become less frequent.

So how far should you go? There are no hard and fast rules here. Everywhere people buy and sell properties and each individual market has its pros and cons. One thing is certain - if you have the skills to detect the next hotspot you can become wealthy in record time.

Keep yourself up-to-date

Find out the next up-and-coming area or the next emerging market. Follow the link for the market or product of your choice:

• UK Property Investment
• Spanish Property Investment
• French Property Investment
• Florida Property Investment
• Other property investment
• Holiday Homes investment
• Property investment mortgages and loans

Don't forget to keep an eye on financial products that are your essential keys for leverage.

As you expand your portfolio both in size and geographic area you will need to keep a constant eye on it. You may also need to rationalise your entire wealth of paper assets, properties and businesses.

Analyse, manage and monitor your property like a very serious business

In our solid foundations in property module we've asserted that you should treat each property as a business. And likewise you should treat your property portfolio as a group of businesses.

Is your portfolio profitable?

When you start to expand your portfolio beyond five properties, depending on their worth, we might be talking about capital or assets of at least £400,000.

The worst-case scenario of a negatively geared portfolio would mean that your rental yield is lower than your finance costs and the costs of managing your portfolio.

For example, if your rental yield is only 4%, your finance cost is 5% and your other costs are 2% this means that you have to subsidise your portfolio by 3% (5% +2% -4%) of its value every year. That's a £12,000 loss over a year, £1000 per month given a portfolio value of £400,000

Those with bulging wallets might be able to afford to lose that kind of money until the rental yield improves, but for most of us it would be an uncomfortable situation.

OK, so it’s a worse case scenario but some people fail to do this basic kind of risk analysis entirely and come unstuck. And with a portfolio value in excess of £1,000,000 it’s foolish to have it negatively geared by even as little as 0.5%.

Trust us - the energy required to maintain such a portfolio (if composed of more than 5 properties) and the loss incurred on a monthly basis will feel like blood, sweat and tears!

Income yield versus capital growth

If you have downloaded our "Property Investment Fundamentals" report you’ll know that what matters - in the long run - is capital growth not income yield.

Take our dreadful scenario above. Assuming a conservative capital growth of 5%, after a year that portfolio may grow in value by £20,000.

The capital, when it grows, always outclasses the income yield.

Of course, that doesn’t make the scenario desirable, but it’s an important risk analysis exercise...

Learn the tools and strategies to manage your portfolio like the professionals

What is your exit strategy?

This will depend on why you wanted to build your portfolio in the first place - see above for more details.

You might want to keep hold of some properties in your portfolio and pass the rest of the portfolio to your successors. This could be your children, your partner, or an associate.

You might have heard about the “never sell” strategy. However, in this case you'll have to get to grips with the inheritance tax.

Alternatively, some people try a “buy-develop-sell” strategy to generate income or cash.

One thing is certain: no one can avoid tax whether it is capital gain tax when you come to sell or inheritance tax when you pass on a property or an entire portfolio.