Before You Start, Understand Your Goals
"If you don't know where you are going, you might wind up someplace else." ...Yogi Berra
Many people choose to invest in real estate for the many advantages it offers. But not all have clearly defined what they want to achieve or the time frame. This article will cover the most common goals people have based on time frame and explain in each case what is required.
Sort term is usually 1 year or less. About the only option to generate cash in the short term is flipping. While a popular topic, every month we see flipping failures. People selling the property for well below the funds they invested in the property. These properties make me sad; a lot of dreams and hard earned cash up in smoke. If you are going to flip successfully you need:
- Access to capital or skilled at raising capital
- Extensive knowledge of the market
- Know how to identify good properties and know the maximun price you can pay. You also need the fortitude to walk away if the numbers do not work.
- Only select properties with low risk or cosmetic issues.
- The ability to determine what to rehab (hard for many people) and the will power not to redecorate it to their personal taste.
- Access to cost effective trades people
- Expertise managing renovation projects and the ability to be on site almost every day to keep the project on time and on budget.
- Ability to invest a lot of your personal time
When people ask me if they should flip, I provide the following (irritating) answer. "If you have to ask whether you should flip houses, the answer is no."
This is usually in the 3 to 5 year range. The property selection priority is cash flow first and appreciation second. To be successful you need:
- The skill to select an investment location that is doing well today and should continue to do so for the foreseeable future.
- The skills to select a tenant pool that will: stay employed, pay all the rent on schedule, take care of the property and stay for several years.
- The ability to select properties which your target tenant pool is willing and able to rent.
- Sufficient cash for down payment(s), rehab and general start up costs plus a reserve fund for the unexpected.
- The right investment team
Note that with the right team in place, very little personal time is required.
The goal here is usually to replace a current income stream. For many people the fear of outliving their savings is a constant worry. Even if they think they set aside enough, they know that inflation or an untimely market downturn could wipe out their savings. Rent has historically tracked inflation while costs (like debt service) are largely fixed. For most people looking to replace a current income stream, the concern is not initial cash flow, though it has to be cash flow positive. The goal is a long term, inflation adjusting income stream that increases over time in inflation-adjusted dollars with an appreciating underlying asset. The success factors are about the same as medium term investing with the exception that the property selection priority is appreciation first and cash flow second, plus the understanding that over time, 1031 Exchanges may be needed in order to adapt to market changes and to reinvest equity.
Also like medium term investing, with the right investment team in place, very little personal time is required.
Start With The Destination And Work Backwards
Once you have a clear goal, you can develop a plan for getting from where you are today to where you want to be. Then it becomes all about execution.