ADVICE FROM EXPERIENCE
More than a 1/3 of all home sales are now foreclosure sales.
Even churches are now not immune from the real estate crisis.
Investors are buying up all of those foreclosures, because the prices have dropped by half since 2006.
Here is a very smart 14 year old. Where would I be today if I had started investing that early!
Yesterday on the radio with Richard and Jo on AM 600 WREC we talked about what makes a real estate deal. How do you, as a real estate investor, determine what your asking price for a property should be to ensure that you get a good deal? In case you missed the show or were not able to listen, I wanted to jot down some our thoughts for you here.
First, let me start off by saying that any real estate deal is made when you buy, not when you sell. Selling is simply a part of your real estate investing strategy. There are three basic strategies to real estate investing. One strategy is to get a property to retail to a retail buyer. The second is to wholesale to another investor. The third strategy and my favorite is to buy and hold in your landlord portfolio.
The numbers for all there strategies have to be backed into. In other words, there are several other pieces of information you need to know before you know if you have a deal. Let’s look at a retail deal first, then wholesale deals and next time I will write about buy and hold deals.
A retail deal’s most important number is the current market value for the property. What would the property sell for to a retail buyer in today’s market? To determine this number you need to examine the most recent sales comparables, or comps, of other similar properties that have sold in the last three months. Look for the average sales price for square foot and then do the math to determine a retail sales price for the property you are interested in.
If for example after examining the comps you find that a property’s retail value is $200,000 you can then begin backing in to your price. First subtract the amount needed for any repairs or upgrades. Was the property last renovated in 1985? Does it have the dual bathroom sink everyone wants now days? Is the kitchen clean, modern and functional? Was it beat up during the foreclosure process? Is the property neatly landscaped? The answers to these types of questions will of course determine the repairs needed. For the sake of our example here let’s say the property needs $20,000 worth of work.
Next, you need to subtract your holding costs. Once you acquire a property, only in exceptionally rare circumstances will you be able to immediately turn the property over to a retail buyer. So there will be holding costs such as paying for the utilities while renovations are completed, keeping the grass cut, paying the property taxes and insurance. You will also likely have to pay real estate commissions and some closing costs. A quick rule of thumb to use here is to figure on about 10% of your sales price going to these holding costs. So deduct another $20,000 from our example.
Finally, and this is the good part, you need to deduct your profit. You are not doing this for free are you? I did not think so. In any deal you should make at least $10,000 or 10% of the retail sales price, whichever is higher. There is risk in taking on a retail project. All sorts of thing can happen from the property not selling to vandalism. You need to make sure you are compensated. And the bigger the deal, the bigger the compensation should be. So for our example let’s take 10% or $20,000.
So what is the deal in our example here? That $200,000 retail property is a deal if purchased for no more than $140,000. Hopefully it is easy to see how I got to that number now by taking the retail sales price of $200,000 and subtracting $20,000 worth of repairs, $20,000 of holding costs and $20,000 profit.
A wholesale deal is similar except you are planning to quickly resell the property to another real estate investor. The difference being the investor may want to retail the property or buy and hold the property. So you need to know what your investor’s strategy is to be able to provide them with a good deal and make a profit for yourself.
Here again you need to figure out the after repaired value (ARV) or retail value using the latest comps available. If your investor buyer plans to retail the property the most you can pay for it is 60% of the ARV, less any repairs needed and less your profit which should be $5,000 to $10,000. You can take less profit here than in the retail deal above because you are in and out of the deal quickly and there is therefore less risk.
So if you find a property with an ARV of $100,000 that needs repairs of $10,000 the most you can pay for the property is $40,000 to $45,000. That is 60% of $100,000 or $60,000 less $10,000 for repairs less $5,000 to $10,000 profit.
If your investor buyer is looking for properties to buy and hold, a quick method to determine your base price is to multiply the gross monthly rent and then divide by two. So if a property generates $800 per month in gross rents. The base price works out to $800 multiplied by 100 or $80,000 which is then divided by 2 for a base price of $40,000. Then you can subtract your profit for your offer price.
Why you may ask would anyone take such deep discounts for their properties? Well there are many reasons. People go through various stages in life, they get married, have kids, move, get divorced, pass away, etc. These stages create opportunity because people may need to unload properties quick, not want to do necessary renovations or repairs, or just want to walk away. So don’t think that you are stealing anything, many times you are providing a valuable service and the seller is more than happy to have your offer in hand.
Next time, I’ll go over how to determine a good buy and hold deal. Until then, work smarter not harder.
As a landlord I have to like it when Yahoo reports that renting is better than owning 100% of the time!
It is also fun to watch the spin for a housing market recovery.
Home Sales Jump! The housing market is recovering!
Well, maybe we spoke too soon.
The housing market is really comatose. No, it’s more zombie like.
