Beware! Appreciation Can Kill… «

Beware! Appreciation Can Kill…

…if it’s negative or flat like today’s market. So many investors these days are getting burned by the appreciation monster. That was the driving force behind me starting I get so sick of reading other sites that have old, out-of-date real estate investing information. I only focus on strategies that work in the CURRENT market.

As you know, the nationwide real estate market is in a period of transition. This transition is rendering some real estate investing strategies useless. For example, the old buy-at-any-price-because-it-will-be-worth-20%-more-in-year is blowing up in people’s faces! Now you have to be smarter about your investing. You have to remove the idea of appreciation from the equation. You REALLY have to buy right these days.

Many people out there that consider themselves savvy real estate investors are finding that maybe they didn’t know as much as they thought when appreciation levels off and they have no positive cash-flow. This is especially true in impossible-to-cash-flow states like California.

I know of one guy that was buying every property that had a sign in the yard. He did great, for two years. Now he has lost almost all the money he made and is sitting on a bunch of properties that he can’t sell and has a NEGATIVE cash-flow of $10,000 every month! So much for buying right.

So, what works now? Simple, old-fashioned buying at a discount. If you buy a house at 70% of current market ARV (After Repaired Value for the uninitiated) it’s really, really hard to not make money. At that level you have many options open to you. You aren’t stuck with just one.

If you buy right you really do, as the old saying goes, “make money when you buy”. Buying right really is like buying an insurance policy on profits. If you buy at a discount you give yourself breathing room and what I call a “fire sale exit” opportunity. This just means that you can dump the property fast if you have some sort of emergency come up and you won’t get hurt.

Think about it this way. Say you find a house worth $200,000 that you can get for $125,000. Let’s say that after some rehab you have $140,000 in the property. (This could easily be done with no money out of your pocket by the way.) Now you are at 70% ARV. Now what?

Well, because you bought it right you have many strategies to choose from. You could rent it out and have some positive cash flow coming in. With that strategy you can expect to average about $200-$300 positive cash flow even if you hire a management company to handle all the tenant headaches. This is a decent strategy because of the positive cash flow but being a landlord is not the most exciting thing in the world to do. Some of you are smiling about that sentence! 🙂

You could also just flip or wholesale it. This simply means that you mark it up a bit ($5k-$10k) and sell it to another investor. This is great if you are just starting out or you are in need of some quick cash. Some people make whole careers out of this strategy alone. The only real downside is that you don’t make the big money that the buy-and-hold investor does.

You could also do a lease/option strategy for a tenant. This involves basically the same thing as the rental strategy except that you give the concept of home ownership to your tenant. You usually get a large (3-5%), non-refundable down payment from the tenant and you get much higher positive cash flow each month. This is because you will typically mark up the property to 105% of the market value. This locks in your appreciation and profit and also can be very good for the tenant if the market does appreciate decently.

This strategy is a WIN-WIN. You get positive cash flow, a nice upfront down payment, and a locked in price. The tenant gets a chance to buy a home even if they have bad credit and they can benefit from the locked in price on the option to buy of the market does appreciate. Now that the tenant has the sense of home ownership, many, if not all, of the landlord headaches disappear. I like this strategy most of all in case you can’t tell. 🙂

One thing I do additionally is to get the lease/option tenant into a credit repair program and some financial literacy classes. I have an in-house education director that handles all that for me but you can do the same by checking out your local community college and by going to Lexington Law Firm for a great credit repair program.

These programs are cheap to implement and you should pay for the whole cost out of your pocket. This not only is a great way to help people but will also COMPLETELY prepare the tenant to exercise their option to buy at the end of the lease term. You will be their hero believe me!

This all sounds great right? The reason it sounds great is that buying right is the ONLY way to ever invest in real estate. Don’t EVER count on appreciation to make money for you in real estate. Consider it icing on the cake if it does happen. If you treat all your real estate investing this way you will do very, very well in any economy.


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