Some of the Dangers of Getting Joint Venture Partners in Real Estate Investing

We all start real estate investing with some amount of money to invest – your ‘War Chest’. For some, this may be a little or for some, a little more. Eventually, most of us will come to the end of that initial capital and start to look around for other sources of funding.

A natural next step would be for you to be the ‘real estate expert’ in a relationship with others that bring in investment capital; the ‘money partner(s)’. This is called a Joint Venture (J/V). The best J/V’s are those where each group brings something different to the team, so a relationship like that can be very rewarding.

However, there are potential pitfalls when you start to deal with others. I am sure we all remember group projects in high school where one person did all of the work, one person thought they were the boss & barked orders while the other two just sat around and talked.

In real estate investing you need to keep the group as small as feasibly possible where each person has a different role. In general, you need a money person and a ‘doer’. Too many doers and you run into control issues. Too many money people with no doers and nothing gets done. Even in a well balanced J/V you still have to be clear about who is making the decisions.

For that reason I would definitely recommend that you have a J/V agreement that clearly spells out who is doing what, who is making the decisions, what the objective of the project is, what each persons percentage return will be and the rules if somebody wants to get out early. Talk about and decide these issues early in the project to avoid fights later on. Each person should have their own legal representative. Don’t be cheap and try to for go this step.

You also want to clearly lay out what each person’s expectations of the project are and make sure that they are realistic. You also want to be clear that things can and do go wrong and that the end result might not be exactly as anticipated. In the beginning of every project all parties are excited and dreaming of making a killing. Rising construction costs (both in and out of your control), time delays caused by slow moving bureaucracies / permit processing, changes in scope (what you originally planned to create vs what you decided to do mid way through), and downturns in the economy can greatly affect your projected profit.

I personally entered into a couple of J/V’s in 2014 when the local market was hot. We purchased a number of apartment buildings with issues with the goal of

a) buying at a low initial price,

b) fixing the outstanding issues (both management issues and the quality of the buildings),

c) get the empty suites filled with higher paying, higher quality tenants after the renos were done,

d) refinance the buildings to reflect the higher appraised value that these changes would bring, and

e) use the gains from the refi to repay back the initial higher interest lender AND my J/V money partners.

The end goal was to own the buildings for ‘free’ where we had a new, low rate mortgage with none of our money invested. I have done this many times over the past 15 years so the concept itself was not a bad one. You just have to be careful with timing.

Two years of a slumping local economy brought on by low oil prices caused vacancy rates to skyrocket while rental rates dropped. As a result, after all the repairs where made the appraised values of the buildings were basically the same as what we bought them for. We were able to barely pay off the higher interest original lenders (a lot of the buildings that I buy are in such bad shape that I cannot get a mortgage from a conventional bank until after I am done fixing them up) but not get any of my partners their cash back.

Try making those phone calls when early expectations were for a home run – own the properties AND get your money back. Plus there were unexpected cash calls during the renovation stage of the projects. Now the investments are still good as I remain confident that, eventually, over time, vacancy rates will go down, rents will rise and with them, the appraised value of the properties. In reality they are normal real estate investments – where you buy a building already full without any major problems. The difference is, in hind sight, why go to all that effort to fix up the building and deal with bad tenants just to end up in a place where I could have been had I bought another, already normalized, building. Oh well.

Speaking of higher interest lenders, some of them can be real interesting to deal with. Never be scared to walk away from a deal, no matter how good it looks, if they get too crazy with their terms. Case in point. I was buying an apartment building in pretty bad shape back in 2012. It had a ton of potential and I was excited about it. While it was in bad shape physically it was full of tenants. The goal was to use my line of credit to fund the physical repairs as tenants moved out then get back in better tenants at higher rents suite by renovated suite.

I met with a higher interest lender who was interested, the interest rate and terms weren’t horrible so we went ahead with the due diligence. The day before I was supposed to waive the financing condition he called me and told me he would only do the deal if he could ‘freeze’ my line of credit. His reasoning was that, if things went bad I could continue to service his debt with the money left in the line of credit. At the eleventh hour I had nobody else to turn to as there wasn’t enough time for anybody else to do their diligence on the property.

The problem with that was that it left me with no money to finance the renovations that needed to be done. As you can guess I was extremely pissed but I liked the deal so much that I went ahead with it. I had to self fund the renovations from the meager profits of the building so the repairs took wwaaayyy longer than expected.

If the same thing happened today I would say no and if that cratered the deal so be it. Having your hands tied like that is not a good idea.

In that same line of thinking never agree to a J/V partner that wants equity AND interest on their money. Even if the original projections show that you can support both an equity payment and interest at the end of the investment period, say no to that as well. A dip in the economy or any other delay or increased costs can result in little or no profit on the equity side while you still owe the partner money on the debt portion.

I have owned many properties and have done very well with real estate investing but sometimes I wonder how, given some of the stupid things I have done over the years. Just keep in mind that not everything is roses and peppermints when you bring in other people and their money. J/V’s can be a great way to purchase more properties and get to the next level. They can also lead to hurt feelings, lost money and lawsuits. Just go in with your eyes open.

And we haven’t even touched on the fact that some J/V partners can be real a__holes to deal with. Tread carefully.

Read more about this topic in Cash Management in Real Estate Investing.