Meanwhile there are plans to downsize Freddie and Fannie. And there are plans for more bailouts, this time by the USDA.
The bottom line is properties are cheap, money is cheap and renting is good. Now is the time to buy.
No, I’m not talking about for growing corn, but for growing your real estate investments. If you want to be a successful and smarter real estate 
investor, you should find a particular area and farm it for real estate deals. It just makes good real estate investing sense. Just as you would not try to scatter your corn crop all over the country or your particular city, you should not scatter your real estate investments all over the country or even all over your particular city (at least not at first when you are starting out).
Farming means selecting an area and then getting to know that area like the back of your hand. You need know all the streets, the house types, average retail sales price, price trends, rental rates and rental trends. By having all of this information on hand for quick reference, you can act quickly if a deal presents itself. (In hot markets, quickly may mean as little as a couple of hours!)
Farming a particular city or neighborhood provides the real estate investor with many advantages.
Where should you farm? I recommend you look for an area that is maintaining property values and where people have and hold jobs. It does not have to be the nicest neighborhood or even the lowliest. Although both of these types and everything in between will have deals in them for you to farm and grow.
I also suggest, at least when you are beginning your real estate investing journey, that you pick an area close to your home or work. This strategy will provide you will several more advantages.
How big should your farm be? The answer will depend on many factors, but here are a few guidelines.
Farming is a great real estate investing strategy, especially for the beginning investor. So get your maps out, grab a highlighter and pick your place to farm for your real estate deals.
There are essentially three ways to invest in residential real estate. You can wholesale, retail or buy and hold. Each has its pros and cons. Let’s go through each one.
Wholesaling
Wholesaling is acquiring a property for a quick turnaround to another real estate investor. This strategy is sometime referred to as “flipping.”
Pros
Cons
Retailing
Retailing involves acquiring a property to fix up and sell to a retail buyer. These are generally only single family homes.
Pros
Cons
Buy and Hold
The buy and hold investor is a landlord. He or she buys and holds properties to rent for the long term.
Pros
Cons
Which strategy is right for you? That depends on your personality and what your goals are. I have done all three but I am generally a buy and hold guy. I like the monthly income, I can focus on one specific area and I dislike waiting for a retail buyer.
If you are just starting out and need to acquire some cash per haps wholesaling is the right choice for you. Have cash to invest? Maybe a couple of houses to hold and rent is the right choice. Many investors do a little bit with all three. They like the large chunks of cash, the monthly income and tax breaks from landlording.
Whatever you do, decide to do one of these three strategies today. You will not regret it. And if you need to learn more about real estate investing, check out your local REIA group.
Rents are starting to go up. According to the Federal Reserve Bank of Cleveland:
Rents are starting to accelerate. Rent of primary residence rose 3.1 percent in December, and has risen 3.5 percent over the past six months. Owners’ equivalent rent (OER) rose 2.2 percent in December and is up 2.3 percent over the past six months. Interestingly, all but one of the regional OER components we use to compute the median CPI posted an increase near 3.0 percent in December (the median component was OER: Midwest, which rose 2.9 percent).
Rents are simply responding to the laws of supply and demand. Demand for rental properties is up as the number of renters has increased significantly due to the foreclosure crisis and a reduction in the amount of available credit for home loans. The market is responding to this increased demand for rental units. According to the US Census Bureau, the number of permits for the construction of multi-family units are up over 50% since December of 2010.
Single family home construction continues to be in the dumps. New single family home construction permits are down over 75% from the boom time highs, as this chart shows:
What does all this mean for the average investor? First, if you own rental property, keep it. Rental inflation and thus rental profits should increase over the coming year. Second, continue to buy and hold rental properties if you can. Third, if you’re a flipper, buy and hold investors are going to be your buyers. Fourth, continue to be very careful with retail flips. Very few areas are viable retail markets right now so choose wisely.
It is more and more obvious to me that real estate investors are going to be the ones that get us out of this mess. I just hope the banks and our government begin to realize it as well.
My latest podcast where I along with Jo Garner and Richard Scarbrough talk about beginning your real estate investing journey and some of the things you should consider if you want to get into real estate investing. Originally aired on AM 600 WREC on 1/7/2012.
I dread January. Not just because it is cold but also because I have to start thinking about income taxes and our state legislature comes back into session. Every year you can be guaranteed that someone in the legislature will propose a bill that will make it harder for me to be a landlord. A bill I will have to oppose. This year is no different.
This year it is HB 2227. If you are an investor in Tennessee, you should be concerned about this bill. This bill will create a registry of all rental properties and their owners, charge me for the privilege of registering and then threaten me with fines and eventual jail time if I fail to register. It would also require me to create a registry of all of my tenants by keeping a copy of an “appropriate ID.”
A registry is unnecessary as the county property assessors have that data anyway and why do they care who I rent my properties to? I suspect there is more to this bill that will come out in the coming years. This bill will do nothing but create a further burden on an already burdened industry. It is all about gaining more control over the real estate investing industry.
