Golden Rules for Beginners in Real Estate Investing
Making your first real estate purchase for investment and profit can be a great thing. The problem is that you need a real estate coach and some guidance to make all the right decisions. This guide gives some hard and fast rules to virtually guarantee profits and success. There are some rules that may surprise you. Most real estate professionals are there for the commissions and do not specialize in the actual investments. The author has been very successful both as a broker AND as an investor. He gave away his brokerage (making a small percentage of the sale price) in favor of making 100% of the profit as the investor. With a 100% "SOLD" success record that includes profits 99% of the time, his resulting rules are sometimes the reverse of popular opinion. His simple mathmatical samples show the way to net typical profits of 30% in a sellers market OR a buyers market! These rules keep you away from costly mistakes and emotional decisions, to reach your goals. Live and learn in your first investment home, as you step up to more profits with less risk.
1. Buy Local
- It is imperative that you buy locally. This ensures that you are familiar with the environment, traffic, proposed changes affecting the neighborhood, sales patterns, area quirks, politics, problems, number of children in the area, ethnic diversity, conflicts, lawsuits, schools, shopping, freeway access, churches, parks, upward (or downward) trends.
2. Buy the Cheapest House in the Neighborhood
- It is best to buy the lowest priced property (at an additional discount) in any neighborhood. Almost all potential buyers want to live in affluent neighborhoods when their budget dictates otherwise.
- Do not buy a 900K home for a 50% discount in a 300K area. I would be very happy to buy a 300K home for 350K in a 900K neighborhood.
3. Establish True Value
- Most real estate agents are satisfied with three comparables. Appraisals usually include three comparables to support their estimates of fair value. The most common comps are those that emphasize similarity of the house structure and style, rather than location. Also, comps must be "recent" (not too far back in years of sales activity) and must actually have been successfully sold.
- Many appraisers will use comps from different neighborhoods, far from the subject property, in order to be as "similar" as possible to the property in question.
- Factors such as (a) different square footage, (b) pool, (c) garage, (d) solar, (e) two-story vs one-story are reasons for using (more) similar comps from outside the local neighborhood. FYI...The appraiser may not know about potential sales (or expired listings) if they were "FSBO" (For Sale By Owner).
- Be sure to require twenty comps, rather than accepting faith in three. If twenty comps are not available, then just go back year-by-year in the same neighborhood, adjusting for differences in square footage, pools, garages, outrageous listings that expire, FSBOs, and yearly appreciation. Twenty comps gives true accuracy and confidence that surpasses what typical "real estate professionals" and appraisers have to say about any specific property.
- My twenty comps also gives you documentation proof and purchasing support for any purchase offers and ultimately for later sale (resale) of that property. You might even use the data to convince an appraiser of the value when you resell it -- thereby making the appraiser try harder to validate your stated price. If you give the appraiser a copy of the resale contract, he also has more reason to agree with your stated value.
4. Get a "Hungry" Purchasing Agent
- Get a "hungry" real estate agent to locate your comps; one that is aggressive and will work hard for you. Find someone with an optimistic personality and sales ability and good language skills. Experience and years of service are not always key... hungry is the answer.
- To be successful at getting the right agent, you need to interview ten or more agents to find a truly motivated (and able) person who is persistent enough to get accepted contracts. It is also important that you declare your intentions regarding (a) twenty comps and (b) the cheapest house, so that they understand your minimum requirements. You need to tell them that you are prepared to make an offer (or more) per day until you secure an acceptance. They need to agree that they can withstand having many offers rejected, yet "stay the course" until successful.
- One saying that I firmly believe is, "You may have to process ninety-nine 'NO!' responses before you get one 'YES!'" If in fact, someone agrees to your first offer, you may not have gotten the best deal possible.