Is It Better To Tear Down and ReBuild or Renovate Those Old Buildings

A lot of people don’t understand what I do. I take old apartment buildings that are in really nasty shape and, with a little love, bring them back to life. In the past I have dealt with buildings that were boarded up and had mushrooms, mold, bugs, asbestos, fire damage or water damage. When you walk into them in that condition they are really disgusting and the smell is often atrocious.

People often ask, “Why? Why wouldn’t you just knock it down and rebuild?” I have a 24 year old nephew that has helped with the demolition work on a few of my buildings. He appreciates the money he earns but doesn’t get it. He always thinks I should raze the building and start from scratch.

There are a few criteria in the decision to tear down or simply renovate. The most important of which is the condition of the building itself. You have to be able to look past the surface items like flooring, cabinetry, paint & drywall and focus on the ‘bones’ of the building. This includes the condition of the foundation, the roof, exterior walls and floor & ceiling joists.

Quite often the building looks a whole lot worse that it is. You can throw out the compromised carpet / hardwood, cut out moldy or wet drywall, remediate asbestos and replace fire damaged wall studs. Once you get the nasty out of the house it is then relatively easy to re-drywall, re-paint and put in new flooring and fixtures.

However, if the foundation, roofing or wall structure is compromised; then that, obviously, is a lot more serious. Are the problems fixable? Are they beyond repair? Will the cost to repair them be too prohibitive? If the answer to either of those last two questions is “Yes” then the decision is made for you. You have no choice but to demolish and rebuild.

If the building is repairable but at great cost then you have to do a cost benefit analysis to see which scenario – rebuild vs. repair – makes more sense. Remember in the “tear down and rebuild” option analysis to include the demolition costs, costs for architects and engineers, city fees and the time it will take you to maneuver a new building development through your local municipality and then actually rebuild.

The age of the building also factors into the decision. Really old buildings used much different building materials than we have now. I have owned buildings that used newspaper in the walls as insulation and that still had the old style knob & tube or fuse electrical system as opposed to the modern breaker system. Cast iron or galvanized plumbing pipes or aluminum electrical wiring are extremely expensive to replace. Sometimes it is hard to finance or arrange insurance for your buildings if they have these older materials.

On the other hand you can sometimes buy these buildings at such a discount because they have these issues that it makes it well worthwhile financially. You can also sometimes buy the property for less because the seller feels the property is worth land value only. If you can see a way to bring it back to life inexpensively you can do quite well.

I once bought a 100 year old boarding house for land value. The seller and her realtor expected any buyer to just tear it down. (A boarding house is an apartment building where the tenants share a common bathroom or kitchen.) The building had 5 suites without a bathroom plus a his and hers bathroom on each floor. The hallway was very wide. So wide in fact, that I was able to cut it in half and turn that extra space into separate bathrooms for 3 of the suites.

I then joined the two existing bathrooms with the other two units and ended up with 5 self-sufficient suites on each floor. In essence, I turned a boarding house into a true apartment building. It turned out to be one of my most profitable investments to date. Creativity is very important when renovating these types of properties.

In general, you want to avoid replacing as much of the old, obsolete items as possible as long as they still work. You want to avoid going into the wall because what you might find will often lead to great costs. Check with your local building code and municipality to see what you have to fix. You may be required to bring things up to code. An example of this might be when you are required to install a new sprinkler system in an old apartment building. Often, though, these items are grandfathered, meaning you can leave things as they are. All of these types of things have to be factored in to the analysis of keeping and renovating the building.

Each property is different and there are no set rules. If the building is physically unsafe or can’t be repaired then you have to tear down and rebuild. Usually it is not that cut and dried. You have to calculate the costs on both options to see what is the highest and best return of the final product. Which solution will give you the best return for the least amount of effort and time?

Trust me I don’t renovate because I love old buildings. It is simply often the better option. As I mentioned before things often look much worse than they are. By knowing what to replace and what not to you can keep your costs down. You also usually spend much less time renovating than you would by a) demolishing the original building b) going through the design / permit stage and c) building a new better building.

Read more about this in Comparing Real Estate Strategies

 

What A Prolonged Recession Teaches Us About Real Estate Investing

This past year was an extremely trying one for many investors – myself included. I was very happy to see the end of 2016. This has been one of the reasons that my blogging has been spotty the past few months – I have been putting out fires all over. Extended low oil prices mixed with questionable government leadership have led to very high vacancy and lower rents in the area that I invest in.

High vacancy and lower rents are not a great combination. This leads to low (or even negative) cash flow. An extended recession can really test your abilities, your resolve and your cash reserves. As you sit in the corner in the fetal position, sucking your thumb and rocking back and forth, it can even make you question your sanity for getting into real estate investing in the first place.

A couple of things have been made clear to me this year. First, the importance of having some savings and keeping money off to the side and second, the realization (or maybe more appropriately said, the reaffirmation) that real estate investing is a long term game.

Savings are critical to your success. I have written before about how I used to always invest any extra money that I had. I felt that all of my money had to be out working for me. Over the past couple of years I changed that strategy to have more of my investment money unused. I started to do more Joint Venture partnerships and make sure my existing properties were in good shape before I bought something new. I am really glad I did that. Having some savings allowed me to deal with the downturn in the economy without missing mortgage payments. (review a previous blog at: http://www.sabanabooks.com/managing-money-is-one-of-the-keys-to-real-estate-investing/ )

I would also strongly advise that you and / or your spouse continue working if one of you decides to start investing full time. You need regular cash coming in to make sure your personal expenses (food, mortgage / rent, insurance, transportation etc.) can still get paid if you end up with some temporarily negative cash flow from your investments.

