As With So Many Things, The Answer Is: It Depends. Here are some tips to help you make the right decision for your situation.
READER QUESTION: Right now I’m investing my money in single-family residences. I had no previous experience and have been at it for a year. I’ve done a ton of research, read a lot of books and built the right team. I consider myself very successful. Can I switch to developing commercial projects successfully, or should I go to work for a developer to gain experience? — John C.
MONTY’S ANSWER: Your enthusiasm is great. The answer to your question is that it depends on a variety of factors. Success is a relative term. Do you own three homes or 100 homes? Did you acquire mortgages? If you have a lender, does the lender consider you a success (the only way to know is if they will lend you more money)?
STEP BACK TO SEE THE BIG PICTURE
A single-family home is the safest form of investment real estate in which to invest money. Single-family is safest because it is the easiest. The investor, the lender and the user can see the product. There is demand for single-family housing; interest rates are low, and labor is inexpensive. Life is good.
On the other hand, real estate development is exactly the opposite. It is a vision. The product is on a sheet of paper. Getting the vision to reality is a whole different process, and it is the most difficult of all real estate investments to tackle.
There are many obstacles to overcome on the path to success. Cost overruns, unexpected construction issues, queasy lenders, shifts in the market through competition and many other factors can mean no profit or even disaster.
For example, we are aware of a new project that recently broke ground and is already half a million dollars over budget. The footings are not yet in place. Development projects are much larger than a single-family home, and even experienced developers encounter obstacles.
The type of developments you tackle have an impact on risk. Developing mid-rise or high-rise apartments is far riskier that building row housing. When a developer builds up, rather than out, he is “all in” from day one. The row house developer can stop if the market changes.
Additionally, there are many different types of projects. Disney World is a real estate development project and so is a Dunkin’ Donuts shop. Improving vacant land into a subdivision, adaptive re-use, retail strip centers or hotels are other examples.
EXAMINE YOUR ASSETS
You have built a team, acquired property and educated yourself. You have limited experience. You are self-confident and ambitious. I judge you are a young person. Your passion for real estate is apparent.
There are many questions to contemplate: Are you willing to risk what you have already gained? Has your enthusiasm helped you or hurt you in the past? How much of your capital are you willing to put at risk? What are your most important personal assets and how can you best leverage them? What are your life goals?
GET OUTSIDE OPINIONS
While a conversation with your team members could be helpful, consider going outside them for a more objective view. Who do you know, or know of, you respect? It could be your CPA, a successful local business person or a seasoned developer. Go to several people and share your thoughts. Ask for their opinions.
DEVELOP YOUR OPTIONS
Working for a developer has many advantages to consider. It is almost a certainty you will learn valuable lessons and tactics you do not know today. You may also learn what not to do as a developer. Will that experience slow you down, or will it help you reach your goals sooner? You will meet new contacts who could come in handy in the future.
It is also possible to become a developer on very small projects. Small projects contain all the steps the larger projects encounter, yet the small size dramatically reduces the risk. Examples of this could include buying a small commercial lot and building a new retail or single-user office building, or buying a small existing building for adaptive reuse.
THE BEN FRANKLIN METHOD
One of our greatest Americans, Ben Franklin, is said to have made decisions after reducing the pros and cons of major decisions to a single sheet of paper. He would draw a line down the center of the page and list pros and cons. When one reduces his or her thoughts to writing, it stops those thoughts from rolling around in one’s head. Then decide.
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