- Be sure to tell the agent that:
A. Fixer-uppers are okay
B. Any floor plan is okay
C. Any style is okay
D. Any bad finance terms are okay
E. Anything regarding color is okay|
F. Built-ins/lack thereof are okay
G. Problem properties are okay
H. Closing and escrow can happen when they are ready
- Flexibility can make the deal happen. The key is to get the property cheap. Then get further reductions for repairs, financing, problems, late move-outs, holding time, property history, owners reputation, inflexibility of the seller, speed of closing, payoff dates of debts (fast cash), or requirements of the seller.
- Your offer of flexible close of escrow and occupancy can simplify negotiations for further discounts, payoff holdbacks, and rent payments.
5. Live In the Property
- These rules may apply to other types of property; however, in this instance, they are specifically discussed for residential properties. The key of this discussion is to understand that it is best to actually live in the first property you acquire.
- If this is your first real estate transaction, you are expected to have serious doubts about your potential for success. The fear that is associated with such a large purchase is natural. This fear will gradually be reduced with each successive purchase, but do not make a second purchase until you sell the first one and long after "Buyers Remorse" is a memory.
- Living in your first investment property eliminates much worry regarding damage to a vacant house, property management, holding time costs, and allows you to increase value by continuous repairs and improvements. A lived in appearance and aroma can have positive effects with a buyer.
6. Holding Costs
- Look at the average holding periods of other properties sold (twenty comps) and be sure to reduce your price offers according to the following example:
- Value of Property
- Hold Time
- Improvements and Repairs
- Sales Costs
- Selling Price
- Net profit
(10 months @ 3000 per month)
- In the above example, hold time of ten months at about 1% of purchase price per month is typical. Your area comps may be different, but 1% of value is a good standard rate per month. Now, if you are living in the property, you might argue that you do not have holding costs, but that's a bad argument. If it was vacant, you would have to clean, carpet, arrange movers, get utilities, expect vandalism, and undergo other unexpected expenses. After
that experience, you will never ignore holding cost estimates again. Besides, you are doing this as a "business" and the rules are your Business and Operations Management Philosophy. It is simply a business plan: ignore it and you will risk failure.
FYI: You may be able to reduce costs in all of the various estimated areas...
- For example: hold time may be small, repairs may be less expensive than expected, and maybe you can "trade" for improvements from friends and relatives.
- If you buy title insurance with a "resale provision," some companies only charge 10% of the second (your resale) title insurance fee. If you use the same escrow company, 50% of the resale escrow fee would be reasonable. You must get title and escrow discounts in writing prior to your purchase completion. If you are lucky enough to resell the property yourself, you have "earned" the (savings of) sales commissions. Another way to look at it is to realize you could have been earning income selling another house, or a car, or working, selling motor homes, with the same time and effort, and been "paid" a commission to do so. Do not think for one minute that selling your own house "saves a commission." That implies that you are willing to work for free.
- I don't recommend that you sell your own properties without a real estate agent. It is almost always easier to get a higher price and a faster sale, selling things that belong to someone else. People easily believe sales pitches from agents that provide a selection of properties, that can say negative, as well as positive things about various properties, thereby
taking pressure off of only having one property to sell.
- Agents are also in excellent negotiating posture to relate offers and counter offers, enticing alternative methods and compromises. Buyers and sellers without agents come to a finish quickly and have very little areas of negotiation.
- There is one exception to the need for a real estate agent, and that is if you are living in the property and do not care how long it takes to sell.
