Beware of Municipal Risk When Investing in Real Estate
You’ve got cash for a down payment just burning a hole in your pocket, financing is lined up, you set up your LLC, you’ve even checked out things like insurance, and you’re ready to go. You’ve watched real estate listings for months but now you are looking with a serious eye. You’ve found one area with nice homes and safe neighborhoods that seems to be a bargain and decide that’s where you want to go. Did you ask yourself why that particular part of your investment area is cheaper than the rest?
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If you’re like most new investors there’s an excellent chance that you overlooked one crucial factor. Have you checked the condition of the local municipality? Local governments can be a significant wild card in the investment game.
The real estate downturn and economic recession have hit many municipalities especially hard, some more than others. Many counties, towns, and cities large and small, are in a state of fiscal crisis. The steps these areas take to remain solvent will have an impact on residents, area businesses, and real estate investors. This usually means increased taxes and slashed services. If public safety is compromised property values will fall; if real estate taxes rise, prices will fall; if there are too many business that close, prices will fall.
The area where I live is comprised of the City of Las Vegas, the City of Henderson, Clark County (unincorporated areas of Las Vegas), and the City of North Las Vegas. The past few years have seen intense haggling with civil services unions over concessions. The municipalities saying they’re broke and the unions saying some combination of “they’re lying” or “take the money from someone else.” There are no winners in this game. Three of those locations have weathered the storm for the most part, but North Las Vegas is teetering on the brink of collapse. Days ago the city declared a fiscal emergency and cancelled union contracts; the unions will certainly sue to stop them. Layoffs of firefighters and police are looming and the city jail may be closed. They recently released dozens of non-violent offenders. Property values in North Las Vegas have plummeted far beyond levels of the surrounding municipalities. Do you really want to invest there?
Worth the Risk?
Municipalities in a financial crisis pose a significant risk. With risk there is often reward, but is it worth it? There is certainly opportunity as desperate sellers want to get out of Dodge, and fortunes have been made accepting such risks. As a real estate investor you need to determine if the potential reward justifies taking whatever risk you may encounter. I am not suggesting that you don’t invest in an area because of municipal crisis. What I am saying is do not overlook such a risk in your analysis, I see too many newbies doing just that. Whatever list of investment screening criteria you use be sure that an assessment of the local financial and political environment is on it. Investing successfully is difficult enough without being blindsided by something you failed to consider.
Risk comes from not knowing what you’re doing. – Warren Buffett
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