When times are good and you are making good profit on your investments make sure to sock some of it away for those lean periods. I am glad I did that too. Perhaps it is the natural aging process but I found myself getting more and more conservative in my approach over the past few years. Gone are the run and gun, no holds barred investing of my youth. My new, calmer approach really helps in a recession.

I noticed as well that there is a ‘flight to quality’ in a recession. Tenants will search out the nicest place they can afford when rents in every building in a market start to go down. A newly built, nicely appointed property that rented for $2,500 last year and is now going for $1,600 will attract those renters who are still employed and have been paying $1,600 for a so – so building. The moral is to keep your places as nice as possible and treat your customers well all of the time.

During this difficult year, as I was digging into savings to pay some property costs, I never lost the long term vision of real estate investing. I had purchased my buildings at lower than fair market values, fixed them up, raised the rents and got good tenants in place during the good times. The lowering of rents (that usually happens due to the higher supply and lower demand of a recession) started from these new higher rents – that helped a lot. That is way better than lowering already low rents.

Recessions always end, however, so I realize that rents will come back up, vacancies will go down, equity build up will continue and resale values will return. Your long term wealth management is secure in real estate. The trick is to stay afloat long enough to see good days return. The key to that is proper cash management and having savings to see you through the rough patch.

Read more about this topic in Cash Management in Real Estate Investing.

Millennials As A Target Market In Real Estate Investing

I will be turning 50 in a couple of months and I have been a full time real estate investor for 15 years now. Real Estate investing had become pretty comfortable for me. My villa project, built for the 55+ crowd starting in 2004, had some ups and downs as I maneuvered my way through the 2008 recession, but at least I understood my buyer.

My parents were 40 years older that I was so I have always got along well with those much older than me. I also understood those of my own age group as buyers or renters; what they wanted and needed. Lately though, I have been out of my element as I attempt to build, renovate or rent to the current under 35 crowd. It is different. The old rules no longer apply.

Let me first say that nothing I will say here is a judgement on this group, neither good nor bad. I will talk only about my own personal observations of how they are different than those that went before and how you will have to up your game in the coming years. None of that, “Damn kids, get off of my lawn” here.

As a Boomer or a Gen-Xer our generations have, in general, been fairly successful economically. Over the years we have traded up to larger and larger and nicer and nicer homes. However, again in general, most of us still remember the more humble homes we grew up in. So, while we appreciate the finer things in life we don’t necessarily expect it. Our children, in contrast, have grown up in some fairly nice surroundings and as they move out into their first home or rental property the expectations are higher.

More than once I have been showing a prospective 20 something tenant and heard, “I require more natural lighting in my home,” or “I like the interior but I require a more modern look on the exterior.” Your finishing quality will have to be a little bit better going forward. What was good enough before will not be enough now.

I just finished a condo conversion project, renovating an apartment building built in 1974. We setup a show suite while still conducting work on the rest of the building – including the exterior stucco, parking lot and landscaping. While there was always a segment of the population that wouldn’t buy or rent until a project was completely done; I never really had an issue before selling partially completed projects. No so this time. I really noticed a change in the expectation level of the younger buyer. Everything really had to be perfect and complete.

We are also seeing the younger generation remain in their parent’s home longer before moving out. I moved out nine days after I graduated high school. Not for any bad reason, I was just so excited to begin the next chapter of my life. As investors we need to be aware of this and get used to seeing more mature first time renters or buyers entering the market. Perhaps in their mid to late 20’s as opposed to their early 20’s as we saw before. I have noticed this myself over the past couple of years.

My own kids, aged 17, 18 and 19 have no interest in learning to drive. I had my learner’s permit the day I turned 14 and my driver’s license the day I turned 16. I couldn’t wait and was counting down the days prior to my birthday. My son was nonchalant about the whole thing and finally got his learners at 15 and his drivers at 17. My two daughters have neither their learners nor drivers. They couldn’t care less.

Statistics tell us this is quite common. As a result, the new generation tend to use transit more and will want to live closer to their work. I read a study the other day stating that Millennials are willing to pay more to live closer to their work and avoid the commute that my generation had no problem with. Several observations spring from that: a) I see the demise of the suburb in years to come as we see a move back to the inner city, 2) I see more apartment towers built as opposed to individual homes and, 3) we will see more ‘pods’ where residences, work areas and recreation areas are built all together.

Real estate investors should be looking to deal with properties that are a) closer to mass transit stations (within walking distance preferably), closer to universities, closer to downtown and closer to larger highways / arteries (anything to cut down that commute time).

Parking was always a really big deal with cities whenever I planned developments before. There was always at least a 1:1 or maybe even a 1:1.1 ratio of suites to parking stalls in an apartment or condo building. The new generation has fewer cars. Maybe a single person won’t have a car at all or maybe a couple will only have 1 vehicle. Instead, they use transit or bike or use these small smart cars that rent by the hour. This is different than before when every person seemingly had their own vehicle.

This will lead to developments in the future not needing as many parking stalls. I am already starting to see municipalities back off on the stringent requirements of the past. Inside your apartment buildings you should start to provide storage space for bicycles and use this as part of your marketing.

