COMMON MISTAKES REAL ESTATE INVESTORS MAKE AND HOW TO AVOID THEM
Mistakes real estate investors make are outlined below:
If you’re an investor looking to get into real estate, you’re not alone. Plenty of investors turn to real estate for a portion of their investment portfolio.
Plenty of investors also fall into the same mistakes when it comes to real estate investing. As a first-time investor or first-time buyer, your investment will be a learning experience.
Here we’re going to take a look at the common mistakes made by real estate investors. If you can avoid these pitfalls, you should have a greater chance of success in your real estate investments.
1. BAD FINANCING
The biggest mistake many investors make is simply selecting the wrong type of financing. This can cause investments to go belly-up and investors to lose a lot of money.
This begs the question: “What is the wrong type of financing?” There are several ways to have bad financing for your real estate investments:
- High interest rate
- Adjustable interest rate
- High monthly payments
- Balloon payments
- Personal Recourse
When you consider residential bank mortgages, you are saving yourself from the first four bad financing types above: Interest rates are low, rates are fixed for 30 years, payments are amortized and there aren’t any balloons. The catch is the last bullet: Personal recourse is basically always required. However, guaranteeing the loan with personal assets and future income can be a reasonable tradeoff.
Commercial deals are completely different though. Getting unfavorable terms on the above areas can mean you are taking on too much risk as an investor. If you secure an adjustable loan, you might see your payments go up if interest rates increase.
The good news is that all of those terms are negotiable with private financing. For example, you might consider accepting a little higher interest rate and making a larger down payment. In return you could negotiate a longer term with lower monthly payments and little or no personal recourse.
Regardless of the type of financing you secure, make sure you negotiate the terms above and feel comfortable with the amount of risk involved in your investment.
2. BAD LOCATION
You don’t have to be a real estate investor to know the old adage: “Location, location, location!”
But here it really holds true. Value in real estate begins with location. For tenants, location is the first factor, then they analyze the other criteria in making a renting decision.
It’s a good idea to study the area and region you’re considering for real estate investments. There are several factors that can affect rent levels and an investor’s potential income:
- Current demand levels from renters
- Rental rates of comparable properties in the area
- Local property tax levels
- Airbnb legal issues
3. WRONG INVESTMENT STRATEGY
Are you looking to fix-and-flip? Do you want to buy-and-hold?
Investors can easily make mistakes in the type of investment strategy they choose. The strategy should be determined based on your timeline and required return rate.
In this market, beginners are usually more successful taking a buy-and-hold approach. The returns are generally higher with buy-and-hold because they generate steady incomes and the investment period is longer-term, meaning a greater chance for capital appreciation.
Fix-and-flips are short-term investments where time is the key asset. There are plenty of ways to make mistakes along the way with a fix-and-flip that will cost an investor time and money. However, if properly managed, a fix-and-flip provides a clear exit strategy and can net a nice profit for investors.
Commercial real estate is usually associated with higher returns. This is where properties are leased to businesses — from mom and pop shops to larger shopping malls. If you can land a solid business, you might have a tenant for years. But in commercial real estate, vacancies can last much longer than the residential side. Commercial real estate is not very friendly for the novice real estate professional.
Active investors can engage with the strategies above. But often times, the best approach is to be hands off as a passive investor. This allows you to provide the investment and leverage the skills of a real estate team to engage in the proper long-term investment strategy. As we mention below, real estate syndications and REITs are two popular ways for investors to make passive returns in real estate.
4. NEGLECTING DUE DILIGENCE
Unless you are an experienced real estate investor, a due diligence period can save you from a bad investment. Including a short due diligence period can buy you the time to properly analyze the property investment and void the contract if you find an issue.
Here are a few items to check off when conducting your due diligence:
- Conduct a third-party property inspection
- Calculate repair estimates
- Evaluate zoning and local ordinances for anything impacting the property
- Get a professional opinion on the rental comps for the property
Due diligence allows you as the investor to confirm all of the assumptions you made when valuing the property. Leveraging professional third-party opinions can help ensure you’re making an objective investing decision.
5. DOING IT ALONE
Many investors make the mistake of trying to do a real estate project all on their own. This can be especially detrimental if the project is beyond your skill level.
Smart investors leverage resources in the real estate business with the knowledge and experience to make the right purchase and/or manage operations in an effective manner. There are several different experts to consult with regarding your real estate transactions:
- Real estate agent
- Insurance representative
- Home inspector
- Real estate investment company
Adhering to expert advice can save an investor from making a bad real estate investment. Experts can alert you to any potential issues in the property or location before you make a purchase.
Real estate investment companies are a valuable resource for investors who are fresh to the real estate game. They have teams in place to identify lucrative real estate investment opportunities, and the capability of generating solid returns over the lifetime of the project. It’s their full-time job to find the most effective way to increase cash flow.
On top of that, when you invest with others, you gain access to much larger real estate projects than you would going it alone. Partnering with a real estate investment company can open doors to investment opportunities you would never find on your own.
It’s never been easier for investors to leverage other people’s experience and expertise. Investors who are new to real estate investing should consider real estate syndications or REITs as they are starting out. Read our previous discussion on syndications and REITs here.
One mistake you want to avoid is not learning from past mistakes. Many real estate investors learn these lessons the hard way and it ends up costing them time and money.
The five mistakes above all deal with the fundamentals of real estate investing. If you can successfully navigate these areas, you are on the path to success in the real estate markets.
One thing to takeaway as an investor, you’re not alone. The real estate market can seem like a bloodbath at times, but there are plenty of resources to help guide you on your journey to successful real estate deals.