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"Real Estate" guidelines!
A real estate investor has to focus
on the most important issue: Is this
a good deal?
Learning to recognize a good deal takes research, education and, above
all, experience. Here're some questions to determine whether a
potential real estate purchase is a deal:
- Will this property cash flow?
That depends on a lot of factors, such as the strength of the
local rental market, the interest rate on the financing, and how much
of a down payment you make. It also depends on whether it is a
single-family or multi-family dwelling.
- Will this property provide
income?
Now, of course, whether the property will provide income to you begs
the question of whether income is important to you. If it is there are
mor questions:
- Do you earn other income?
- Do you need more income now,
or is future equity growth more important?
There's no right answer to these questions, but are all factors to
consider when looking at a potential purchase.
- Do you have thought about leverage?
Leverage is important for investors because the less cash you put down
on each property, the more properties you can buy. If the properties go
up in value, your rate of return goes up exponentially. However, if the
properties go down in value and you have a lot of debt on the property,
this can result in negative cash flow (see above). Since real estate is
generally cyclical, negative cash flow is only a short-term problem and
can be handled if you have other income or a cash reserve to handle the
negative. "Nothing down" investing is very attractive for the
high-leverage investor, but should be approached with caution. If you
are a long-term player, leverage will generally work in your favor if
the markets in which you invest appreciate in the long run and your
income from the properties can pay for most of the monthly debt
service.
- How will this property cash
flow
compared to other potential properties?
For example, a $450,000 house that rents
for $3,000/month has a better income potential than a $900,000 house
that rents for $4,800/month. A four-unit building that costs $1,200,000
may bring in $9,000/month in the same neighborhood.
- Does the property you are
purchasing have equity?
Equity can take a
number of forms, such as:
- A discounted price
- A potential fixer upper
- A rezoning opportunity
- A poorly managed property
- A foreclosure
There are many ways to
create equity, but buying into
equity is your best bet. Find a motivated seller who wants out of
his
property and is willing to give up his equity for less than full value.
Or, buy a property that needs work that can be done for 50 cents on the
dollar or less.
In other words, if the property needs $10,000 in work, make sure you
get a $20,000 discount on the price or better.
Appreciation
Buying in the right neighborhoods in the right stage of a real estate
cycle will result in appreciation and profit. However, timing a real
estate cycle is difficult and is speculative. If you buy properties
without equity or cash flow solely for short-term appreciation, you are
engaging in a very risky investment.
Buying for moderate, long-term (10 to 20 years) appreciation is safer
and easier. Look at long-term neighborhood and city-wide trends to pick
areas that will hold their values and grow at an average 5% to 7% pace.
Combine this tactic with reasonable cash flow and buying into equity,
and you will be a smart investor.
- Have you considered the risk?
Proove your plans:
- What if my assumptions are
wrong?
- Do you have a "plan B" if
something is going wrong?
- If you bought for appreciation
and the property did not appreciate in value, can you rent for positive
cash flow?
- If you buy with an adjustable
rate loan and the rates go up, will this put you out of business?
- If you have a few
vacancies, can you handle the negative cash flow or will it break the
bank for you?
Expect the
best, but be prepared for the worst. And remember, whenever you look at
a
property to purchase, think the questions above! |
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