I will admit, I am old school and the last couple of years I have got caught with my pants down a bit. I have lost some potential renters or sales because I hadn’t given enough thought to this new younger demographic. They say, “It is a brave new world.” We have a couple of choices, either adapt or continue to just target the Gen-X and Boomer generations.

Each development / renovation / conversion is different, with a different target market. Just make sure that if you do want to target this younger generation that you do take the time to research and investigate what their wants and needs are and what makes them different.

The Dangers of Too Much Regulation in Real Estate Investing

Over the past 15 years I have worked on dozens of projects that required dealing with various municipalities in order to get permits and inspections. To be honest, it is getting frustratingly harder and harder every year. Increased regulations, fees and control mean delays and unexpected cost increases. Here are some of the problems I have seen.

When I first started to do land development, condo conversions and larger renovations you used to be able to have pre-application meetings with the municipality, the community and the local Councillor. Each department (i.e. parks, transit, sanitation etc) would meet and review your proposal. They would tell you what they did / didn’t like. You would adjust it and by the time you actually submitted the development permit application you were relatively secure in knowing your proposal had no major objections from the city.

The pre-application meetings still exist, except now, with the last few projects I have done, the municipality has come back months later with requests for more (costly) reports. Often there is no real reason why these reports are needed nor why they couldn’t have been asked for back at the beginning o the process. This costs both sides time and money.

Each project has a “go / no go” moment where you fully commit or not. In years past, you would have a fairly clear idea of city costs and timing before you hit that point. These days you do the pre-application process, make the decision to commit and then, months later, the city keeps asking for more information.

These delays cost the developer in a variety of ways:

  • There will be carrying costs with your building (insurance, mortgage payments, taxes and utilities). The longer the delays in waiting for permits the higher these costs run. How do you properly budget for that in the initial analysis stage of the project?
  • Delays in the municipality processing the permit application (which, for even mid-sized projects, can now be a year or two) can expose the developer to a change in the economy. Budgets based on the market reality at the start of a project can be vastly different two years later when you finally get your permits. This can mean greatly increased construction costs or reduced resale values of the finished product. The trouble is, you already committed long before.
  • Delays in processing can also mean the loss of your contractors as they move on to other jobs because you are not ready for them.
  • These extra requests / reports from the city can lead to real costs. For example, a request for a storm water report on one of my recent projects led to me having to install a huge, water storage tank with a catch basin underground. The costs of the report, city fees, tanks, installation, pipes, digging up and redoing the parking lot etc. ended up adding $100,000 to the project. Not only is that a big number in itself but it only came to light after the “go / no go” point. That greatly affected the profitability of the project. Add to that six extra months of carrying costs and increased costs for other after-the-fact city requests like landscaping and parking and that project went upside down quickly.

Before, most of the work with the municipality was up front. Now it tends to be linear. We complete one step, then new reports get asked for, once that is done even more is required and so on.

I have also noticed that the administrative level in a lot of cities has been broken up into little fiefdoms with each department not working or communicating well with other departments. For example, in the villa project I did I had to have 13 different inspections and approvals (i.e. one for parks, one for overland drainage, one for sidewalks / boulevards etc.). This definitely could have been done much more efficiently with greater departmental cooperation.

In days past your engineering team and the city used to work together to find the best solution for all. Now, municipalities tend to see the developer and the engineering team as the enemy. Common sense solutions aren’t as easily found as before.

Costs to the developer have greatly increased, as well, as the municipalities attempt to pass more and more costs down the chain. When I was growing up the municipality would do the infrastructure work (i.e. put in public roads, sewers etc) and then put a levy on the land which the eventual developer(s) would pay. Now, almost all infrastructure work is the responsibility of the developer.

While the city no longer does a lot of that work it still forces you to have the job done by an authorized contractor. Knowing that they have a captive customer, the city-approved contractor charges a lot more to do the work than if the developer could hire any contractor they wanted. As long as the quality is the same, why should a small list of anointed contractors be allowed to control this work, at a much higher fee?

This increases the developer’s costs which get passed on to the end buyer in higher property sales. At the same time the city can brag about keeping taxes lower. The municipality also typically asks for a lot more from the developer than they used to do back when they did it themselves.

Since I first started doing this work until today, the fee structure has started to change as well. Before, your permit application fee would include a certain number of inspections. The number of inspections allowed before you have to start paying for inspections is now substantially lower and, in certain cases, you now have to pay inspection fees in addition to the application fee.

A few of you might be thinking, “Good. It is about time those greedy developers had to pay.” The problem is that most developers aren’t huge corporations. Most are just small mom and pop sized companies. There also isn’t, typically, a lot of profit on these projects so any increase in fees has to be passed on to the end consumer. This is one of the reasons why property resale values have increased so much in the past few years.  Sometimes, however, the economy may not allow the developer / builder to pass on these costs. The end product still has to be priced competitively with other similar buildings in the area.

As a developer / builder / investor try to make sure that you get all of the required reports / costs that the municipality will need before you get to the “go / no go” point. In the pre-application meeting specifically ask each department what things they might ask for. Try to make your budget as firm as possible before you commit.

