Real Estate in Investing 2009 and Beyond – Part 2 of 4

In part one of this series, “Real Estate Investing for 2009 and Beyond”, I explained that opportunities are beginning to appear in the marketplace, for a savvy group of investors to begin building
a real estate portfolios which make sense.

In this article I will give you some very simple steps you can follow to identify the right neighborhoods, and properties within those neighborhoods which will make for good targets. As I live in Sterling, VA, I will use that area as a case study. All you will need to do is apply the same process for your geography of interest. (Btw – While this system will give you a great foundation to start your process, please remember that every property is unique. I strongly advise you to seek the help of a knowledgeable, experienced, professional who has both represented buyers and sellers, and has personally engaged in real estate investment. There are many good agents and brokers out there, and the cost of commissions is tiny in comparison to what you will make with sound choices and/or save by walking away from one bad property choice before you buy – A good agent will be able to tell you why a property is or is not a good choice. If yours can’t, find another agent!)

Step one in the process – Figure out your end game:

• What do you want to achieve through investing in real estate and when do you want to achieve it?

Step two – Know what you bring to the table:

• How much time do you have to invest in this?
• How much money can you bring in cash and/or borrow for investments?
• Do you have special skills, experience, or education? Perhaps you are a licensed contractor, CPA, J.D., etc?

Step three – Based on what you want to achieve and what you have to invest, decide on the best properties for your portfolio – There are thousands of variables depending on your unique situation, but some of the most common considerations are:

• If you want to create positive cash-flow, you will not want to buy properties where PITI is in excess of a certain percentage of monthly rent           - The percentage varies, but 50%-70% is a good ball park, depending on age of property and other factors.
• If you want to retire the debt quickly, you will need a plan for that process. (There are several strategies for this goal.)
• If you have limited time, you will need a geography close by or, to figure professional management services into your costs.
• If you are not a licensed contractor, you probably don’t want to take on any projects with more than just cosmetic work needed.
• Rental unit to primary residence ratio should remain low in any neighborhood you are considering.

While it is not necessary to have all your properties in close proximity to one another, it can prove very helpful should you choose to do so. No one is looking for a second full-time job!

Below is an example of how a new investor (Jill) might implement the process above for the Sterling area. Let’s imagine that our investor has identified the following:

Step one in the process - What do you want to achieve through investing in real estate and when do you want to achieve it?

• Jill wants to create a positive cash-flow immediately. She also wants to eliminate all mortgage debt associated with income producing properties as soon as possible, but to retain $500,000 worth of real estate with annual income of at least $25,000/year.

Step two - Know what you bring to the table:

• Jill has 15 hours per week to offer to her new wealth building strategy. By living modestly to her income, Jill makes enough money to save one 3% down-payment and and 3 months cash reserves per year based on a purchase price of $175,000, and can qualify for the mortgage on the same property (A good agent or broker can help you determine what these number would be for you very easily.) Jill is not a licensed contractor, but she is pretty handy and an avid D-I-Yer.

Step three – Starting to identify properties:

• Jill decides that she prefers to buy properties close to her residence and that she would like to have then in a single area in Sterling, VA. Now Jill needs a little help.

Jill calls her broker (Simon) who advises her to buy only single family detached properties (why? – Contact me and ask), and creates the following data sheet for Jill:

Subdivision                Property Type                  Sale Price Range                    Monthly Rental Range

SP                                 SFD – No HOA                $120k – $340k                              $900 – $1400

SR                                 SFD – HOA                      $140k – $375K                               $950 – $1550

CS                                 SFD – HOA                       $185k – $425k                              $1200 – $2750

Jill learns from her LO that the PITI on the average property in these areas will be $1250/month at a purchase price of $175,000, and realizes that she should buy at a lower price point. She also decides that an HOA will keep property condition closer to uniformity. Using the 70% formula, Jill decides that she will buy in SR or CS, at a price not to exceed $150,000. She will put down 3%. As CS has no properties which have sold for less than 185k, Jill and Simon focus on SR. Jill acquisitions one property in SR per year for 4 years and then stops purchasing.

Each of the following years, she is now free to save the down-payment and closing cost cash and reserves – It is about $65k over the next 6 years. In addition, the 4 properties have a monthly payment of approximately $4500 and income of around $6,000. A little higher than the 70% goal, but well within the confines of common sense. Total additional income for the 6 year period is $ 108,000. Jill saves this with the $65,000 for a total of $173,000. She uses some of that cash to pay-off the first property, leaving her about $33,000, and increasing her monthly cash flow by approximately $1,100. Jill is surprised to find-out that the value of the properties she bought have increased by 2% each year and are now worth about $172,000 each. She contacts Simon again and asks him to watch the market for price changes. Simon creates a an automatic email notice to Jill to let her know everything that is occurring in the neighborhood.

Jill is half way to her goal. She has about $260,000 in equity and $33,000 in cash from her real estate investment strategy. Simon develops a spreadsheet for Jill which shows the strike price necessary to leverage out of two of the remaining three encumbered properties, in order to pay-off the last remaining property. When the properties return to $231,000, two are sold and the remaining one is paid-off. The result is that Jill now owns two rental units, free and clear, with a value of approximately $460,000, and annual income of approximately $36,000, plus any increase of rental rates. Getting to $500,000 total is just a matter of 5% increases over time, but Jill now only has two properties to manages and enjoys $3000/month for her time – Probably much less than 15 hours/week btw.

Simon calls Jill and says, “That was fun – let’s do it again!”, but Jill says, “No thanks! I’m good!”, and Simon realizes Jill is doing great without him and he just got fired! (Now you know why I used my own name for the broker :->)

Btw – That cool real estate story I mentioned in the video above I will link it here –
Real Estate Story Video