Real estate investing (REI) can be a goldmine and fuel the lifestyle of one’s dreams. If done the wrong way, however, it can also bankrupt people.
There are many factors that will determine whether or not your investment is successful. As with any “high risk, high reward” venture, before making any big moves in REI, you have to do your homework and learn the ins and outs of the business.
Below are some of the fundamentals of REI. You probably already know many of these things, but a reminder never hurts; if you don’t follow them, you run the risk of failure instead of success.
Know what you can afford.
First and foremost, it’s imperative to know what you can afford—both in money and in time. Overspending on a property or investing in a time-consuming fixer-upper is a surefire way to cut into your potential profit. Utilize the Maximum Allowable Offer (MAO) formula (more on this below) to quickly crunch numbers and learn the exact amount that you can invest and still see a return.
Stick to the MAO formula.
The MAO formula is a popular way for investors to determine the maximum amount that they can spend on a property and still see a return on their investment. To calculate the MAO, take the after repair value (ARV), multiply by 65-70 percent (depending on if you’re working with a hard money lender or using your own money), and subtract the total cost of repairs.
Choose the right team.
You don’t just invest in a property—you also invest in the team that you choose to work with. From agents to contractors and hard money lenders, make sure you read reviews, check references, and ultimately work only with reputable people who you know you can trust. This usually becomes easier over time as you begin to establish ongoing working relationships with different contractors and lenders in your area.
Wait for the right deal.
It’s common knowledge that you make your money when you buy—so it pays off, quite literally, to wait for the right deal! Don’t rush out and invest in the first semi-decent deal you can find. That said, when you do find one that’s ideal, don’t miss out: Pull the trigger! In REI, timing is everything.
Don’t over- or under-renovate.
To avoid over or under-renovating an investment property, it’s critical that you know your market. Investors should aim to renovate to the level of local market conditions, as each neighborhood is different. For example, some areas demand features like granite countertops, whereas in other neighborhoods granite would not be a worthwhile investment.
Steer clear of bad financing.
Buyers beware—bad financing can rob you of your profit. What is considered bad financing? Loans with high or adjustable interest rates, a high monthly payment, balloon payments (large payments due at the end of the loan term), and personal recourse are examples of financing to avoid.
Avoid picking a bad location.
Location, location, location—real estate value all begins with where you invest. Picking an area with little investor activity may seem like you have found a diamond in the rough, but it more likely means that rehabs are not selling well in that area. To maximize your potential profit and avoid getting stuck with a home in an area that doesn’t appeal to buyers, make sure you research neighborhoods and see how quickly comparable homes are selling nearby.