My first foray in real estate was a disaster, and the second has been a success. The difference? I have learned how to avoid the big mistakes that turn a smooth operating ‘investing train’ into a smoldering, derailed wreck. If you are considering investing in real estate, be certain to avoid these four, ugly real estate investing train wrecks.
Train Wreck #1 – Going It Alone
Many real estate investors get into the business like this:
They come across some cash, most often through home appreciation and a line of credit. They take $100,000 out of their home at 4%.
They go looking on their own for a ‘good deal.’ After all, anyone can make money in real estate investing! How hard can it be?
They buy a cheap house with a mortgage at too high a price, pay too much for rehab, and have maintenance and tenant problems (broken water heaters, leaking roofs, kitchen fires, broken windows etc. etc).
Best case, they break even. Worst case, they have to SPEND money to keep the ‘investment’ afloat.
I intimately understand the above scenario because I lived it in 2006! I was a rookie real estate investor and I made the cardinal sin of investing on my own. To maximize your chances of success, you MUST build an expert real estate team.
First of all, you have to have an EXPERT investor/agent scouting for deals for you. What do I mean by expert? He or she should have done several hundred deals in real estate investing in the niche you’re investing in. If your investor/agent invests only in $2 million mansions on the bluffs, you probably don’t want him scouting for $25k fixer uppers on the south side! Keep in mind that most real estate agents are NOT investors. You only want to work with an agent who is an experienced and successful investor. Don’t know anyone like that? I know some, contact me.
You also will need a home inspector, an appraiser and a good real estate attorney at least. You also need to have affordable but good maintenance people: plumber, roofer, HVAC and handyman.
In my current real estate investing, I have an entire team of experts working with me so that I get my properties at the right price with the right investing strategy.
How to avoid this train wreck: Do not play Lone Ranger as a rookie real estate investor. I advise investors I know to partner up with an expert real estate investor in good, affordable markets. You want to work with a real estate investor who has done 1,000 deals and succeeded in up and down real estate markets. That investor will ensure you get GOOD deals at a good price that won’t end up costing you in the long run. By working with an expert who really knows the local market, your chances of investing success are increased 10 fold.
And don’t begrudge paying your investor a commission or a referral fee to snag you that great deal! I’ve run into more than a few investors that get hung up on paying someone a $1500 commission. Look: If the deal is going to make you 15% a year, who gives a damn what the commission is?! My first deal in San Antonio TX nets me 16% per year; whatever commission I paid on it was too low! 🙂
Bonus tip – If you team up with a good, local real estate investor, he may have access to deals that don’t hit the open market. Experienced investors with a good reputation in town often get inside information on good deals that most investors don’t know about. You can often find experienced investors at local real estate meetings.
Train Wreck #2 – Paying Too High a Price
There’s a very simple reason that most real estate investors lose money: They paid too much for the house. What I didn’t understand in my earlier investing is this:
Your profit, or loss, is locked in the second that you sign the contract and purchase the asset.
You need to do extremely thorough analysis of any house that you are considering to purchase. At the very least, you need to know:
- Mortgage payment
- Down payment requirements
- Rental income for you to qualify for a loan
- Price to income ratio
- Price to rent raito
- Rental yield
- Capitalization rate
- Total monthly cash flow after all expenses
How to avoid this train wreck: You can become an expert in your local real estate market or wherever you are considering. The easier way, however, is to work with an expert investor who scouts the deals for you. That is what I do in my city. I know when I buy a property, I am getting an under market value property that will make 10-13% per year.
Bonus tip: Strongly consider owner financing your property instead of renting it out. Owner financing has the advantage of minimizing your ongoing maintenance and overhead costs. The end buyer maintains your property and you just enjoy the monthly cash flow. See my recent post on 3 Reasons I Never Buy Rental Properties.
I also personally only invest in cash, so that I have no ongoing mortgage payments to worry about.
Train Wreck #3 – ‘Get Rich Quick’ Thinking
Many real estate investors are seduced by ‘get rich quick’ thinking, most often peddled by ‘real estate investing gurus.’ You know – the people who advertise the $20,000 real estate investing classes who promise you’ll make trainloads of cash within a week (see my recent post Why You Should Never Pay $20,544 for a ‘Real Estate Guru’ Program ).
In my case, I wasn’t seduced by a real estate investing guru. I just thought at the height of the real estate bubble that investing in real estate was easy. It seemed like making money would be simple. It wasn’t! I lost my butt.
Becoming wealthy in real estate takes a lot of work. You need to be patient to find good real estate deals that produce solid cash flow. Don’t try to rush it or you could end up with a serious mess.
I also personally do not advise investing in real estate for appreciation. That works for some investors, but to me it’s akin to stock speculation. I invest only in safe deals that make me 10-13% ROI in cash flow.
How to avoid this train wreck: I am a huge, monster advocate of partnering with an expert real estate mentor for at least your first dozen or so deals. If you locate a good mentor, expert real estate investor with a long track record of success, he or she has most likely learned this lesson. Building wealth through real estate takes time.
They can work with you to slowly develop your real estate portfolio over time so that eventually, you can be earning $5,000, $10,000 or much more in monthly cash flow.You can possibly help your expert mentor with his or her business in some way, in exchange for their helping you get some good real estate deals for your portfolio.
Bonus tip: Again this is personal preference, but my strategy is buy and hold cash flow using owner financing. It is simple, low risk, no maintenance, and generates excellent ROI.
Train Wreck #4 – Cash Flow Analysis Errors
Many real estate investors just don’t realize all of the ongoing costs of owning rental property:
- HOA fees
- Misc – this is where the rubber meets the road and disaster can unfold! If you are a rental investor, assume 1% of the property value each year. So if you own a property worth $100,000, you should have $1000 a year available for these extras.
If you are a buy and hold investor with rental properties, you need to be positively certain that you have enough cash flow to cover your maintenance costs. You also need to account for vacancies. If you are relying on a property manager to handle maintenance and repairs, remember that will cost you about 10% of your rent roll per month.
Keep in mind that while you are waiting for that property to be leased, you still have to pay a mortgage if you have one, taxes and insurance.
How to avoid this train wreck: Just simply calculate all of the above expenses. However, my personal preference to avoid a lot of these cash flow problems is to simply not invest in rental properties. Once again, I owner finance my houses, so I know exactly what my cash flow is per month.
I hope that you are able to avoid all of these real estate investing train wrecks, and you stay on track in your real estate investing:
What are some of the mistakes you’ve made or avoided in real estate investing? Please share in the comment section below.