7. Repair and Improvements
- The best fixer-upper is the one you sell before you fix it up. I've seen many investors that refuse to show or sell their investment simply because they haven't done the work yet. They are determined to do the actual work, foregoing the same profits until a later date. If you do end up doing repairs and improvements, be sure to only work on areas that will improve value (sales price) at a 2 to 1 Return on Investment or more, such as:
- Return on Investment: 10 to 1 return
- Entrance Door, Doorbell
- Porch, Porch Light
- Entry Flowers, Steps
- Mailbox, Doormats, Entry Decor
- Return on Investment: 6 to 1 return
- Windows, Rear Entry
- Entry Walkway, Front of House
- Gate, Driveway, Garage Door
- Interior and Exterior Paint
- Return on Investment: 3 to 1 return
- Front Lawn, Front Fence Repairs
- Entry Tile
- Replace Worn Carpet, Kitchen Upgrades
- Improve Floor Tile
- Return on Investment:
1 to 1 return
- Rear Yard, Move Interior Walls
- Convert Garage to Living Area, Convert Patio
- Change Colors or Styles of Tile, Carpets, Kitchen Cabinets, and Patios
- LESS RETURN THAN YOUR COSTS
- Swimming Pool, Jacuzzi, Fountains, Closets, Barbecues
- Rear Landscaping, Fencing, Change Colors, Lawn Furniture
- Heaters, Air-Conditioning, Rear Fences, Intercoms, Screens
- Only repair or improve in neutral colors or earth tones. Many buyers already have colored furniture and accessories and may not like the colors you've chosen. Mixing colors of any kind with earth tones and shades of white are usually acceptable to the majority of buyers. They can resolve to make do and later to modify over time.
- Generally, emotions and first impressions will allow or restrict sales. Most purchase decisions are made by the time prospects are just inside the front door. Very few buyers change their minds from a negative first impression (that sometimes occurs in the first sixty seconds).
8. Get a Good Selling Agent
- Usually good purchasing agents (Rule #4) are not automatically good selling agents.
- The purchasing agent should be proficient at easily acquiring twenty comps, documenting potential properties and FSBOs, new properties on the market, potential foreclosures, potential listings, difficult sellers, unusual properties, desperate sellers, and crime properties. They are specifically "in a rut," doing many of the above things.
- Selling agents usually have a better knowledge of chain of title, escrow procedures, traditional financing requirements, appraisal procedures, zoning and governmental requirements, property taxes, earthquake and flood zone issues, truth-in-lending disclosures, open houses, and toured properties.
- It is highly recommended that you find an agent that has many of the above qualities, abilities, knowledge, and has motivation, and salesmanship.
- By way of these rules (#1 to #10), you can be reasonably assured that you will have success. While it may be difficult to find a "willing and able" agent, it is well worth the effort to interview many agents before committing to a single agent to perform this plan. Do not use more than one agent at a time for either buying or selling. They will trip over the same properties and will stop working with you.
- Many (certainly the majority) of agents are content to accept whatever "easy" business that comes their way. Usually, this means friends and neighbors and friends of neighbors. Almost all agents become either a "Listing Agent" or a "Buyers Agent," thereby getting into a pattern that narrows performance and opportunities. Most all agents are trained in traditional bank financing, and many cannot understand or participate in seller financing or creative financing. Many agents have such strong opinions, that they eliminate discussion of discounts, repairs, twenty comps, or flexible financing. Some even dismiss the idea flexible appointments and showings! Find someone else to earn all the commissions on your purchases and resales.
- You must find an agent to pursue your goals, your way, using these rules. When you find the right agent, they will ask you for a copy of these rules,
guaranteed! Hide this last statement and start interviewing agents and find out for yourself. Almost all agents will be profoundly enthused or dismayed by the rules. Very few will be non-committal.
9. Buy and Resell Mathematically
- The basic idea is to avoid emotional decisions; leave emotional decisions to others, keeping potential profits for yourself. This does not mean treating anyone unfairly. In fact, my motto is to treat others as you would have them treat you. Always imagine how you would feel in their position. Instead of limited options, present multiple options, making them (and you) even happier. I am happier when they are happier, and I am sure unhappiness is universal, as well.
- They may not be very happy if I simply offer a discounted price for their property, so purchase prices are negotiable. Following is an example:
The true property value below is determined by comps minus repairs: $300,000
| ||Offer #1||Offer #2||Offer #3||Offer #4||Offer #5|
|New Loans||All Cash||N/A||N/A||N/A||N/A|
|Owner Will Carry||0||50,000||75,000||90,000||110,000|
|Close of Escrow||Anytime||Anytime||Anytime||Anytime||Anytime|
- Note how much flexibility is available. In fact, too much! Keep in mind that your agent usually presents the offer to the owner and the owner's agent. It is best to offer number one initially and to suggest verbally that they counter offer with something like offers 2, 3, 4, or 5.
