Getting started with rental property real estate investing
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Rental property…in particular rental houses (I am speaking of single family rentals) is the easiest way to get started in real estate investing. Real estate investing (here we will focus on generating monthly cash flow) is like Chess. The game is won or lost in the initial set of opening moves. Starting off on the right foot so to speak. This, however, creates a problem for the new or novice investor in that they don’t have the requisite experience to know how to get off to a good start. Here are three fundamentals which should get even the most under-read investor making the right moves.
Howard Johnson, the famous real estate developer, had a saying: “Bought right is half sold.” This of course refers to price….but there is another dimension of value. You see, if a property is purchased at the right price, there is room in the difference between cost and sales price (“margin”) to make mistakes. That’s IF you are doing the work yourself. “Work” meaning: remodel, leasing, financing….etc. The more margin you have ….the more forgiving the real estate will be with your mistakes. But what if you don’t have the basic experience to even start? That’s where the other dimension of Mr. Johnson’s quote kicks in. Buying right may not have anything to do with cost…but with “positioning”. You remember the idiom: “Location, Location, Location?” Well, that’s just a statement of one component of “positioning”. There are others: use, function and perception. Location is only one aspect of positioning (physical). When I speak of positioning, I am referring to how the customer prescribes value (of the real estate) in their heads. If you can find a property that is positioned properly from the start, (i.e., it has already been professionally remodeled and has a paying tenant in place) then you literally can’t make mistakes on such activity as remodel and tenant placement. It’s already done for you. Remember, anyone can “buy” a property, but buying right means you focus on the SALE. There are hundreds of late night TV courses on how to buy…but do you see as many on how to SELL? Who will you sell to? Read on.
Sharks as everyone knows have several rows of teeth. When one is broken or lost…there is another one right behind it to take its place. This principal applies VERY directly to real estate investing. Most landlords (both residential and commercial) make a HUGE mistake thinking that once they have a tenant in place…the work is over. If only that were true. The investors who are able to make money in a good economy and bad are those who focus on “continual lead generation” (and conversion). The ability to generate a regular steady flow of inquiries will guarantee you always “monetize” your property. This could be applied to an outright sale…but my recommendation is always to focus first on cash flow…then on cash events. You see, when you focus all your energy on the end sale (cash event) …you are putting all your eggs in one basket. That’s a bit risky for my taste. Instead, focus first on cash flow. The most successful investors I have met in my lifetime get others to pay for their monthly lifestyle expenses. Who would do that? Tenants. Having monthly cash flow will allow you to eventually redirect your focus on those cash event deals like flipping. If your cash needs are taken care of….you don’t stress when a flip property takes an extra three months to close.
What about vacancy you say? How the math works in real estate investing is that it’s not the “vacancy” that hurts your profit…it’s the “length” of vacancy. When a three bed one bath goes vacant, an investor may get behind 0 for the month. But, if that investor has another tenant waiting to move in, then his problem is solved. The new tenant will not only replace the monthly cash flow from the previous tenant…but will come in with security deposit (typically one month’s rent) replacing any lost rent from the previous tenant.
Move the fulcrum
A fulcrum is of course a device that multiplies the mechanical force that can be applied to an object. Archimedes once said, “Give me a lever long enough and a fulcrum on which to place it, and I shall move the world.” Is your High School Science class coming back to you? Do you remember experiments where you took a heavy object and tried to lift it with a lever and as you moved the fulcrum further away from you (and closer to the heavy object) it became MUCH easier? Well, that’s the same “mechanical advantage” you can get with the proper financing of your real estate investments.
We have all had the experience of paying a monthly fee for phone service. We pay say, fifty dollars a month for several years. Then one day a friend tells us they get the same service for only forty dollars a month. We call our phone company and in an effort to keep our business…offer us the same low cost deal. We think to ourselves, “Why didn’t I make that call 2 years ago?” This principal of saving a buck applies directly to real estate financing. The lower our financing cost and terms (interest rate and loan structure) the greater our profitability. Seems simple enough….but most investors miss the point. By simply moving the fulcrum (rate/terms) a little, it can create a mechanical advantage with a ratio of 1:12. In other words, for every dollar saved on the rate…is twelve dollars EARNED per year in profit. This leverage is a critical theme for the new investor.
Lance Puig is a third generation real estate investor with experience in residential and commercial real estate. He is the founder of a company that offers turn-key cash flow rental property to the small investor.
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