Many investors get excited about “deals” that are not “deals”! What they actually have is a lead, sometimes a bad lead, to which they are emotionally attached, then they want us to tell them how to make the deal work.
First of all, don’t get emotionally attached to a piece of real estate (unless you live in it). It’s just real estate and there’s plenty more where that came from. You must look at all deals from a business prospective. It’s not usually difficult to know if the property is a bad deal so here’s a checklist:
1. The numbers don’t add up. You must have a formula for buying. We use a “Deal Structure” calculator where we plug in the purchase price, all costs including renovations and monthly overhead, and calculate what we can pay to sell at a profit. If the numbers don’t work, they don’t work. Which leads me to red flag number two.
2. The sellers won’t give you their numbers. What they don’t know, you don’t know. You must be able to get all their real costs – true payoff numbers are a must. HOA fees can be outrageous. If you plan to resell, exorbitant homeowners fees can kill the deal. Taxes can vary greatly even between counties so don’t guess. And, are the taxes current? What other surprise liens may be against the property? You MUST know all the numbers to figure your purchase price and the numbers must be verified.
3. Location. If it’s bad, you can’t fix it. Remember, when you buy the house, you will not be moving it to a better spot. No, the neighborhood will not improve in the next few years. No, the mall that may be built will not add value. If it’s in a bad spot today, look for a property that’s not.
4. Condition. Even if the numbers work before you see the property, be prepared! You may be surprised by what you find upon inspection. Always have an inspector go through the property before you close. A trained eye has a better chance of finding mechanical and hidden problems that you may overlook. Better to spend $250 on an inspection and walk away from the “deal” than to save that money and have $15,000 in foundation and water issues that you missed when you walked through.
5. How long has it been for sale? Typically, good deals are gone quickly, often before they’re even listed on the open market. If it looks like a great deal but it’s been on the market for a long time, find out why. Is it in a flood zone? Is it no longer up to code and you will have to update before selling or putting in a tenant? Are there tremendous water issues that you can’t see because you’re in the middle of a drought? A great deal that’s still sitting on the market probably has a ghost you just don’t see.
6. Exit Strategies. You must have multiple ways to move a property after you’ve acquired it. Besides a retail sale, you also want to have the ability to lease it, rent it out, or owner finance it as a way to “sell” it once you own it. If you are trapped into selling on the retail market as your only exit strategy, a “deal” can rapidly become not-such-a-deal in this market where there are few qualified buyers and tons of discounted properties for them to choose from. If you must sell quickly, you need enough equity when you buy to be able to sell it at 20% below market value.
7. Never bet on the future. It has to be a deal today or it’s not a deal. The dot-com crash caught a lot of investors by surprise. The housing collapse caught a lot of property owners by surprise. Don’t try to guess what changes will occur and buy because you “just know” it’s going to work out in the future. No, you don’t know. It must have value, cash flow, and profit potential the day you close or you’re not buying a good deal.
How do you investigate before you buy? What can you add to the conversation?