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The answer to just about any real estate investing question you can think of is... "It depends."
The question, "Is this a good deal?" No exception. I hear this specific question all the time,
and I see the question asked in online forums all the time. I mean ALL THE TIME. The answer
is completely dependent on the person asking the question's investing goal.
Is the goal to flip or hold?
If the goal is to flip, what's the minimum profit they'd be willing to take?
If the goal is to hold, what's the minimum ROI they'd accept?
Is the goal quick money... or maximum money?
These are important questions to be asked before the original question, "Is this a good
deal?" can be accurately answered. However, a quick analysis to determine a clear initial
opinion of "good deal" or "bad deal" can be had by using a simple acronym that was taught
to me years ago... C.L.E.A.R. I still use it today.
C is for Cash Flow
Cash flow is the monthly income that's left over after all property expenses have been
paid. In my opinion, an investor should never purchase a property unless they are prepared
to hold on to it. If you find yourself having to hold on to a property, particularly one
you had intended to flip, the property should pay you while you do hold on to it... i.e.
cash flow. So, question #1 is, "Will this property cash flow?" If it won't, that would
typically be my first indicator that this might not be a good deal.
L is for Leverage
Leverage sometimes gets a bad rap, but mostly from inexperienced investors. Leverage is
important as it enables you to use less of your own cash and purchase more property than
you otherwise could without leverage. Additionally, your rate of return (ROI) is positively and
exponentially impacted through cash flow and appreciation. "No money down" is the ultimate
leveraged position and is very attractive for most investors, but is not without its
risks and should be approached with caution. Nonetheless, leverage will typically work
in favor of the experienced and educated investor. So, question #2 is, "How much can I leverage?"
As long as the property cash flows, I would say "The more the better!", but you know your
situation better than I do.
E is for Equity
Equity is the difference between what a person owes on a property and what the property is
worth. When analyzing a property, equity can be perceived from multiple angles, such as
a:
Rezoning Potential Discounted Price
Fix-Up Potential Improved Management Potential
Equity can be created in multiple ways, but buying a property with the equity "built-in"
is the best way. Distressed property owners and investors that want out of their property
are my favorite sources for equity purchases. One person's problem is another's opportunity
-- both win in this scenario.
A is for Appreciation
Anticipating appreciation is a gamble, and many gamblers... uh... err... investors...
do just that, gamble. I'm very conservative and hate to lose money, and there's probably
no faster way in real estate to lose money than by ignoring the cash flow and equity
rule, pushing in all your chips and betting on appreciation. If your property passes the
cash flow and equity tests, consider appreciation a bonus or "icing on the cake." Be a smart
investor and do not make appreciation your primary buying criteria.
R is for Risk
What most people don't realize is that risk can be virtually eliminated from real estate
investing by following these three rules:
1. Don't buy any property unless it cash flows, even if "Fix n' Flip" is your strategy.
2. Know your state's real estate laws and write good purchase agreements with plenty
of room for you to change your mind during escrow if something doesn't look right.
3. Build a strong team of experienced professionals to work with, specifically your CPA, rehab
contractors and property managers.
No investment is "risk free," but by giving these three areas of your real estate investing
business a great deal of attention, real estate is of the safest investments I know.
So, get "CLEAR" on your investing opportunities, and quickly distinguishing the good deals
from the bad ones will be a snap.
I'm Matt Theriault of Epic Real Estate, and this has been another episode of Financial
Freedom Friday. See you next week.