If you work for a municipality please remember that you are dealing with people’s lives here. I fully understand the need for regulation to protect the public, but the pendulum has swung too far in the other direction. Continued requests and delays will eventually lead to people saying, “It is just too much hassle” and stop doing new projects. That will lead to fewer jobs, fewer new projects and a less vibrant city.

Investment money always goes to the place which promises the highest return for the least amount of risk. Adding regulatory hurdles, costs and time delays increase risk and reduce returns which will make that money seek out other, more easier to deal with, municipalities. The goal should be to make it as easy as possible for real estate investors while still maintaining quality and safety.

Read more about this topic in Cash Management in Real Estate Investing.

Don’t Fall In Love With Your Real Estate Investments

A common problem I see with beginning investors (and some more experienced ones too) is getting too attached to your investment. You don’t live there so don’t let that interfere with how you renovate, landlord or manage your buildings. Far too often we base our decisions as if we were going to be the end user.

Renovating / New Construction

Whether you are renovating an existing property or constructing something from scratch you need to keep your emotions out of your decision making and use materials and quality consistent with your area and future tenant / buyer. Don’t use granite countertops when formica might be more appropriate, for example. Choose the proper flooring for your eventual end buyer whether that means high end hardwood floors and carpet or lower end carpet / laminate or lino.

Keep finishing quality consistent with similar homes in your area. Visit other homes for sale or show homes to get an idea of where you should be.

To Keep or Sell

Sometimes our emotions dictate whether we should keep or sell a building. Don’t keep a building when market conditions, logic and the numbers tell you to sell or vice versa.

In general, fix and flips, new construction and condo conversions are investments that are set up to get in quick, do what you need to do and then sell. Timing is crucial in order to avoid a downturn in the market and keep interest / carrying costs to a minimum. Conversely, rental properties are designed to benefit from long term ownership.

However, sometimes circumstances change, either within our own personal life or with the economy of your area that may require a change in direction against the norm. Keep emotion out of it. Don’t make your decisions based on what has happened in the past or how much money you have already spent. Make decisions on what is the best course of action going forward.

For example, you may have already spent $2m to build a new warehouse. This may be $1m over budget and 6 months over schedule and you are still not done. Do you continue pouring good money after bad or do you cut your losses and sell? A lot of people might continue based on the logic of, “I have already spent so much” or “I really loved the design and I want to see it finished”.

It may well be the best decision to continue on. Just make sure you are making a logical / non-emotional decision based on the best action from today going forward. You can’t do anything about the money already spent and the time already taken. What is the best plan you can make starting today?

If the original plan was to fix and flip a residential building but the economy turned on you or you can’t get the resale value you thought you would (or that you need) move swiftly to see if you are not better off to refinance and keep the property as a rental until things get better.

Similarly, don’t stubbornly refuse to sell a rental that you have had for a long time when logic would dictate a sale simply because you have owned it for so long and grown fond of the building and the people.

Condo Bylaws / Legal Agreements

Emotions can cause problems when legal documents are being drawn up too. Far too often people getting into partnerships or joint ventures don’t even do up agreements because of friendship, family ties or not wanting to insult the other party.

You have a better chance of saving your friendship or family relationships if you both get lawyers to draw up an agreement up front. When the verbal agreement is still fresh in your minds and you are still friends.

If you are constructing a new condominium or doing a condo conversion and doing up the original bylaws I would also recommend just using a plain Jane, vanilla set of bylaws. Do not design the bylaws based on you living there. Over tinkering with bylaws will get you into trouble eventually. Even if you will eventually live in one of the units treat the drawing up of the bylaws as if you will sell all of the units.

I have done several of these and learned this the hard way. I spent a ton of time and money on lawyers the first time fine tuning the rules as I would like to see them. After the units were sold and the new buyers set up their new condo / home owners association the first thing they did was hire a condo management company. The first thing the management company did was bring in their tried and true bylaws. All that time and energy wasted.

Sometimes a new development needs some specific changes. Fine. Put those in. But in general you don’t want to give too much power to the individual owners vs. the condo board. Remember you won’t be living there. Let the owners self determine their own future. If a majority wants to repaint the complex black and purple who are you to say no? If they want to allow large dogs who are you to stop that when you draw up the original bylaws.

You are not going to lose potential sales by having generic bylaws.

Summary

Treat your investments as a business and keep your emotions out of it. I am not saying you shouldn’t be polite to your tenants. Just remember they are not your friends. If tenants aren’t paying their rent, then move swiftly to remedy the situation. This is a business relationship.

Read more about this topic in Cash Management in Real Estate Investing.

How To Find Deals In Real Estate Investing (Part 2)

Last time we looked a few traditional, tried and true methods for finding investment grade real estate. Today we will investigate how to use the internet to your advantage.

What The Internet Can Do For You

Even as you make contacts within your local community of real estate investors, lawyers and lenders you still need to actively look for property on your own.  Obviously, the internet is a great place to find product.  You just have to know how to cut through the endless supply of information to get at the specific stuff that you want. We will go through some smart search parameters below.

I spend an hour or two each Sunday morning going through various websites looking for product.  It shouldn’t take too much time, nor should you be spending too much time each week looking for product. You should do your searches on a regular basis. Over time this really helps you to see what average prices are for your particular type of property in your area.

Knowing this will allow you to spot deals easier and also will alert you to whether prices are moving up, down or remaining the same. Most weeks I don’t find anything that interests me but every once in a while you find a real deal.  When that happens, act fast.

