Like any other endeavor, however, there are right and wrong ways to go about it. Usually, when a market is bullish investors rush into it without proper strategy, knowledge, and planning, and hence find themselves facing a lot of challenges. It requires experience and patience to identify the types of traps into which real estate investors most often fall, and how to avoid them.
Although there are dozens of mistakes that one can make while investing in real estate, the following 10 are the most common:
1 Expecting to “get rich quick”: This kind of wrong-headed thinking is fueled by self-appointed gurus who produce infomercials that make it sound so easy to get rich in real estate.
But making money from housing is not easy. Yes, it is a good long-term investment, but so is putting your money in a mutual fund, which is a lot easier.
These “gurus” don’t talk about all that hard work, they simply want to involve as many amateurs as possible in the market so that the “experts” can increase their profits. If you want to produce income and capital growth, you have to be smart and be willing to work, research, and learn.
You also have to understand your risk tolerance. So if you want to get rich quick maybe you should focus on another type of investment. Remember that the shorter the investment period and the bigger expected returns, the bigger the risk.
2 This is not a one-man show: The key to success is building the right team of professionals. At the very least, you need good relationships with at least one real estate agent, an appraiser, a home inspector, a closing attorney and a lender, both for your own deals and to assist with financing for prospective buyers.
Investing in real estate is not a game, but a business, and you cannot build a successful business if you do not have the right people to support and guide you every step of the way.
Always remember that it takes only one mistake to make your investment a failure. The old wise quote applies here too: “You are as good as the people that surround you.”
3 Failing to plan, planning to fail: Some investors buy a property because they think they got a good deal and then try to figure out what to do with it. That’s working backwards.
First, find the plan, then know what you expect from your investment, and then find the property to fit the plan.
Pick your investment model and then go find the property that matches that. Don’t find the strategy after you find the property.
The problem is that most people look at real estate as a transaction instead of as an investment strategy. You need to know in advance what is your budget.
The number is the number, and you don’t go above that, no matter how much you like a property. Successful investing is about setting rules and following them, and a budget is one such rule.
The best way to solve the problem is to search far and wide and make offers on multiple properties, then start seriously considering several options that fit your requirements.
4 Buying overvalued properties: Some real estate investors do not make any money simply because they pay too much for the properties. If a property is overvalued, then the profit is locked in once the investor buys it.
Analysing the market and doing proper research in order to identify the range of the market values in the area that you are interested in is critical. If you do not know how to do this then hire a professional to do it for you.
If a potential buyer makes a mistake in the market analysis, he might end up paying too much and getting surprised later when he does not make any money.
This is a common mistake that buyers, who confuse the asking prices with the actual market values, commit.
Also, very optimistic buyers are willing to acquire overvalued properties hoping that prices will keep going higher.
Well, that could happen, but it is better to buy cheap and sell expensive than buy expensive and try to sell for more. A good deal is not the one that is sold for good money, but one that was purchased for the best (lowest) possible price and then sold for the best (highest) possible price. Making a good initial purchase will minimise your risk and maximise your expected returns.
5 Lacking experience and knowledge: It is human to believe that we know everything, but you would not think you are qualified to perform an open-heart surgery without years of education and training.
Still, many real estate investors do not think twice about taking their financial lives in their hands without even cracking a book. Educate yourself before you put your family’s financial security on the line.
Read articles, check out books from the library and do as much research as possible. Attend seminars and stay up to date.
If you do not have time or you are not interested in learning, then either pay a professional real estate consultant or avoid investing in real estate altogether because it takes a lot more than just money to make a profitable investment.
6 Skipping due diligence: Investors often have to move very quickly on their deals. That, though, does not mean they should sign a contract and write a cheque without plenty of research.
Some investors, however, do not do their due diligence about the deals they are getting into, the costs, or the market conditions, and they wind up draining their personal savings because the property needs extensive repairs or they cannot sell it.
Sometimes new investors buy property based on nothing more than the idea that the property is going to appreciate, although usually they do not have any information to substantiate that. Some buyers confuse due diligence with the legal research of the deal.
7 Misjudging cash flow: If your strategy is to buy, hold and rent out properties, you need sufficient cash flow to cover maintenance and other expenses.
Some investors think they can get a property manager, or a company, to take care of their property.
In most of the cases, though, they have never interviewed a property manager or sought information from a property management company, and so have little idea about how they work and how much they will charge in order to estimate the monthly costs and the net returns from their investment.
Equally important is the fact that it is not uncommon for a property to sit on the market for quite a while before it is leased.
Meanwhile, the owner has to pay the mortgage, the taxes, the insurance, the cost of advertising, the management company and all other relevant expenses. If the owner has not budgeted for that, an asset can quickly become a liability, creating losses instead of profits.
8 Staying too much in the market: Any market that looks solid and secure has the same chances of fluctuating as any other. Timing is one of the most important parameters when it comes to investment decisions, and you must be ready to get in as well as to get out of the market before it is too late.
Usually, when property prices rise because people have gorged themselves on debt, the ensuing recession tends to be particularly deep and long.
Over-leveraged households cut their consumption drastically. Output and employment collapse, and that could lead to an economic collapse, a severe version of an economic depression where an economy is in complete distress for months, years or possibly even decades.
You do not want to be exposed by property investments in a market under these conditions. So always be alert and ready to sell.
9 Wrong estimates: Every time people try to estimate expenses they tend to calculate everything on the lower side while when it comes to profit projections usually the estimates are too optimistic. An investment that looks lucrative even under a bad case scenario is the one that you should go for.
So increase the estimated expenses to the maximum and add an extra 10 to 15 per cent unpredicted expenses.
Lower your expected returns using the minimum numbers and deduct another 10 per cent for unexpected market conditions. If you can still make money, then it is a good deal.
10 Exit Strategy? What is that? Many people buy a property and get stuck with it because they do not have an exit strategy, or have only one option: they are going to sell it or rent it out. What if it does not sell? What if the rental market stalls? Always have two, if not three, ways to get out of any deal.
For example, if Plan A is to rehabilitate the house, put it on the market and resell it, then Plan B could be to offer a lease-purchase to a buyer. Plan C might be to hold the house and rent it out, while Plan D could be the wholesale option, which would involve selling to another investor at a below-market price.
Hopefully, you will still make a profit, but at the very least you will cut the losses you are taking every month in carrying costs.
The last one is maybe the most important thing that investors should always remember. If you cannot create a successful profitable investment, you must be ready to take the losses and stop the bleeding.
Most of the people who lost fortunes in real estate investments did not have a “stop loss” policy, stayed too long in investments that were losing value, and finally lost most of their assets.
REValuer by Tegova
Civil Engineer Msc/DBM
Director of Engineering and Property Appraisal
Published by Daily Nation October the 1st 2015