Texas remains one of the most robust real estate markets in the country. But the market’s health is never guaranteed, and the only constant is change. Since the housing market can be unpredictable, those who plan for every contingency are the ones who can weather its inherent volatility. Many years of experience and countless hard-learned lessons have taught us what you need to consider before moving on a real estate investment.
Plan your financial goals
The first thing to think about is the purpose (or purposes) of investing. Is it to replace the income from your current job or to supplement your income? How much do you have to invest, and what is your target return? Most importantly, you should know how much you can stand to lose in a worst-case-scenario.
Answering these questions will help to direct your investment strategy and avoid financial pitfalls. If you are not prepared to leave your current job for the pursuit of full time real estate investment but want to guarantee retirement income, for example, owning multiple rental properties might be a suitable strategy. If you are looking to start a real estate investment business, you will likely want a longer-term property or two for stability, but earn your primary income by flipping properties and continuously reinvesting.
But if you overspend with the assumption that you can make it up on the next deal, you could end up digging a hole you’ll likely never be able to climb out of. You must ensure that you have sufficient reserves to ride out turbulent markets. Use the following analysis to generate a realistic plan that makes financial sense based on previous tax returns, property tax bills, maintenance records, etc. Here are some ways to calculate whether you can afford a particular investment:
- Net Income (income divided by expenses)
- Cash flow (net income divided by debt financing payments)
- Return on investment (cash flow divided by investment)
- Cap rate (net income divided by property price)
- Cash-on-cash return (cash flow divided by investment)
- Total ROI (total return divided by investment)
Research your purchase
Several factors impact the success of your investment. Proper planning means conducting thorough research into the property you plan to purchase. Consider some of the following factors:
- Property taxes – Exorbitant property taxes might dissuade buyers from paying a premium for the finished property.
- School district – Zoning is a critical deciding factor for families looking to relocate. Understand the pros and cons of the school district your property is zoned for.
- Neighborhood demographics – These trends strongly indicate real estate appreciation/depreciation trends.
- Cost-of-living – This should be considered both when purchasing the property and when listing the renovated home. Home values correlate with cost-of-living and average income in the region.
- Sales and rental rates – Home prices and the costs of rentals in the area can help potential landlords determine a positive or negative investment. Review the area comps carefully and touch base with property managers in the area to get an idea what rental rates are feasible if you intend to be a landlord.
- Public transportation – Public transit is increasingly an important factor in home sales. Millennials are demanding alternative transportation options, whereas families might want to budget for mileage and commute time.
Have a marketing plan
For career real estate investors, a strategic amplification of your marketing efforts can greatly impact your real estate business. We recently outlined ideal strategies in our blog “No Real Estate Marketing Strategy – What’s Wrong with You?”. These include targeting motivated sellers, online adverting, using direct mail campaigns and looking for off-market properties. Plan in advance for additional costs incurred by staging, photography, advertising, etc.
Punch list the project
Though you might go over on time and money, having a set timeline, punch list and cost spreadsheet for your project’s expenses will keep you on track, give you the opportunity to addresses issues as they arise, and give you an idea of any overage costs for which you will be responsible.
Have an exit strategy
It’s incumbent upon you to plan for the worst. Ask yourself what is the worst-case scenario? What can derail your timeline, budget and, ultimately, the profitability of your project? If something can go wrong, it probably will. If you anticipate setbacks and have a mitigation plan in place, you won’t be caught off guard scrambling when things go awry.
Real estate investing can provide a substantial amount of income – but only if you know what you’re doing. Keep in mind that the markets only benefit the prepared. That’s why it’s important to protect yourself, and your investment, in case it doesn’t all go according to plan. Prepare for the unknown and you’ll be one step ahead of the game.