This ties right in with buying houses in the wrong part of the country and buying low-income houses. You should ask yourself the same questions I ask myself when I am considering a house to purchase: “Who can I sell this house to for more money than I paid for it?” It’s common sense folks; people like to live where they feel safe and the house is conveniently located for their family needs.
So this brings us to the No. 4 most common mistake, no exit plan.
I select houses that are primarily in sub-divisions that are well taken care of. Our houses always have a minimum of three bedrooms and two bathrooms. We avoid condominiums and townhouses because we don’t want the HOAs controlling our fate. Unless you’ve owned a dozen or more condos, like I have, you probably wouldn’t understand the power the HOA has over your condo. I’ve had HOAs tell me I couldn’t rent my condo (Charlotte, North Carolina). I’ve had HOAs tell me that they had to approve any tenant and I had to pay them to do it (Largo, Florida). I’ve had HOAs not pay the condominium insurance and my sale fell through because the entire complex had no insurance (Bradenton, Florida).
We also avoid all commercial real estate because an eventual sale is more than likely going to be to a sophisticated investor. I bought a 25,000 square foot office building in Cheektowaga, New York in 1985 for $975,000. I sold it three years later for $840,000. It was fully leased when I bought it, but nearby areas were offering incentives for tenants in newly built office buildings and it was difficult for me to keep the existing tenants.
Never lose sight of the fact that single family houses are the most liquid of all real estate investments. If they are in good areas, they are easy to sell, easy to borrow against, or you could bring in a partner and just sell a portion of the house. My ultimate game plan is to never sell the well-located houses I’ve bought to hold for rental income. These rentals will ultimately replace my income produced through sales and I’ll never have to work. Then, they will go to my children if they can handle the income, (which at the time of this writing, they cannot).
In a normal real estate market, which we are rapidly approaching, a free and clear house should provide a 5-7% cash on cash return. We have done much better for our investors over the last few years, but you need to know this to have realistic expectations on quality houses in quality areas. The three financial components that you should focus on with cash flow houses are:
- Cash flow
- Future growth – appreciation
- Tax write offs – depreciation
The tax write-offs increase your rate of return by reducing your gross income. The deductions in the U.S. are the one benefit that real estate has over every other investment.
At my stage in life, safety is my biggest concern and it is easily accomplished by the selection of the right type of house in the right area of the country, in a good neighborhood that allows me a relatively quick exit plan to a homeowner should I decide to ever sell. So always remember your exit plan.
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