What’s the biggest problem for investors these days? Ask 1,000, and most will tell you that their biggest challenge is finding good deals. This makes sense intuitively. It’s 2020, 10 years into a bull market for real estate, and it seems like good deals are harder than ever to come by.
But dive a little deeper, and most of these investors who complain about not being able to find good deals can’t even describe what a good deal means. The second biggest problem for investors on BiggerPockets is that they are looking for general help “getting started.”
I believe that for most new investors and investors with just a property or two that these problems are linked. I don’t believe that it’s necessarily as difficult as many might make out to find great deals. Instead, I believe that many investors are unable to articulate clearly what a good deal IS.
They don’t have the faintest clue about what they are looking for or are using the term “good deal” to express their desire to purchase a property that exists only in their personal fantasyland. I’d love to buy that $100,000 quadplex in perfect condition renting for $8,000 in Denver, too.
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This article will show you how to define, in crystal clear terms, exactly what a “good” deal is in a literal sense, so that you are no longer confused. But more than that, it will help you define what a realistic opportunity and deal is for you. Because a great deal for a flipper is not a great deal for me as a passive investor. It all depends.
A Simple Overview of a Good Deal
A good deal is a deal that meets your criteria and that is purchased at a discount relative to other properties with similar characteristics in your local market. That’s it.
This would be a short and boring read, however, if we ended there. I suspect that the challenge for most investors is in defining their criteria, and then in setting up a system for snagging a real deal that meets their criteria at a price lower than the average price of other properties with similar characteristics in their local markets.
To keep things simple, we will stick to five criteria to get started. These are:
- Cash Flow
- Property Type
By going through this simple checklist, you have an easy and clear path to defining exactly what “good” means in the context of your next real estate investment. Let’s hammer them out.
Location, Location, Location
Location, in my view, consists of a three-part decision. You need to decide on a market, specific neighborhoods within that market, and then which hyper-local factors will influence your buying decision.
Picking a Market
In picking a market, you want to look for two different things: (1) The factors impacting supply and demand, and (2) proximity.
The factors impacting supply in your market include things like new construction of both single family and multifamily residential housing stock. It includes how many homes and apartments are currently on the market and how many are being added.
The factors impacting demand in your market include things like net migration, median/average income, and other demographic considerations. Where more people are moving and where people are experiencing income growth, comes more demand over time.
In Denver, for example, we’ve experienced a huge net migration over the past decade without new housing stock being supplied to meet that demand. As a result, homes have drastically increased in price and rents have skyrocketed.
However, if we zoom into the past year or so, net migration has slowed and a large amount of housing stock has come into the market. As a result, we’ve seen very little appreciation in the last 12 months.
You need to factor in the long-term outlook of the market you choose into your decision.
Whether you like it or not, the market you choose to invest in, especially as a new investor, is likely to be a part of your life for a long time. Choosing a market that is difficult to travel to, or where you have no connections and no wish to visit, will put you at a serious economic disadvantage.
Instead, purchasing within an easy drive from home can produce significant advantages, such as being able to complete modest repairs oneself, self-manage, and personally oversee work. This offers serious learning and potentially major cost-saving advantages to investors.
If 10 markets produce reasonably similar cash flow potential and potential for appreciation, then I’d argue that the closest one should win out.
Related: 27 Ways to Find Real Estate Deals
Neighborhoods Within Your Market
The exercise above will help you find which market you want to invest in. Once you have determined which region to invest in, you need to get more granular. You need to have a neighborhood by neighborhood understanding of that market.
To get there, I suggest:
- Meeting with local investors and asking them which pockets of town they like or invest in
- Meeting with local agents and asking them the same question
- Analyzing deals in different areas to determine where the cash flow is
- Looking at listings on Zillow, Trulia, LoopNet, or the BiggerPockets Marketplace
- Physically driving various neighborhoods
- Tracking government investment and the “path of progress”
- Looking at crime statistics and walkability scores
- Asking local residents
There are many, many more ways to determine which neighborhoods to invest in. This is just a start. But with a couple of meetings and some dedicated research, you should have no difficulty identifying properties with reasonable appreciation prospects.
