Going deep into debt is generally considered a bad thing. People don’t like the idea of being at the mercy of a creditor, whether it’s Ebenezer Scrooge, MasterCard, or their neighborhood banker.

Fear of debt causes some investors to pay 100% cash for properties, which is a lousy way to leverage their money. Owning a building with zero debt (no mortgage) does not give you the best return on equity. Yes, your cash flow is great, but look at how much you had to invest to generate that cash flow.

Let’s say your Aunt Nellie left you $1 million. You could buy a $1 million apartment building with 6 units and pay all cash. If the units each generate $1,000 a month in rent, you’re $1 million gets you $6,000 a month.

However, if you split the $1 million into the down payments on five 6-flat apartment buildings (30 units total), your $1 million gets you $30,000 a month in rental income. You have mortgages now, of course, but you control five times the equity. Which is why I say, don’t just tell me what your cash flow alone is. Rather, tell me by how much cash flow you generate compared to how much you invested.

Effectively leveraging your cash and managing your debt gets you a higher ROE (Return On Equity). Going into debt can be a very good thing. In fact, it’s how you get ultra rich.

Choose your lenders as carefully as you choose your properties. Here are 5 major money sources:

Local Banks: Neighborhood lenders generally have shorter terms and higher interest rates. They like to keep their loans close to home and work with people they know, thus you can build long-term relationships. When you need money to rehab, use a local bank.

National Lenders: The big-name banks tend not to hold the loan. Rather, they sell it on the secondary market. Use a national lender when you have a straightforward deal that does not require creative financing.

Conduit Lenders: When you get into the big leagues and want to borrow millions of dollars, you can approach Wall Street. Firms like Citigroup pool their loans into mortgage-backed securities that they sell on the open market. Other mega lenders include insurance companies and pension funds.

Private Investors: If you’re just starting out, your most viable path will be to partner with private investors. You can quickly get the down payment or even enough funds to pay 100% cash. A student of mine went to his first local investment club and within a week had $250,000 in funds committed from private investors.

Friends and Family: Finally, although you can’t choose your relatives you can choose whether or not to borrow money from them. Just remember that any dysfunctional relationships your family may possess will likely be put on steroids when money is involved. And perhaps nothing ruins a friendship faster than borrowing money.

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