Over time, mixed in amongst the dozens of ads, you will start to see a few of the same properties come up again and again.  These are properties that are having a hard time finding a new owner.

Maybe an offer favourable to you would be in order.  You only start to notice these trends if you search on a routine basis.  For example, there has been an apartment building for sale by owner on kijiji, continuously, for the past two years.

The price has not been reduced in all of that time.  Every few weeks I give the guy a call and we talk.  He has not moved off his price yet but one day he might and when he does I will be in a position to make a move.  He has my number.

Multiple Listing Service (MLS)

Every major city or area will have an MLS website sponsored by the local realtors. A lot of people dismiss the MLS system, saying that all of the good properties get bought before they wind up on MLS. That is true to a degree (and you want to be on the contact list of the realtors / lawyers that get those types of deals) but not entirely true. You just have to know what to look for:

  • I look for stuff that has been on the market for a long, long time (i.e. Days On Market (DOM) over 180 days)
  • I want properties that are larger than 1,100 sq ft (I find smaller than that and the potential profit isn’t high enough)
  • I prefer properties with 3 or more bedrooms; these are easier to rent or sell when you are done renovating
  • If you are looking to rent instead of flip, search for properties that have a detached garage vs. no garage or an attached garage; this allows you to get extra income from the garage rental
  • I tend to look for properties that are well below market; In the geographical area that you are searching in, you will see what the average price is for the particular type of property you want; set the maximum price value in the search criteria to $20,000 to $50,000 less than that average; this will eliminate most of the properties in the area and leave those that are less expensive for some reason; your job is to then find out why those other properties are less money
  • I also look for code words within the script. If I am looking for something to renovate I look for words like “handyman’s special”, “TLC”, “fixer upper”, “needs maintenance”, “needs work”, “needs love”, “lots of potential”, “as is where is”.
  • If I am looking for a foreclosure I look for words like “foreclosure” (duh), “must be accompanied by Schedule A”, “not open to employees of X bank” (substitute the name of a bank), “as is where is”, “court ordered sale”, “judicial sale”
  • If fixing up grow ops is your thing look for “former grow op”, “unable to gain access”, “needs remediation”, “health services”, “condemned” or some of the same code words as we saw in the ‘foreclosure’ section above
  • When older property owners pass away their kids will typically just put the family home up for sale. These homes can be good to renovate because typically the person that passed lived in the home for decades and probably didn’t do a major renovation.  Look for “estate sale”, “Power of Attorney” or “probate”; also look for “well kept” or “lovingly maintained” or “character home” which is realtor speak for “this thing hasn’t ever been renovated and still has that funky orange 70’s shag carpet”
  • Remember that when a realtor writes the script for a listing they will try to spin the verbage and show things in the best light. Get familiar with common realtor speak and use that to find properties
  • A realtor who works well with computers can actually do an advanced search looking for these specific things. Specific searches can be hooked up to the internet now, through your realtor, so you can have a website available only to you that already has a preset search set up.

o   For example, you can be anywhere in the world, go on a special website and see all of the estate sales in a specific part of your home city, on the market for more than x days, within a certain price range and larger than a minimum square footage

  • Look for property incorrectly put in the wrong section of MLS; for example quite often properties that are really old get put in the ‘land’ section of the commercial MLS; the realtor thinks the building is a knock down and worth land value only.

o   I found a 95 year old boarding house in the land section which turned out to be one of my best fix and flips ever.

o   I also found a fourplex in the commercial section when it should have been in the residential section; the realtor had never sold a fourplex before and thought that anything over a duplex was commercial property; the trouble with that was that people looking for fourplexes wouldn’t be looking in the commercial section and people looking for apartment buildings would flip past a fourplex; the property sat for months before I found it.

Kijiji

Websites like Kijiji (or other for sale by owner sites) are also a good place to look but, again, you have to know how to dig down and pick out what you want.  Kijiji asks you for 3 things when you search: the search word, the category and the area:

  • I use ‘real estate’ as the category. Enter the city, town, county or other geographical area that makes sense.
  • To further slim down the search I will also put a minimum / maximum price range
  • Then for the search word I will put ‘sale’ and then add a second word. If you don’t put ‘sale’ then you will get the ads showing property for rent as well.  You want to find just the stuff for sale.  For example:
  • If you are looking for duplexes, tri-plexes or four plexes then put ‘sale plex’.
  • You can also combine ‘sale’ with any of the words listed above in the MLS section
  • If you are trying to find apartment buildings put ‘sale apartment’ (you will get all of the individual condos and apartments for sale too but you need to sift through and find those instances where the entire building is for sale) or put ‘sale building’ (same thing here, you will see a lot of ads for people who are selling land to build on but find those ads that have a building for sale) or put ‘sale multi’ for multi family property or ‘sale rentals’
  • A lot of investors try to buy with great terms; search for “sale ‘no qualifying’” or ‘sale assumable’ or “sale ‘seller financed’”
  • You can try ‘sale commercial’ or ‘sale industrial’ or ‘sale invest’ if you are more commercially oriented
  • Single out the for sale by owners by entering ‘sale owner’ or ‘sale FSBO’ in the search space

Commercial Brokers

If you are looking for commercial or industrial buildings, raw land or multi-family apartments then you should look at the specific websites for the larger commercial real estate companies.