Hyper-local factors include answering questions even more close to home than which neighborhood or area in a market you choose to invest in. They include things like:
- Whether the property is close to a school (I like properties in C neighborhoods close to elementary schools, for example, but perhaps not next to high schools.)
- Whether the property is located on a busy street or a quiet side street
- Whether the property is located nearby mixed-use or commercial property
- Whether there are planned developments—good or bad—that will impact your property
- Are they going to put in a gas station next door?
- Or are they putting in a new park, high-end grocery store, or public transit?
These are insights that you can pick up in your research while choosing neighborhoods, by talking to residents within those neighborhoods, and through your general networking and research practices.
Cash Flow Potential
As an investor, in most markets, your cash flow will be determined by the following:
- Gross Rent
- Less Vacancy
- Less Property Taxes
- Less Insurance
- Less CapEx and Maintenance
- Less Property Management
- Less Financing Costs (Principal and Interest)
Outside of financing costs (which you can easily estimate with the help of your local lender), BiggerPockets has already produced an investment market index that gives you high-level estimates of all of the above. You are of course welcome to download and peruse the free dataset or conduct your own research in searching for markets.
Landlords can also incur expenses for utilities like gas, electric, water, sewer, garbage, internet, and phone. However, it is common among many landlords to pass these costs along to the tenant by requiring the tenant to set up these services with their local utility and service providers. Alternatively, landlords may pass along these costs to the tenant in the form of a utility fee.
Make sure that you are aware of the norms in your local market, and make an assumption for these costs, if applicable.
Other less common expenses that may impact cash flow can include mortgage insurance (if one uses a low-down payment owner-occupant loan, for example), HOA fees, and more. Again, use your network and connections to learn about the norms in your local market.
It’s important to verify each of these numbers for yourself, both for the market as a whole and each property you analyze. A great way to go about this is to run a report on the BiggerPockets Calculators and then share that with local investors to see if your assumptions are reasonable.
“Good” in the context of cash flow can mean different things to different investors. One way to look at it for yourself is to determine what you can get in an alternative investment—perhaps like index fund investing—and ensure that your planned real estate investment will generate significantly more cash flow than that or another alternative.
After all, we are in this business to generate returns in excess of easy alternatives like stock market index funds!
There are a handful of property types that apply to investors. You need to pick one:
- Fix and flip or BRRRR
- Single family residence
- NNN Commercial
- Multifamily (5+ unit)
The vast majority of BiggerPockets investors are focused on single family rentals, duplexes, triplexes, and quadplexes, or fix and flip projects/BRRRR projects (usually single family). In fact, 90 percent of investors on BiggerPockets have the end goal of owning multiple properties of this type in mind.
The reason that most investors are interested in these types of properties is the access to financing. It is relatively easy for an ordinary American earning $50,000 to $200,000 per year and working a full-time job to get a loan on a one- to four-unit rental property. One can get a 30-year fixed-rate mortgage insured by Fannie Mae on these properties.
In contrast, one has to be more creative and work with private lenders to get financing on just about everything else.
A fixed-rate 30-year mortgage is a huge advantage for a small-time landlord. And in my opinion, it’s a big part of the reason why more institutional investors and Wall Street firms don’t purchase single family rentals, duplexes, triplexes, and quadplexes.
Most new investors purchase “habitable” properties. The reason for this is similar to the above—it is relatively easy to get a great loan to purchase a “habitable” property with a 30-year or 15-year low fixed interest rate. Properties that are not habitable are more difficult to find great financing for.
“Habitable” comprises a range anywhere from “pristine” to “needs TLC.” TLC stands for “tender love and care” and is a euphemism and real estate jargon that you might see on many listings. A TLC property might need a quick paint job and a cleanup, or it might be wrecked and need a major remodel.
It’s up to you to decide where in that spectrum you want to hit your sweet spot. I recommend that newer investors tend to err toward the more modest cleanup and paint job side of the spectrum and away from major rehabs—at least on the first property. A simpler property that is close to being ready to rent, or which is already occupied, may present less risk to the buyer.
