Real Estate investing can be a great vehicle to use for people who want to build passive income and have extra cash flow, and although the process can be simple, it shouldn’t be considered easy. There’s a level of knowledge, experience, due diligence, and hard work that will contribute to your success. While there may be many methods of investing, some techniques do work better than others, and there are certainly mistakes that can happen if one is not careful.
Below are the 5 costliest mistakes that all Real Estate investors should be aware of:
1) Investing Not Based On Economic Fundamentals
Investors who don’t do their due diligence before purchasing a property could be in for a series of problems and issues that could have been avoided. A surgeon without proper training wouldn’t be qualified to do surgery, and in Real Estate the same concept applies. There are many people who will try to be investors without educating themselves, without doing their homework or research – which will significantly increase their financial risk. Even though it seems like investors move quickly on deals, they don’t do it without plenty of thorough research, beforehand. Be diligent about the deal, consider costs and market conditions, and also location and tenant profiles. If you’re going to invest, be smart about it and have information to support why a property would be a good investment, find out how likely it will appreciate in value, don’t just assume that all properties will appreciate without any evidence to substantiate that belief.
There are many good resources available to you if you’re willing to put in the effort to search for them. Numerous articles, books, seminars and online websites will provide you with information, and of course there’s always the option of finding a mentor who can coach you – someone who has experience and knowledge, as well as a proven track record, in the area of Real Estate investing. Why waste your time making all your own mistakes and learning from them when you can skip over that step and learn from the mistakes of others instead? If you find someone who’s been successful in this area, who’s reached the goal that you yourself are trying to reach, and is willing to teach you, then open your mind to being coachable.
Research extends beyond the property itself. When you purchase Real Estate, remember that you’re not just buying the property or land, but the entire neighbourhood and city. If I were purchasing a home, I wouldn’t look at just the house itself, but the surrounding area to make sure it’s a good location. I’d take into account what the neighbourhood and neighbours are like, possibly how easy it would be to travel to places like work, the bank, and the store, etc. If I were going to live there, more than just the house itself would need to be suitable to my needs. In the case of purchasing a rental property, your tenants will consider these similar parameter as well, so make sure that the area is just as desirable as the property.
Reflect on the longevity of the city or town that you purchase in. For example, in a smaller town that’s mainly occupied with renters and dependent on a certain type of business or industry, consider the life span of that business/industry. Once it’s complete, will most people move on? That’s something that you need to be prepared for. However, a small town may also have the potential to grow if businesses are planning to expand into the area. These will bring a lot of economic stimulus, brand new transportation systems and other infrastructure, and, most importantly, skilled workers and their families moving to or around the area to rent your properties.
Remember that investing is like a business and that tenants are like your customers. Without good loyal customers, your business wouldn’t flow as smoothly, nor be as successful. It’s advisable to screen tenants properly and find those who are qualified and reliable. It’s not the most productive use of your time having to deal with troublesome tenants consistently, or having to find new tenants constantly. It’s absolutely critical to do your due diligence on the market, city, property, and tenants before buying or renting and have the facts to backup your plan to ensure that your business will flourish. Remember, you are not just buying the property; you’re buying the neighbourhood and city as well.
2) Failing to walk away from a deal if the deal isn’t strictly within your investment parameters
Most people tend to look at Real Estate as transactions instead of an investment strategy, so there’s a lack of planning beforehand. They think they can plan as they go. However, you should treat investing as a business, and like any good business, you need to have a plan to know what your goals are, what your parameters are, and how you’re going to achieve those goals – otherwise you’re just investing based on a ‘good deal’ and don’t have any clue as to what to do with it afterwards. Don’t skip that initial step of formulating your plan! It’s much easier to find a property to match your plan when you have that clearly defined, rather than buying a property and then trying to fit a strategy around it.
If you treat Real Estate as a business, you can work on more than one deal at a time. By increasing your volume and having a steady stream of prospects in your pipeline, you’ll start to separate the marginal deals from the good ones that actually fit with your plan. The trick is to have lots of activity and make offers on multiple properties so you won’t be caught up in a marginal deal, which can be a time waster and just mean more expenses that ultimately won’t contribute to your strategy. If you find that you are developing an emotional attachment to a property (“…but it looks so pretty and it feels just like home…”), back away slightly and analyze the deal more objectively to make sure it truly works in your favour. Remember, you are most likely never going to live there anyways.
While you’re making your plan, be sure to calculate your numbers with a buffer in case any unexpected expenses should arise. For example, if you’re planning to renovate a property, after you’ve done your homework on the costs, try doubling the amount of time and money you think it will take and see if you’ll still be profitable then. You don’t want to be hemorrhaging your time or money on an investment that may become more of a liability than an asset. However, once you’ve set up your plan and figured out all your parameters and budgets, make sure you do an accurate analysis towards each deal. Again, you’ll want to do your due diligence and compare them to your criteria; only follow-through with your plan if everything matches up.