When a regular realtor gets a listing for a single family home or duplex they will try to sell it quickly to people they know.  If that is unsuccessful then they will put it on MLS.  For commercial properties, commercial realtors are less apt to stick the property on MLS, instead they will market it privately through their own individual, corporate website.

Your Own Website

Finally, if you are good at driving traffic to a website then set up your own site advertising the type of property you are looking for and how you go about purchasing your deals.

Summary

The information today and last week is a quick run down of how I have been able to locate property for sale. I hope it helps you. I have owned almost 80 properties with 240 doors in the past 15 years and these tricks have allowed me to find some gems that others overlooked.

 

Read more about this in Comparing Real Estate Strategies.

How To Find Deals In Real Estate Investing (Part 1)

The Fix and Flip shows on the Do It Yourself channels always start the episode with the target property already bought. Real Estate Investing books always assume you already have a property in mind, “Let’s assume you have a house worth $100,000…”.  Where do you find these buildings? The information provided in the TV show or in the investing books is moot if you can’t find investment quality real estate in the first place.

Let’s look at some traditional ways first. Next week we will look at how to use the internet to your advantage.

People

If you are looking for deals then the first thing you need to do is align yourself with people that are the conduit between owners of properties in trouble and buyers.  These conduits would include lenders, realtors, lawyers and other investors.  Get to know these players and hopefully you will be on their call list when an opportunity comes up.

Private Lenders

You want to become the go to person for second mortgage or private lenders.  When a private lender lends money and the borrower doesn’t pay it back they will eventually have to foreclose on the property.

This type of lender doesn’t want to go through months / years of hassle to get their money back and will sell the building for just enough to pay off the first mortgage & fees + the amount owed to them & their costs.

As an added bonus you can then borrow money from these types of lenders as well.  As you gain experience and gain their trust you can become a person who they know can take a problem property off their hands.

Realtors

Another option is to become the go to person for realtors that specialize in the type of buildings you want (i.e. the realtors that tend to get the good stuff before it goes on the Multiple Listing Service (MLS)).

It is common for banks to use the same realtor when they list a foreclosure.  Get to know those people.  You need to use a realtor when you invest.  Make sure the realtor is also an investor.  They have to own property.  They have to get it.  They have to understand investing.

Within the very small subset of realtors that know what they are talking about in regards to investing you will find that they will specialize.  There will be realtors that specialize in land sales, in multi-family apartments, in industrial warehouses or in leasing, for example.

Whatever strategy that you follow and whatever type of property you are looking for find the person in your area that is ‘the person’ and then start working with them.

There is a very small subset of lawyers that specialize in investment real estate too.  There are no end of lawyers that will do real estate deals but don’t confuse that with those lawyers that know about investment real estate.

Try to find out which lawyers are used by which banks when the banks get a foreclosure.  I hope you are seeing a trend here, whether it is with lenders or realtors or lawyers.  Find the specialists.

Other Investors

There is no better place to find investment real estate than from other similar minded people. Join a local investment group and socialize. Often people find properties that they themselves can’t buy at that time for whatever reason and can pass the lead on to you.

Most groups have people that haven’t built up enough reserves yet to buy their own property and as a way to make money they ‘bird dog’. That means they try to find good properties and will sell the lead to you for a finder’s fee.

These groups will also be great ways to learn more about investing, to network and to educate yourself on different strategies you might not have thought about before.

Do Some Legwork

Sometimes you just have to go old school and do some leg work:

When you find a property and actually end up buying it, walk around the neighborhood and talk to your new neighbors.  Do they want to sell their similar properties, too?

When you buy a building, or even if you talk to a seller and don’t end up buying that building, ask the seller if they have anything else for sale.  Quite often owners have portfolios that could be available for sale too.

Keep an eye out for things in your neighborhood.  I know one investor whose entire portfolio of single family rental houses is all within a 4 block radius of his house.  He knows the property value of his neighborhood extremely well and he also likes the convenience of being really close to his assets.

Keep your eye out as you drive around town.  Take a different route to work every day.  If you see something that is:

o   boarded up,

o   has tall grass and looks neglected

o   has a health board notice on the door

o   has a management letter on the door

o   looks empty

then either knock on the door or find out who owns it. Then dig deeper and find out the history of the building and who owns / controls it now. It might be a lawyer or a bank or a management company.

Once I was in a small town looking at 3 different fourplexes.  As I scouted the rest of the town I saw another fourplex that was empty with a sign on it telling realtors not to turn the water on. It wasn’t listed for sale on MLS but the current owners were preparing it to be listed.  I called the management company who directed me to the owners.  I eventually bought all 4 fourplexes.

Another time I was in a different city looking at a commercial property that had been boarded up for 10 years and was in foreclosure.  Not three blocks away was a 12 unit apartment building that was empty and boarded up with obvious fire damage coming out of one window.

When I got home I pulled title and found out the property was owned by a bank.  A call to the bank directed me to the lawyer who was overseeing the account.  After a few calls to the lawyer I submitted an offer. I ended up not getting the first building (the reason I visited that city in the first place) but ended up with the second building.

Municipalities

All municipalities will have a person or department that is in charge of selling real estate owned by the municipality.  This could be land that they are selling parcels of or it could be individual buildings that have been expropriated.  In larger centers this will be on the city website, if not, then a trip to town hall will be needed.

