Do you ever find yourself trying to create, or justify, a real estate or note deal?
This is especially common with newer investors, who may be on the fence about whether or not they found a good deal. They may even be trying to force a deal.
Recently, I was talking to a new real estate investor, and he was telling me why it was such a good deal to invest in a particular area. However, I knew from experience that the area he was referring to is a tough environment to own and manage real estate in.
Are there some folks, who can make a deal like that work? Absolutely. Sometimes, it’s just different strokes for different folks.
If you’re trying to determine whether or not you found a good deal, there are a few things you can do.
4 Simple Steps to Successfully Analyzing a Real Estate or Note Deal
1. Identify Your Investing Goals
When it comes to setting real estate or note investing goals, it’s all about figuring out what you want and how you’re going to get there.
For example, some of us just want cash flow, while others want appreciation, equity build-up or even a combination of both. Some fortunate folks who have less of a need for cash flow may be more concerned with acquiring quality, depreciable assets.
For others, it could be a goal of less aggravation in their life.
For example, I have a friend from California who is an older gentleman. He invests in brand new rental properties in Texas. He accelerates the depreciation by componentizing, and then he sells the property via a 1031 exchange approximately five years later and buys another brand new property. He does this not only to avoid the depreciation recapture tax, but also to limit the maintenance game.
2. Check the Numbers
A good exercise is to look closely at the deal, including the financing side and the potential exit strategies, to determine if the numbers make sense. How does this deal compare to others?
I’m not just talking about return here, either. I’m talking about other things too, like risk and tax implications.
When buying a house, I was always taught not to go over 65% of the ARV (After Repaired Value) all in, including acquisition costs, closing costs, repair costs and the often overlooked cost of capital. This has always served me well, especially if I couldn’t flip the property and needed to refinance it. I have deviated from this model on occasion, and I ended up leaving my money either in the property, or I cash flowed less and later regretted not having that cushion.
With notes, it’s similar. Take a performing note, for example. It’s really all about what the yield is on the payment stream. With non-performing notes, it’s more about the collateral value, in case you need to foreclose. That’s why most folks try to pay less than 65 cents on the dollar for non-performing first liens.
Sometimes you don’t know the outcome of the deal until you’re exiting said deal. But you also want to be aware of where your capital to invest is coming from.
Today, I prefer commercial real estate and notes, but when it comes to residential, I’d have to say I like blue-collar, mainstream properties that aren’t too big to manage, with decent school systems and property taxes, as well as some positive cash flow ($300 or more a month).
Although many of my properties were purchased with traditional bank financing, the method I would use today would deal with finding a distressed homeowner and solving their problem. Then the next step would be renovating and refinancing the property with permanent financing (with private or bank money), while still cash flowing.
If I can’t get a certain level of cash flow, I don’t buy it. Period. I really don’t want my real estate portfolio to cost me any money; I just want it to pay for itself. As long as that happens and I get some tax write-offs along the way, any appreciation is a bonus, and I’m happy.
With notes, it’s similar. I don’t really care what everyone else is making, but I do want to know what’s going on in the marketplace. That being said, it’s more about what I’m making and what I’m happy with.
3. Ask an Expert
The biggest lesson here, though, especially if you’re new, is to run your deal past a more experienced investor. Don’t be afraid to ask for advice.
The fellow I was talking about didn’t realize that the area he wanted to invest in had many problems. Sure, the houses were cheaper, taxes were a little lower, and they cash flowed, but what he didn’t realize is that property management in the area was a nightmare.
For example, the eviction process was brutal and took forever. The Housing Authority was very difficult and paid less than other nearby areas. The area had lien able water and gas, and finding good tenants in that area was very difficult due to the high crime rate.
4. Make a Decision
Now, once you’ve reviewed your deal to see if it meets your goals, and you’ve run it by an expert, you can’t be afraid to pull the trigger. Sure, we’ve all made some mistakes along the way, but real estate and note investing is a learn by doing business, and you have to start at some point.
The key is knowing when you have a real deal in front of you, and then acting swiftly as to not lose the opportunity.
If you’ve decided to take action, it’s really up to you now to be a good, responsible investor in the community, whether that means taking care of the property, having quality tenants, etc. It could also mean taking responsibility for your investment decisions and not blaming others for what happens.
Once you evaluated a deal and ran it by others, it is your money and your final decision. We only have ourselves to look at in the mirror.
After all, the more properties you look at and analyze, the more deals you will find.
How do you go about analyzing potential deals? Has your system ever failed you?
Let me know with a comment!