In the case that you do find yourself caught in a less than ideal situation, plan for several exit strategies to get out of a deal or at least make the best out of the situation. Should you try to sell for a profit or rent out for cash flow? If plan A is to renovate and resell, plan B may be to hold and rent or lease, while plan C may be to lease with the option to buy. Also, there’s always the wholesale option plan, which is selling to another investor slightly below the market price, which might mean you’ll break-even, have a small profit (hopefully), but at the very least you’ll cut the losses you’d be taking in monthly through carrying costs and expenses.
3) Returns based on future/potential income and not present income
One of the major pitfalls is deluding ourselves into thinking that we’ll “get rich quick” based on what some Real Estate “gurus” have said. They make it sound easy, but we need to remember that although Real Estate investing may be a simple concept, it’s not necessarily smooth sailing; it takes hard work, diligent research and understanding of risk tolerance, especially in the beginning. Realize that there’s initially a learning curve, and after consolidating all the research and advice you get from others, use that knowledge to make smart choices that will help you succeed.
As mentioned earlier, having a plan is advisable and creating budget estimates is a crucial part of that plan. If your strategy is to rent or lease out property for cash flow, it’s normal to anticipate that this projected cash flow will cover maintenance and expenses, but you need to take into account that it’s not uncommon for properties to be vacant for a period of time before it’s leased or rented, and that you as the owner will have to cover the costs of the mortgage, taxes, utilities and insurance during this period. Therefore, it’s extremely important to make sure you can afford these expenses based on your current income; otherwise your asset can quickly become a liability.
A good property manager or management company can be very helpful especially since they have the time, knowledge and experience to oversee your investments. However, some managers may be more reluctant to manage just a single-family home or duplex, but they may help you manage your portfolio of properties collectively instead. Remember to keep in mind that larger complexes will mean higher fees as well, and those can be pretty large expenses, so make sure to plan a few steps ahead so that you have options available, just like a game of chess.
When you’re thinking about the resale and renovation of a property, you need to consider if the marketing and changes are going to be targeting a specific group of people, or if it will appeal to a wider audience. Part of your due diligence for any planning and deal analysis is to figure out these specifics ahead of time and anticipate the costs and market conditions to reduce the risk of draining your own personal savings, which could come in the form of unexpected repairs, property maintenance, and other expenses incurred if it’s vacant or not sellable. As market appreciation isn’t a guarantee, plan for alternative exit strategies whenever possible in case things don’t work out exactly as planned.
4) Failing to employ the right strategies in negotiating the best price for a property
Whether you’re looking to gain cash flow or equity from a property, you’ll need to negotiate a profitable price. The profit is established ONCE an investor buys the property; so if you’re paying too much for it, don’t be surprised that it won’t make any or much money afterwards. Also, beware of deals that may sound too good to be true, analyze all the facts and really scrutinize why it may be such a steal. Take into account the timing of the market for the location you’re at, whether it’s a buyer’s or seller’s market, how many listings are available and what the seller’s motivations are – all of which will help you negotiate a reasonable price.
All of the initial analysis should be as accurate as possible so that you don’t misjudge your estimates – if you’re weaker in that area, don’t hesitate to seek professional help. You don’t have to be a lone ranger. A key to success is to build your team of professionals; you can’t expect to be the most knowledgeable in every aspect of Real Estate investing. Wouldn’t it be smarter to leverage a small percentage of knowledge, time and effort from a number of people rather than a hundred percent of your own time and effort to learn and do everything yourself? Consider that the advice from someone who’s experienced, such as a mentor, can really help to coach you on these matters of negotiation. They can teach you how to get the best deals and what to look out for, regard all the factors that will make a property and location more or less desirable, which could have a great impact on your resale value for the future.
There are different strategies and things to be aware of when trying to negotiate the best price, but make sure they are appropriate for the situation. First off, are you negotiating with someone who actually wants to negotiate, who has a real motivation to sell? If you’re just dealing with someone who isn’t highly motivated, that can often be a big waste of time. You want to deal with someone who’s really motivated to sell the property. If you’re motivated to buy, but the other party isn’t willing to come to an agreement on your terms, you may need to get creative with your strategies then.
Simply keeping in touch with a prospective seller can be a negotiation strategy. The key to this strategy is to keep a good relationship. If you’re persistent in expressing your interest to buy, they can eventually become motivated and you may get the deal with little to no competition from other buyers. Make sure to ask lots of questions and really learn what the other person’s motivation is to sell the property, as this information can be leveraged during negotiation since you can use it to find a solution together and produce a win-win scenario, something that benefits you but also helps them out.
