6 Reasons Why Investing in Real Estate is Still a Good Idea and other ideas
6 Reasons Why Investing in Real Estate is Still a Good Idea and other ideas
When you mention real estate investment in most areas of the country these days, all people talk about is how much value properties have lost. We became spoiled the last few years as the real estate values skyrocketed. We forgot the fundamental reasons of investing in property, long-term investment and equity building. We focused on the short-term value increases. Of course, no one wanted to face the fact that the increases couldn’t go on forever and eventually there would be a market correction. We certainly didn’t anticipate what has happened recently! Now the dust has settled…it is time to go back to the fundamentals. Except for unusual circumstances, real estate investment is a long-term investment strategy, not a get-rich-quick scheme. Here are six fundamental principles to take into consideration when looking at property investment.
Income generation: Except for the home you are living in, when purchasing property you are looking for someone to rent or lease the property. The rental payments you receive are income that you then use to pay the mortgage and associated expenses for that property. Ideally, the rent you receive from a piece of property will cover all your expenses and have extra left over.
2. Equity build-up: As you receive rent payments from your tenants and pay the mortgage, a portion of each payment goes to interest on the loan and the rest goes to paying down the principle of the loan. By paying down the principle, you are building equity. That means you are increasing the amount of the property that you “own.”
3. Tax advantages: Your rental property is considered a business. Therefore you can take business tax deductions associated with the property.
For example, depreciation. The IRS allows an owner to depreciate buildings over time, and a good accountant will be able to help you take advantage of this law. Your accountant will also be able to show you other tax deductions you will be able to use in your rental business.
4. Leverage: You can have control of a piece of property without having to pay for the entire property upfront. You do this by using OPM – Other People’s Money. OPM allows you to leverage your investment and use the income generated to pay off the mortgage and gain equity. You will make much more on your money by leveraging your investment than if you owned the property outright. A drawback to this is the higher level of risk some people are not comfortable with.
5. Local Markets: Residential units, either single or multi-family, are bought and sold in every city and town around the world. You will never run out of possibilities. The key is to do your research for the area(s) in which you want to invest. Learn everything you can before you start investing, and don’t be afraid to talk to people who have knowledge about the area.
6. Buying Below Market Value: Now is a great time to find properties that are being offered below their market value. Unfortunately, the lending practices of the last few years have put people in a difficult situation, forcing them to sell their house below market value. Other reasons include job transfers, divorce, job loss, or change in financial condition. You may feel that you are taking advantage of people in a difficult situation, but if you are fair and equitable in your dealings with them, you will actually be helping them get out of a bad situation.
The six elements listed above are the foundation of most long-term real estate investors. There are great deals to be had for someone who is serious and is willing to do the work involved.
No two deals are the same, that’s for sure! Every rehab itself is different with different problems to solve. So, in describing a typical deal, I’m referring to the spread involved. The spread is the different between what I can buy the house for, and what it’s value will be when it’s brought back up to standards.
The next big question is, “What will the rehab going to cost.”
For instance, if a property in my market has a $25,000 spread between what I can buy it for and what I can sell it for (the as-repaired appraised value), it’s a “maybe” in my book depending on how much rehab it needs. If it needs much, I would probably pass unless some external factor makes it a good buy, like the neighborhood. In other words, if it needs much rehab, I’d have to be convinced enough to put some of my own money into it.
I typically look for houses with a $30,000 spread or better. You have to decide for yourself, based on values in your area and what is the minimum you want to make, what spread you’ll be happy with.
So, what is a rehab real estate investor’s “homerun? ”
Homeruns occur at the outer edge of what is typical. My homerun deals have occurred one of several ways.
– The spread is stellar. Let’s say the spread is $45,000 and the rehab is a manageable $5-10,000.
– The spread is good, but the rehab is very light. Wham-bam, I’m looking for tenants within days of closing.
– The cost is exceptionally low for a given area. Sometimes the spread on paper will not be anything to get excited about, but the property has a huge lot, extra bedrooms, or is located an area that is in serious demand.
– There is NO rehab, and the spread is sufficient that I can buy it with none of my own money.
True story – I’ve only had one NO rehab deal. Wow. This house had been recently rehabbed, clean and didn’t need a thing! This was a homerun just due to the ease at which I added this property to my inventory! The spread wasn’t great, in fact, I had a local hard money lender make up a story about being out of money because he thought the spread was too narrow and didn’t want to lend on it. He wrongly assumed there was a significant rehab. (Being straight up with me was too hard, I guess.) I consider this a homerun because I bought this property, changed the locks, put out a sign and had it rented within two weeks. Mind you this is a beautiful well-built brick/block home in a great neighborhood. Cost to me…nothing. This house has one of my best cash flows month-to-month.
The point here is to give you an idea of what kinds of homeruns rehab real estate investors look for. But, here is a key point…
It’s truly NOT worth my time, or yours, to wait around for the homeruns. I firmly believe that these kinds of homerun deals come about by being an active investor. Rehabbers that keep 1-2 projects going at all times, get calls from wholesaler with great deals. Personally, I make the best buying decisions decisions with what I have among the properties brought to me when I am in my “buy mode.” Some of these turn out to be homeruns, some don’t.
If I waited around for only the homeruns:
– I would waste precious learning time. Since there is no substitute for experience, I want all I can get!
– I would lose money over the long run as a buy-and-hold investor. If I’m buying and rehabbing with little or none of my own money anyway, it doesn’t make sense to wait around for homeruns if I can add properties to my inventory that fits my investment criteria. If you’re in the buy and hold business, the important thing is how much property can be controlled with as little money as possible.
Question: Is it better to have $1,000,000 worth of property appreciating or $200,000?
Hitting a homerun in rehab real estate, and anything else, requires these two ingredients:
– You’ve GOT to be “in the game.” By this I mean you have to have prepared in advance for your turn at bat. In the rehab business, this means you have enough knowledge to get started, you have a decided investment criteria, you have your money source lined up, and you are looking for property.
– You are “swinging.” In the rehab business, this mean you are buying property, rehabbing, learning and turning. It’s not enough to merely stay on the sidelines.
Let me say that again…
IT’S NOT ENOUGH TO MERELY STAY ON THE SIDELINES.