However, there can be more opportunity to add value and drive a great return on a property that needs substantial rehab work and improvement.
Once you’ve chosen a location, are able to confidently analyze cash flow, and can describe the property type and condition of property that you are looking to buy, it’s time to determine what properties with those criteria are currently selling for in your local market.
For example, your research might lead you to believe that 3-bed/2-bath houses that rent for $1,800 in certain neighborhoods in your market are going to be your best bet. Well, now you need to have a clear understanding of how those properties are priced.
If the average of these properties is $250,000 and you buy for $275,000, then you probably aren’t getting a “good” deal.
A great way to get comfortable with comps is to ask your agent for a list of all of the properties that have sold in your target market in the past 180 days. Many investors look at active listings that are currently for sale. This can be disheartening and give a distorted view of reality.
Active listings can be overpriced. Further, a property priced below the average of others with similar characteristics is not going to sit on the market for a long time in most cases.
By looking at properties that have actually sold, you will be able to see what the best deals are selling for, rather than risk looking at potentially the worst.
After reviewing and analyzing many properties that have actually sold in your market in the past 180 days, you will likely begin to feel very confident with your analysis. When a good deal actually does come on the market for sale, you will be able to confidently pull the trigger and make a competitive offer.
I thought it might be helpful to include a specific personal example here, so that you can see my process in action.
Here is what I personally look for:
I am looking for a duplex, triplex, and quadplex located in five specific neighborhoods within the city limits of Denver and pushing into the neighboring city of Aurora. I like these specific neighborhoods because I believe, based on my years of experience and many discussions with local investors and agents, that these areas offer long-term appreciation potential greater than the average of the rest of the city and suitable present-day cash flow.
These properties should be 2-bed/1-bath units or 1 bed/1-bath units, because I believe they are easier to rent in good times and bad than 3-bed/1-bath units or other units. They should be 500 to 750 square feet per unit, with some wiggle room on either end. I’m looking for a 1950s build or later. I don’t like lots on busy/major streets. I don’t like lots next to high schools or middle schools with lots of foot traffic. I am fine with lots nearby elementary schools—I may even prefer it. I want yards that are attractive or suitable to pet owners and ample parking.
I’m looking for a modest amount of repairs. If possible, I prefer repairs that I can assign to a handyman versus large electrical, plumbing, roof, foundation, or HVAC issues. I like mess, paint, flooring, drywall, and “touch-up” items like broken vanities, etc.
I’m looking for a property that is priced at between $100,000 and $175,000 per unit, with rents that are from $1,000 to $1,500 per unit. As I go up in price per unit, so must my rent. Because some edges of the neighborhoods I’ve chosen offer (in my opinion) better prospects than other edges, I’m willing to reduce my cash flow potential in order to benefit from the better location. I’m also willing to reduce my location potential if the cash flow is excellent.
Currently, no properties that meet these criteria are offered for sale in Denver. However, 10 properties that meet these criteria have sold in the past 180 days here. That means that perhaps once every two and a half weeks (18 days), a property of this type will come on the market. When it does, I will be relatively sure that I am getting a “good” deal and will be ready to offer and close on the property instantaneously. I have a good relationship with my lender and am able to get pre-approved for financing on any offers in the price range I have set.
As you read this, I hope that you are exceedingly clear on my expectations for a property. If you were a local broker in my area, or wholesaler, you would know immediately when you found what I am looking for, and you would also know that I am ready, willing, and able to make a serious offer on such a property.
You can see that I have my location spelled out in great detail. I know exactly what I am looking for from a cash flow standpoint. I know many of the details I am looking for in a property. I am clear on the condition of a property that I believe will net me a good deal.
And I know that it’s a “good” deal, because I regularly review recent sales—not current listings—and know what relatively similar properties are going for these days.
I believe that I’m going to get a “good” deal in 2020. Will you?
I’d love to hear how YOU define a “good” deal.
Leave a comment below!