I am often asked; “what is one of the most important things to do before investing in real estate.” My answer has always been the same. And that is to be properly prepared before making any offers on properties. While real estate investing can be very rewarding, for the unprepared, it can be very risky as well.
Here are eight tips on what to be aware of before investing in any properties, especially if they are going to be properties you plan to quickly sell and not hold for a long period of time. Remember the quick turn real estate market doesn’t allow the investor the advantage of time for the properties to increase in value. Buying and selling in a three to six month period requires precise market data.
Here are some of the things to avoid and the areas that can make an investment a nightmare without the right preparation.
1. Do Not Over Pay.
The first thing many unprepared investors do is pay too much for the property. This happens when an investor doesn’t do his or her homework on what similar properties in the immediate area have sold for recently. If someone hands you some comps and says something like “see, all the houses that have sold recently for $325,000? Yours should sell for the same amount or higher”. This is the kiss of death if you just accept it without going through each one very carefully.
It is up to you to evaluate what the person has given you. It is up to you to ask questions like, this one sold for $325,000 but has a driveway and garage and the one I’m looking at is an attached house with no driveway and garage. Or these are 3 and 4 bedroom houses where mine is 2 with a room up stairs with slope ceilings and no closet or heat. Even though someone may use it as a bedroom, do I compare that with a legal 3 bedroom? I think not.
Another thing is you must be able to negotiate the price of the house to where you are comfortable buying it. Don’t let anyone talk you into paying more just because the seller will not come down on their price. Let someone else make the mistake of overpaying. Don’t worry and go on to another deal that makes you comfortable.
2. Buy In Good Neighborhood
A second mistake many newbie investors make is buying houses in a less desirable neighborhood. One of the reasons they do this is because the price is more in their range of investment. This is not a good reason to buy a house. You don’t have to be in the best neighborhood but certainly in a neighborhood that has a family atmosphere and evidence of homeowners keeping their property in nice clean condition. There are plenty of houses in bad neighborhoods that you can buy cheap. But a cheap house in a bad neighborhood spells “agaita”. That’s Italian for aggravation and headache. Pass on these houses as well.
3. Factor All Your Costs
A third area to be very careful when investing is making sure you factor in all the costs involved in purchasing and fixing the house as well as the holding costs and closing costs on both sides of the transaction. Let’s discuss a few of the costs that come up when investing. Some of us tend to forget about a few of them.
Appraisals, when you need an extra unbiased opinion on your after repaired selling price. Inspections reports when you think there could be problems with the house or just want a trained eye to give you a full report, which I always suggest for newbies. Financing costs if you are borrowing money. And if there are points on the loan, figure that in as well. Closing costs including realty transfer tax. On higher priced houses this could be many thousands of dollars.
Then we have the rehab estimate. You must get two or three estimates to make sure you weren’t quoted a low price by one contractor to get the job only to try to increase his price once started because he left some things out and didn’t charge for them. Yes, unfortunately this happens. So by getting two or three estimates, you will see if there is a large spread between the prices or are they fairly close to each other. When all finished with what you think it will cost, you might want to add about 10% for what you missed. And yes again, it does almost always happen!
4. Negotiate Your Terms
The fourth area to be concerned with is not negotiating the best terms with the seller if you are not paying cash for the house. You never will make any repairs on the house while the sellers are living in the house or if they still own the house. If you are paying the back owed payments to the bank to bring a foreclosure current and taking the house subject to the existing mortgage, get the house in your name, get them to leave the house and then start any repairs. I’ve seen investors pay the back payments, give the seller some money and low and behold, the sellers decided to keep the house and guess what? Yep, not give the investor back any money. So always get the best terms, which will be your terms, or pass on the deal.
5. Having Your Financing In Place
The fifth area is not having your financing in place before making the offer. If you are required to put down a deposit and can’t get the financing, unless you have a contingency clause which states that your contract is subject to you obtaining the funding you will lose your deposit. I’ve seen this happen many times with investors making offers on bank owned properties. And with bank owned properties, they don’t let you make your offer contingent upon getting the funding. Actually, they don’t give contingencies period! It’s buy it cash, as-is condition, and on time! Yes if you don’t close on their date, they actually keep your deposit and have no hard feelings about it either. And bank owned properties usually require a substantial deposit of three, five or ten thousand dollars. So be very careful here.
6. Having An Exit Strategy
The sixth area I see very often is right up there with the number one area of over paying for properties. And that is not having an exit strategy. Having an exit strategy almost ensures how much profit you will make. You should know if the property will be fixed up for rental or fixed up for resale to a homeowner. You can do a lot less work on houses that will be for rental than if you are selling to a new homeowner. Don’t get the two confused or you will have potential buyers walking out and never buying.
7. Education And Knowing Your Investing Area
The seventh area should be a no brainer. Get educated on the type of investing you will be doing. If you are buying and holding, know your rental market and what the market rental prices are in your area. Don’t think by adding a high priced toilet and whirlpool tub that you will get more rent than the market prices. Or should you always put in a washer/dryer or even a dishwasher in the rental unit. Here again it depends on the area. I’ve put these in rehab houses I’ve done only to have the new landlord take it out! Why? Because the landlord pays for water and since both use water it’s an expense to the landlord, or the landlord doesn’t want another liability on the second or third floor from a washing machine hose busting loose to flood all three floors. Now on higher end units, it just may be not only a nice feature, but a necessity to justify the rent. But here again, you need to be educated in this area.
If you are flipping properties, learn how to evaluate the deal so as to always make a profit. That is knowing how to buy it at the right price, having the rehab costs nailed down (no pun intended) and know what your lowest selling price can be while still making a nice profit.
So read, study, read some more, study some more, ask questions, double check with the professionals on your team, see what other successful investors have done and don’t try to carve your own path. Follow the successful path others have taken.
8. Don’t Get In Over Your Head
One last thing. Don’t get over leveraged. If you have good credit and a few bucks, don’t go on a buying spree buying properties just because you can. Believe it or not, it does happen as I get many calls from investors where this has happened to them. If you are buying a rental property, try to be certain the area will attract the type of tenants you want. This happens when investors go out of state to invest because, again, it’s cheaper than here on the northeast. Don’t get me wrong, there are plenty of investors who do this but they are a little more experienced and are able to travel and watch their properties. But I would still recommend investing in your area so you can keep an eye on things.
If you are buying rehab properties, you will also need to be careful of not buying more than you can handle. Remember the holding costs continue to add up each day on each house that is not sold. If you can handle a few, fine. If not, don’t give yourself unneeded “agaita”. (Italian for stomach ache).