Real Estate: Be a Sharp Investor First, A Sharp Borrower Second

“Genius is the ability to put into effect what is in your mind.” – F. Scott Fitzgerald (“The Note-Books,” The Crack-Up, 1945)

Forbes published its first list of America’s Richest People in 1982. At the top of that list was a man named Daniel Ludwig. You’ve probably never heard of him, but 20 years ago he was a multi-billionaire. Can you imagine how wealthy he’d be today?

Ludwig’s wealth-creating genius lay in a simple, learnable skill: He knew how to get banks to back his investments.

A high-school dropout, Ludwig was a struggling shipyard owner in Michigan in the early 1930s. Then, one day, he decided to buy an old cargo ship in order to convert it to an oil tanker. By that time, he had borrowed a few times, but he didn’t have much collateral, and his credit rating was so-so at best. He went to various banks in New York to seek financing for his new investment, but without luck.

Then, it occurred to Ludwig that an old tanker he had — while not worth a lot on the resale market — did produce reliable income. He did the math and figured that the monthly charter fees from that tanker would cover his payments on a loan for another tanker. So, he asked a Chase Manhattan banker to accept that income as his collateral.

For the bank, it was an unusual proposal. But, on closer examination, it made sense. The lenders would have double protection: the collateral in the mortgaged tanker and the income from another tanker. Ludwig got the loan.

He repeated variations of the same deal again and again. Other “creative-financing” deals followed, and by the late ’40s he controlled some of the largest shipbuilding yards in the world. By 1982, he was the richest man in America — with a fortune estimated at $2 billion.

Daniel Ludwig went from being the struggling owner of a few rusty buckets to the wealthiest man in America because he learned how to use other people’s money.

This is very much the same principle that Warren Buffett used to become the world’s second-richest man today. If he had invested nothing but his own capital, he would probably be worth just a few hundred million — instead of more than $36 billion (at last count). But he leveraged his assets by buying insurance companies and using the huge cash pools generated by insurance premiums as capital for his other investments. And, of course, creative financing also works marvelously in real estate.

Donald Bren, for instance, is one of the most successful real-estate investors in America. He has built a $4 billion fortune primarily from property investments. How did he get started? With a $10,000 property loan in 1955.

There are thousands of similar success stories-on a smaller scale. Average-income Americans who became millionaires through the power of leverage in real estate. Still, you should never forget the following big caveat: You’ve got to buy right to borrow well.

Leverage works great when your investments go up, but it works against you when investments go down. If Ludwig didn’t know port from stern or didn’t have a firm grasp on how much income each of his mortgaged ships could produce, all the loaned money in Manhattan wouldn’t have done him any good.

But when you first master the skills of identifying good property deals and managing risk, knowing how to access other people’s money can be a huge advantage. It can quickly catapult you from being the owner of a few properties to the holder a diversified real-estate portfolio producing thousands in free cash flow every month and building up millions of dollars in equity.

(Ed. Note: Justin Ford is the editor of Main Street Millionaire, ETR’s real-estate investment success program.)