- The best time to make a profit on a real estate transaction is when you buy it. This is much better than waiting until the resale occurs. If you acquire the property at a significant discount, you make a profit going in, and can still make money going out. At the very least, you are getting somewhat of a guarantee that there will be an ultimate profit.
- MYTH #1: Buy, hold until value increases, then sell. While it may be true, you end up holding a property for a period of time.
AVOID HOLDING TIME! If you bought it for 85% of the true value, SELL IT NOW, hopefully for 110% of the true value.
- MYTH #2: Buy a fixer-upper; fix it; then sell it. You have allocated a budget for repairs and improvements and a period of time (hold costs) to finish your project. But, why wait? SELL IT NOW, and be happy to reduce the price by (almost?) the budget allocated. Get the same (or more) profit now...
- MYTH #3: Save money by repairing or selling yourself. Just because you have some skills to repair or make improvements yourself, or can get materials for free, or are a "Born Salesman," does not
change the value price of your offer, or price (wages) you are willing to work for. Would you rather be working "for free" on your repairs or get paid $85.00 per hour working on a real job?
- MYTH #4: Buy and then wait for gradual appreciation. Prices do not necessarily gradually change. They can instantly go down, such as when industry has a layoff, or a plant closes, an earthquake occurs, or a military base closes or is deployed for war. They can also go up instantly. Such is the case when the only three house in the neighborhood that were priced at: (a) $200,000 (b) $210,000 and (c) are not priced at (a) $210,000 (b) $220,000 and (c) $221,000. It is very possible that the sellers of (b) and (c) will increase their listing price when you make them aware of your listing price. At the very least, they may become much more firm on their price, now realizing that they are compare to you!
NOTE: The property (a) is the property you bought, then changed the price from being the cheapest to being the most expensive.
- MYTH #5: You cannot sell for higher than true value. Terms, flexibility, and emotions determine price. If all of the competition requires 60 day closes of escrow, and you will close quickly, you can usually sell at a 2% higher price. If all of them require new financing (and qualifying) and you don't, you can usually sell for 3% more. If you offer browns, whites, and neutral colors, and they have red or yellow or other bright colors, you can usually sell for an additional 2%.
- MYTH #6: The washer, dryer, and fridge affect the price. Always ask to include items like the washer, dryer, refrigerator, lawn mower, pool equipment, and patio furniture when buying. You can always give up that request during a counteroffer. Many times, they have no further need of those items and are burdened by their disposal, anyway. NEVER (initially) offer those items on the resale listing. Quite often, buyers already plan to buy those items or already have them. Find out, then offer to sell them with the deal or include the items, instead of lowering your price.
10. Be Flexible
- Flexibility includes close of escrow date, occupancy dates, interest rates, down payment amounts and payment dates, length of owner-carried balloon financing, structured principal payments, contingencies, the ability to refund deposits, and even the size of deposits. Be prepared to show credit reports, resume, asset lists, and/or references. Basically, be prepared to prove that you can complete the transaction and that you are a completely safe buyer that virtually eliminates any seller risk.
- Before you make any offers, have assurances that you have ready cash and are prepared to close escrow immediately. Be absolutely sure that you can keep future payments current for at least 12 months in advance. Be sure that you can get the repairs and improvements done within you budget. Have a few thousand dollars available for unexpected events or emergencies. Have more than one resource available for each repair. Do not expect to rent the
property! Remember one thing..."Renters are Reducers!" Repeat that to yourself as often as necessary. They reduce the quality of the property, the cleanliness, the appearance, the ability to show the property, and your chances to sell the property. Remember, you should be living in your first property. However, never rent your properties, unless you are prepared to hire a full time property manager and you have at least 16 units or commercial investments. Less units are simply an aggravation and more trouble than they are worth.