In addition, once a year, a lot of municipalities will have an auction selling off the buildings that are a year or two behind on their taxes.  Find out when the auction is in your area.  In larger centers this will be on the city website.

Quite often, however, by the time the auction comes around, what starts as a list of several hundred potential properties, in the larger centers, gets whittled down to just a handful.

The municipalities don’t like to have to auction off property in this manner so they work hard with the property owners to get the account settled prior to the auction.

Summary

We looked at a few ‘old school’ ways to find properties. Hopefully you can use some of these techniques to your advantage. Next time we will look at using the internet to search for gems.

Read more about this in Comparing Real Estate Strategies.

Managing Money is One of The Keys To Real Estate Investing

When we first get into real estate investing most of us think that we need to focus on the building itself or which strategy we want to use. In reality, I have found, the key to real estate investing is more about managing your money. Yes, you have to follow some basic rules regarding location and building quality etc. but for long term success you have to make sure you are keeping a sharp watch on the money.

What does that mean exactly? For starters you want to focus on cash flow and not growing your net worth. As I have mentioned before in other posts you can’t eat your buildings. To be asset rich but cash poor is not a lot of fun. You want to have strong positive cash flow with your rentals in good times so that you can still be positive (or at least break even) in bad times. Always be looking for ways to increase revenue and lower costs. Small amounts can add up to large numbers over time and the more buildings you have.

Stress test your purchases before you buy. What happens if you reduce rent or increase the mortgage interest rate or taxes go up 1%? Seeing how these different scenarios look on paper can save you a lot of grief in real life.

Ensure you have cash coming in when doing renovations or new construction; both to feed the project itself but also to ensure that you can eat and buy clothes for your kids. On these types of projects make sure that you are tight with draws. Make sure you get your draw requests in on time to your lender. Then make sure you pay your bills in a timely manner. Failure to focus on cash flow can stop a project cold as your trades refuse to continue working until they get paid.

Watch out for interest penalties and bank fees. Paying bills on time will also reduce the amount of interest you pay. Interest is just lost money and a lot of the time can be avoided. I always pay my visa balance in full every month. I pay my utility bills before the due date. If your trades offer 2% less if their bill is paid before a deadline try to meet those deadlines.

If you have a home equity loan of credit (Heloc). Use that to your advantage. Often the temptation is to spend up to the maximum limit – using the Heloc for deposits on new purchases or paying for materials on renovations. However, I would recommend always keeping a percentage of the Heloc unused. Save some money for a rainy day. Keep some powder dry, as they say, for emergencies or truly exceptional deals.

If you want to go hard and become a full time real estate investor, please make sure that one spouse is still working and bringing in ‘pay the bills money’. With no regular money coming in it is really easy to go upside down with the smallest problems. You get a couple of vacancies, you have some unexpected costs like a blown hot water tank, renovations take longer or cost more than you budgeted or the economy goes down a bit and you have to lower rents. These out-of-the-ordinary expenses can cause a lot of unwanted stress if you don’t have some savings to help weather the storm.

Paying close attention to how your money comes in and how it goes out is exceptionally important to your long term goals. While that may seem obvious I am continually amazed how often we can stray and get lazy as we focus on other parts of our investments. I am still guilty of this once in a while myself. It is easy to get distracted by more exciting parts of investing. Keep a sharp eye on your money and you will get to your goals a lot sooner.

Read more about this topic in Cash Management in Real Estate Investing.

Fix & Flip vs. Long Term Rental – Which is Better?

Once you get involved in real estate investing eventually you have to make a decision as to whether you want to quick flip or hold a particular property you are thinking about buying.

Have you ever wondered which of these two investment strategies is better over time? I was in a unique position to accurately compare. Back in 2001-2003 I did twelve fix and flips then I went and did some other strategies. What if I had of kept those properties and rented them out? Would my financial position be any different now? You bet!!

First, some assumptions: I assumed that instead of selling the properties I kept them as rentals. I pretended that the properties were appraised for the amount I sold them for and that I received a loan for 75% of that amount. Rather than try to figure out what rents were over the years I just assumed that the buildings cash flowed neutral over that time (i.e. neither a positive nor negative monthly cash flow). Then, to get current property values, I went on the city’s website to get the tax appraisal value (not perfect but close enough).

I have an amortization spreadsheet that shows what the mortgage amount would be after all those monthly payments on each property over the years. As a final step I took the current appraised value and subtracted the current mortgage amount. The results were very surprising.

My net worth would be around $4 million more today than it is if I had of simply held on to those twelve properties and kept them maintained and rented. I could have kept those rentals, went and got a real job for the past 12 or 13 years, never bought another property in the mean time and still have $4m in equity.

There are some other variables that you could argue would have affected that (like the incredible, once in a lifetime, run up in values we saw around 2006) but, even if I am 50% off, that would still be $2 million to the good.

That is amazing and really speaks to a) the power of real estate investing in helping you achieve financial independence and b) the value of time (which we talked about a couple of weeks ago). We have also talked before about the benefits of the merged strategy where you buy a distressed property, fix it up but instead of selling it you refinance and keep it. This is truly the best of both worlds.

My own personal experience is that it is better to hold than sell if you can. Think about that next time you go for the quick money with a flip.

Read more about this in Comparing Real Estate Strategies.