Another vital piece of information before starting negotiations is to find out how much someone initially bought the property for to see how much room you have for negotiation. It may be possible to determine the price through public records or the local MLS (multiple listing service) records. If the seller is asking for something close to their initial purchase price, you’ll have much less room for negotiation without them taking a loss, but if the property has increased in value and they are asking for something much higher, you can then feel out how much room there is to bargain with. It may be best to use the current marketplace as your anchor price, and offer higher or lower than the list price depending on the timing of the market. It can be counter-productive to offer too low as a seller can automatically reject this and this could set an emotionally negative tone and cause them to not wanting to deal with you anymore. It’s much more effective to use a co-operative approach rather than a combative approach, as you’ll want to preserve the relationship and not have the seller on the defensive from the start.
Having a level of trust is also extremely valuable, as people will tend to respond more cooperatively to integrity and respectful treatment. Contract negotiation is already a stressful and sensitive area, and people may tend to have unpleasant connotations, but developing rapport will help to increase your success. Sometimes there may be instances where sellers will select contracts based on personal reasons, so if you’re complimentary of the property, respond to counter offers within a reasonable time, and find some common ground, these may be subtle but powerful tools of persuasion, especially in competitive situations with multiple offers. As a seller, you don’t want to alienate or create a level of distrust from your buyers by disclosing the terms and offers of other interested parties, however the procedure to notify each party that there have been multiple offers is acceptable. Usually this will allow each party to adjust their offers, and you may accept the best one, or counter it.
5) Failing to sell a property into a buyer’s market
Just like the weather, the market isn’t the same across an entire country – It differs from location to location. Where it may be more of a seller’s market in one area, in another it can be a buyer’s market. It’s certainly easier and more beneficial to sell during a seller’s market, however that’s not always going to be the case, so you need to prepare yourself properly in a buyer’s market as well. As there will be countless competition to sell during a buyer’s market, there may be some things you can do to help increase your chances of success. As a seller, it’s important to research comparable sale prices in the neighbourhood, try to place your price somewhere in the middle unless there’s something extra unique to offer. You want to set the right tone from the beginning rather than having priced it too high and then reduce it afterwards, as buyers may interpret that as an indication of something wrong with the property.
Even though it may not be the ideal time to sell during a buyer’s market, and you may be debating how risky it is, there will still be people selling and people looking to buy, and as long as you know who your audience is and what appeals to them, you can cater your marketing towards that. Take a look into the current buyer demographic and consider the circumstances of why they may be buying, determine how you can market your property towards fulfilling their needs. Are their young families with growing children who will need to upgrade their homes, is there an increase in employment to an area that will cause people to relocate, or is there in-migration to the area? Sometimes it’s even young first time buyers or couples that have been renting for years, and they’re just seizing the chance to buy affordable property.
During a seller’s market, people are less likely to buy the homes that they want, so they may have rented instead. However, after a certain period of time, they just don’t want to keep their lives on hold anymore, and they’ve reached that point where they want to start owning their own homes. During this active time, interest rates may be lower as well so it’s a good time to lock into fixed-rate mortgages. As different types of buyers emerge, certain types of properties may be more popular than others, but generally when the markets are down, basic traditional sorts of houses will be more appealing rather than something flashy.
However, there are three essential factors to marketing your property to prospective buyers, and they are location, price and presentation.
Although you may have little influence over the location, pricing and presentation are something that you can definitely control. With the amount of information available to people now, there are many well-informed buyers who aren’t as willing to compromise, if they feel that a property is overpriced they may not even look at it. If there’s a lack of interest in the property, perhaps you need to adjust your pricing. Also, keep in mind that while some prospective buyers may come to look at your property, they’re not exactly looking at your house, but trying to see if they can picture their potential future, so they need to cross that psychological barrier and feel as though this is really their home.
If you are getting interest in viewing your property, but lacking offers, the issue may be the presentation of the property. Spend a little time, money and effort to make the property as attractive and appealing as possible to rise above the crowd. Again, you need to know your audience in order to decorate and present it a certain way, but neutralising everything is generally appealing to the masses. Having lighter colours and less clutter can really make a space feel larger, and take into account that cleanliness will also influence people. Even something as small as replacing bed linens with something ironed, plain and white can make a space look neat.
Try viewing properties objectively and from the prospective of the buyer when making enhancements, remember, you only have one chance to give them a good first impression. A great place to start is with the front exterior and entryway. Design and stage it in the most appealing way to increase your potential of selling and reduce the time the property stays on the market.
Overall, when you invest in Real Estate, you need to take a long-term approach and not treat it like it’s the stock market. There are countless resources online and offline to help educate you regarding this type of investing, so make sure you’re taking advantage of what’s available to you. With the myriad of virtual resources that can help you make a fair market analysis, make sure you determine which ones will be the most accurate and valuable as some will offer information freely, and others will be fee-based. While typically fee-based ones do offer more comprehensive information, never forget that sometimes asking a real estate professional can also be just as good. Happy Investing!
By Wendy Cheung