I guess they think I don’t have enough to do in my business. I now have to shift time and resources towards fighting this bill. Time and resources that could be used much more productively growing my business.
I do not know who said it but I tend to agree more and more with this quote every year, “Our legislature meets once a year for 99 days. But I wish they met for only one day every 99 years.”
I’ll have more to come on this issue as it develops.
I have often been asked by people wanting to get into real estate investing for advice about the types of properties they should invest in. There are so many different kinds of real estate investment types, from single family homes, to farms to industrial parks and there is nothing wholly right or wrong with investing in these various types of real estate. Each has advantages and disadvantages. But in my experience, residential real estate is the easiest to get into and the learning curve is the shortest. So for the new investor, I recommend residential real estate investment properties and that is what I am going to discuss in this post.
There are three types of residential investment properties. All three can be great investments. Just be aware of the advantages and disadvantages of each type before investing. Let’s go through each one.
Single Family Homes – Single family homes are properties with just one dwelling unit in them. They can be detached homes on acre lots, town homes, even condos fall into this category. Single family homes can be great investments. One of the best features of single family homes is that they generally are the only properties you can sell on the retail market. You often therefore can get a higher sales price when you sell than you would with other type of residential properties.
In today’s market there are many, many homes out there that are priced right and will generate positive cash flow. In fact, right now they are the cheapest I think they are going to be for a long time. Even thought prices have declined, rents have not. Properties in desirable neighborhoods can bring good rents and very stable tenants.
New investors can also get some very favorable financing for single family investment properties right now. Rates are currently amazingly low. Investors with W-2 (regular job) income and a good credit score can get up to 10 investor loans with low fixed rates financed over 30 years, just like you can with an owner occupied house. So both pricing and loan rates make this type of investment property very attractive. (Here is a tip. If you are married be sure to put these loans in only one spouse’s name. That way you can get 20 loans, 10 in each spouse’s name.)
In many areas however, the prices of single family homes are far higher than the rental income they will produce can cover. In other words, unless you are paying in cash for an expensive home or have a large down payment, the amount you will have to finance will not create positive cash flow. Be careful buying in pricier neighborhoods.
A downside to single family homes is the fact that when your tenant moves out, your house is vacant and producing no income. You need to move quickly to get your property re-rented. Vacancy is a cash flow killer! For example, if your monthly cash flow is $150 per month on a home that rents for $900 per month and it remains vacant for a full month, you have just lost 6 months of cash flow profit. Plus, when they are empty, they are more prone to theft and vandalism.
Duplexes, Triplexes and Four-plexes – These are the two, three and four unit properties or smaller multi-unit properties. These also make great first time real estate investments. The main advantage here with these multi-unit properties is that they will still produce income when one unit becomes vacant.
Another advantage for the newer investor, you can often get the same types of loans mentioned above with single family homes. This is because Freddie Mac and Fannie Mae, the buyers of these loans, treat these multi-unit properties the same way they treat single family homes.
These smaller multi-unit buildings can still possibly be sold to owner occupants. So the market for these properties is a little stronger than it is for others. They can often be sold to someone like me perhaps. When I was beginning my investing career, I wanted to generate some extra income so I bought a duplex and lived in one side while I rented out the other.
Apartment Buildings – Apartment buildings are properties that contain five units or more. These types of properties can really be income producers. However, they can also be real drains if they are mismanaged.
Management of these types of properties has to be strong or they can quickly get out of hand. Tenant issues and faulty maintenance can quickly add up to a negative cash flow situation. You might think you can hand this type of property over to a property management company. But if you do not know how to manage your property or manage the property management company, you will end up on the short end of the stick every time.
Financing these properties is also much harder. Say goodbye to 30 year loans that you can get with the above properties. To purchase these types of investments, you will most likely need to go to a local bank and get an officer’s line of credit or commercial loan. These loans have significantly higher rates and much shorter terms. Often terms of 5 years or less. In this way they are very much like commercial or industrial properties.
Selling these properties is also much harder than with other types of residential investment properties. Think about it. Who is going to buy these types of properties? Certainly not a retail buyer, but another investor who is going to be looking at the same cash flow numbers you were when you bought the property. In other words that investor will be looking for a deal just like you were.
What should you buy if you are just starting out?
I would suggest starting with a duplex, triplex or four-plex. You can generally get decent, long term financing. They will produce income with multiple units as opposed to sitting vacant. The resale market is fairly good for these types of properties. These three factors help reduce the risk for you first time investors. If these types of properties are not available where you live, then go for single-family homes in stable neighborhoods for many of the same reasons. Whatever you decide to do, do get into real estate investing today. Make it a goal to buy one or two investment properties this year. The combination of low prices and low rate may not be seen again for a long, long time.
