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Building An Investor Niche
Instructor: John Henderson
Module 3 - Skillset Development
Whether you serve clients that flip houses or rent them, there are basic knowledge and skills that will benefit either type of investor.
A. Investor financial goals
The first step is to determine your client’s financial goals. How much profit are they expecting? Is their pursuit reasonable or isn’t it? Perhaps the easiest question to begin with is simply, “What do you hope to achieve?” Usually a house flipper will require a minimum specific dollar amount earned from each property sold – say for example $15,000. A landlord may expect a minimum monthly amount per unit, say for example $100 in positive cash flow. A seasoned investor may know exactly what their expectations are. Their experiences from previous transactions give them a clearer vision for what’s possible financially. However, a novice may require extra guidance in building reasonable expectations. Make sure their plan includes a realistic return on investment.
B. Investor financial requirements
Is your client prepared to pay cash for a property or will they need a mortgage? Money is never free whether it’s borrowed from a bank or from some guy named Loanshark Larry or even their own savings account. Investment properties may need special financing. And special rules for investment properties may apply. Make sure both your client and the target property are properly qualified.
C. Investor skill level
Every investor should know their own skill level before diving in. Some investors are fully capable to handle their own housing renovations. Others will need to hire professionals to get the work done. Unfortunately, some novice investors have watched too much home improvement TV shows and miscalculate the time, energy and expense involved. That cost can completely alter a budget. Have a conversation early on to identify which skills a client has and which will need to be hired. By doing so, you can offer a realistic approach for budgeting and profitability.
D. Carrying cost
Another expense that needs to be factored into a budget is the project’s carrying cost. As they say, time is money. And sometimes that expense can be substantial. Anticipating the time involved before income can be generated and budgeting for that financial burden is an important element in calculating profitability.
E. Know neighborhood standard for improvements
Consider the condition of the property. Compare it to other houses in the area. As an experienced agent, you’ve seen countless houses. In fact, you probably already know what a house will look like before you step inside. That’s because every house and every neighborhood has a “feel”. There are certain elements of what you expect to see and experience in a house. Consider a home’s age, architectural styling and common improvements found in other area houses. Knowing which renovations (and their costs) will improve the property’s value and desirability. Whether the end user is a buyer or tenant, think about how they will compare this property with others they’ve seen in the market. Having a clear, realistic list and budget of improvements will help eliminate over-improving and probably over-pricing a house beyond it’s market value.
F. Know the trigger price
There is one number that removes all emotion from the decision of purchasing an investment property – the trigger price. While most real estate clients are looking for a house to make into a home, investors are primarily concerned with profitability. Will this property be profitable? After all the budgeting and calculating is done, the trigger price is the divider between profit or non-profit, deciding to buy or not. A smart agent takes all variables into account and then advises their client accordingly. Pull the trigger on properties selling underits trigger price, otherwise keep walking.
While having these skills are beneficial to any investment clients, here are a few that you’ll need to work specifically with house flippers.
G. Become a Comparative Market Analysis (CMA) expert.
To anticipate the profitability of any transaction, a house flipper must know the potential income available for a target property. Agents who are active in the industry and knowledgeable about specific neighborhoods can analyze the data and predict with a strong measure of certainty what the target property will sell for after it’s been renovated. Real estate agents have an abundant amount of tools and resources available to gather this data and communicate realistic valuations to our clients.
H. House Flipping Calculations
Once you’ve gathered all the data mentioned, you can now intelligently advice a client whether a particular property is a sound investment to flip.
Do the math:
Begin with the CMA market value of the completely improved property.
Subtract the specific financial goal of the client.
Subtract any cost related to financing the project.
Subtract estimated carrying cost.
Subtract improvement & labor cost.
Equals the property’s trigger price.
That may work fine for a house flipper, but landlords look at property differently.
I. Become a neighborhood rental rate expert.
While investors that flip properties focus on Comparable Market Analysis (CMA), landlords are more concerned about actual rental rates being charged in the neighborhood. Rent can change from block to block and tenants might move from a property just to save a few dollars each month. Where there are plenty of rental properties available, tenants are likely to move to less expensive rentals. So to minimize lost rental income due to vacancies and keep good tenants, it is important to identify the correct, competitive rental rate for any property.
HINT: Good to know - Download the free Realtor.com Rental App to help identify and compare available rental properties in the area.
J. Rental Calculations
There are 4 expenses a landlord should budget: cash-flow/maintenance, water & sewer, taxes and insurance. You need cash-flow to operate any business. Put back enough for each unit to cover maintenance. Since water and sewer are lien-able items, most landlords pay those expenses themselves. They let the tenant pay other utilities like electricity and natural gas. Property taxes are more expensive for rentals (around 50 mils) because they are not subject to a homestead exemption. Calculate property tax expenses based on municipality/school district rates. Lastly, don’t forget property insurance.
HINT: Good to know - When estimating annual income, calculate 11 months rather than 12. Never expect the house to be filled 12 months each year. Sometimes it takes a week or two to clean, repaint, market and rent it again. This is where most investors fail. They fall into the trap of calculating 12 months of rental income rather than a more reasonable 11 months.
Once you’ve gathered all the data mentioned above, you can now intelligently advice a client whether a particular property is a sound investment to rent. The calculations for rental property are a little more tricky than flips.
Do the math:
Begin with the competitive monthly rental rate (multiply by 11 times only)
Subtract the annualized cash-flow/financial goal.
Subtract the annualized cost to finance project.
Subtract annualized water and sewer expense.
Subtract annualized property taxes.
Subtract annualized property insurance.
Equals annual amount available to pay principle and interest.
Divide by 12 to determine monthly amount.
Using a financial calculator, use the remaining monthly amount to calculate the potential purchase price of the rental property.
Take a deep breath, we’re almost done…
Begin with the potential purchase price you just calculated.
Subtract estimated carrying cost.
Subtract improvement & labor cost.
Equals the rental property’s trigger price.
HINT: Good to know – The Hewlitt Packard 12C is one of the most broadly used and highly respected financial calculators on the market. It can be purchased at any office supply store or downloaded as a smartphone app.