How Using Other People’s Money at Scale Can Make You Exponential —and Even—Infinite Wealth
There are two ways to get rich. One way is to use your own money. The other way is to use other people’s money, or as we call it at Rich Dad, OPM. One (using your own money) provides small-to-modest returns, takes a long time to pan out, and requires some financial intelligence. The other (OPM) provides large-to-infinite returns, creates incredible velocity of money, and requires a high financial intelligence.
Which one would you prefer to use?
Good Debt and Other People’s Money?
Other people’s money (OPM) is a fundamental concept of Rich Dad and a sign of high financial intelligence. By using both good debt and OPM, you can dramatically increase your Return on Investment (ROI)—and you can even achieve infinite returns.
Good debt is a type of OPM. By way of reminder, good debt is any debt that puts money in your pocket. By contrast, bad debt takes money out. So, a car loan, for instance, is bad debt. You pay for it each month while the car provides no income and in fact depreciates the minute you drive it off the lot.
Good debt, by contrast, would be a loan for an investment property where the rental income pays for the expense of the property, including the debt service, while also providing monthly income.
The downside to good debt is that you can generally only borrow a certain percentage of an asset’s purchase price. In keeping with our real estate example, that is generally around 70 to 80 percent of the purchase price.
Breaking this down, let’s use an example of a $100,000 property for simplicity’s sake. In a traditional deal with a bank, you can only borrow around $70-$80K towards the property. The rest of the money must be made up of equity from another source.
Other People’s Money for Higher ROI
Because of this, you have two choices when you find a worthy investment: use your own money or use other people’s money for the equity needed above and beyond the loan. Provided you structure the deal well, the more you can use other people’s money, the higher your return will be.
In the case of our real estate example, let’s run a few scenarios.
$100,000 purchase price
$80,000 loan at 5% interest
$20,000 of your own money for equity
Running through a simple mortgage calculator, your annual cost for this loan would be about $8,500.
Assuming you have an income from the property of $11,000 a year after expenses are paid, your total net income would be $2,500 ($11,000 – $8,500).
Your return on investment for this would be $2,500/$20,000 = 12.5%.
$100,000 purchase price
$80,000 loan at 5% interest
$20,000 OPM at 7% interest
You get paid 50% of net operating income as the finder of the deal.
In this case, your annual loan costs would still be $8,500, but you’d also have an additional cost of around $1,500 for the other people’s money you borrowed for equity based on an assumed 7%. So, total loan and OPM costs would be $10,000.
Again, assuming you have an income from the property of $11,000 a year after expenses are paid, your total net income would be $1,000 ($11,000 – $10,000).
Your fee for putting the deal together would be 50% of the NOI, in this case, $500 (50% x $1,000).
Your return on investment for this would be infinite because you’re making $500 without any money in the deal.
These, of course, are just small numbers for example. In the real world of investment, you can do this at scale and make massive returns and also, as in this example, infinite returns. But it takes high financial intelligence.
Would Anyone Really Give You Their Money Like This?
Many people think it’s a fantasy world that people would just give you money to invest, but that couldn’t be further from the truth. The reality is that most people don’t have time to find good deals. Instead, they rely on people with proper financial education, skill set, and drive to bring deals to them.
My real estate advisor, Ken McElroy, has perfected using OPM. His company, MC Companies, buys apartment buildings. He does all the hard work of finding deals, doing the due diligence, negotiating with owners and lenders, and handling management. In return, people line up hoping to invest their money with him.
Today, Ken does big deals that require a certain type of investor. Not just anyone can invest with Ken. But he started with small deals, like the ones I’m writing about today and worked his way up to big deals.
The Power of Other People’s Money At Scale
As I mentioned earlier, you can use OPM to substantially increase your returns and secure even more assets at scale. Let me show you an example of how that works.
Let’s say that I have $100,000 to invest. I could use that to put down 20 percent on five properties. But using the concept of OPM, I’d rather use that $100,000 to put down 5 percent on 20 properties. I can do this by finding 20 great deals and lining up investors to invest in them.
Here’s how the math works out.
The bank would lend $80,000 for each property, and I would divide my $100,000 into twenty $5,000 segments, using OPM to raise the other $15,000 needed for each property. Again, at 5 percent interest, the payment on the loans would be around $500 per month. Let’s assume that we’ll pay a little more for our investors’ money and give them 7 percent interest. The money owed to them would be a little less than $100 per month—but we’ll go with $100 to make it simple. So, our total costs would be about $600 per month.
That means we’ll have a cash flow of about $200 per month, which we’ll split with our investors 50/50. We’ll pocket $100 per month or $1,200 per year, and our investors will pocket $100 per month or $1,200 per year.
Adding up the total return for all 20 deals, that’s $24,000 per year cash flow, a return of 24 percent. Not only am I making 6 percent more per year than if I just used my money, but I also have ownership in 20 assets instead of just 5. Later I can refinance these properties, pay off my investors, get my investment back, and continue to receive cash flow from the 20 properties—an infinite return.
Again, I’m using very simple math here. In real life, the numbers are more complicated and much larger. But the principles are the same. Investing with Other People’s Money takes a high level of financial intelligence. But both Ken McElroy and I both started small and worked into the big apartment deals we do today. You can do the same.
Be diligent. Continue to increase your financial education. Work hard. And master the fundamentals of good debt and OPM, and you will become wealthy.
Editor, Rich Dad Poor Dad Daily