According to Grand View Research, the global real estate market was valued at $3.9 trillion in 2021. And from 2022 to 2030, it’s expected to expand at a compound annual growth rate of 5.2%. Despite challenges like professional renters, experts argue that the rising population and desires for personal household and business spaces have triggered the growth of real estate market. So, what are essential things to note before investing in real estate?
Property Location Matters
Location is a crucial factor for profitability in real estate. Many renters and business people will look for a safe neighborhood and areas with potential customers. Renters will look for areas with access to schools and famous places. Moreover, water access and road network are significant factors when choosing your property location.
Another critical consideration when choosing a location is how the region may evolve with time. For example, you cannot build rentals or homes in open land neighboring a proposed manufacturing facility. The area will become noisy, and tenants will vacate. So, thoroughly review the area and know who your fellow investors are.
The best way to collect information about the area’s future investment plans is to visit public agencies dealing with the area zoning or urban planning. Despite the charges you may pay or the time you spend, you will get access to long-term area planning that will help you make wise decisions.
Your Property Valuation is Important
According to Wall Street Mojo, real estate valuation is a process that relies on three methods to determine the value of an investment. The methods are:
Sale comparison approach
– you estimate the value of your desired property by comparing it with the recently sold properties. Mainly, you select at least three recently sold properties within a mile. Select properties sold less than six months ago. Afterward, adjust for similarities and differences since properties differ with minor features.
Cost approach – you have to consider five steps to value the property based on the cost of constructing it. First, you estimate the land value as if it were vacant. Second, determine the cost of construction and improvements required. Third, you calculate any accrued depreciation from the property’s physical condition. Fourth, you subtract the accrued depreciation from the construction cost. Finally, you add the land value to the answer you got in the fourth step. Income capitalization approach – this method is the best if you are selling a home or buying an income-generating property. It values income generated from the properties in four steps.
First, you estimate the annual potential gross income of the property. It’s based on market rates and not the in-place revenue. Ideally, deduct vacancy and other losses to get the actual gross income. Secondly, determine the operating expenses for the annual net operating income (NOI).
Third, estimate the rate of return. It’s calculated by dividing net operating income by the sales prices. Finally, apply the market capitalization rate to the property. For instance, if the property generated $10,000, you will divide NOI by the capitalization rate to get $100,000. Property valuation will help you get financing during the purchase process. Also, it will assist you in investment analysis, taxation, and acquiring insurance coverage in case of professional renters.
What’s Your Investment Purpose?
According to research, most real estate investors discover they made the wrong choice within a year after investing in properties. One of the main reasons they fail is a lack of education about real estate. In fact, it’s a process that requires regular learning as the trends change. Here are some basics that can help you define your investment purpose:
Buy and use the property – you save on the rent and have the advantage of maintaining your privacy. Also, the property appreciates as years go by. However, the property will not generate regular income nor expose you to the risks of professional renters.
Buy and lease – if the property is located in an area suitable for businesses, you are good to buy and rent. It generates regular income and long-term value appreciation. But because of the legal issues and disputes, you must be well-attached to a real estate lawyer. Lease properties can also attract professional renters.
Buy and sell for a short term
– this is a short-term investment that you can work with a real estate broker or sell on your own. But you must identify the risks involved in these short-term investments, like the lack of potential clients. With these investments, you don’t have the hassle of dealing with professional renters.
Buy and sell for a long term – this focuses on high long-term value appreciation. However, you must consider factors like
contemporary residential architecture to sell fast and get a good return on investment. Suppose you lease the property as you wait for its appreciation; that will also generate income. But you may face risks of professional renters and depreciation.
Know Your Expected Cash Flows
Cash flow is the money left after the expenses. Positive cash flow is essential if you want a good return on investment. Unfortunately, depending on the situation, most investments can give you a low cash flow. These situations, like low business seasons or encounters with professional renters, make estimating the actual cash flow hard.
Mostly, student housing is the best if you want a good ROI. This involves purchasing a property around a learning institution. However, you may experience losses during long holidays when the schools close.
On the other hand, if you decide to build senior living apartments, you will have to customize the rooms and the whole property for safety. Regarding all the requirements for older people, you may get good cash flow if you set reasonable charges.
Existing Properties Vs. New Construction
Rocket Mortgage analyzes the costs of building a new home at
$111,892 to $460,414. So, building commercial properties can be higher than their estimates for a home. Although many people consider buying an existing property over building one, both have benefits and drawbacks. You must decide depending on the location and the market trend.
If you are building a new house, it may attract a good return on investment due to the latest designs. But it also has drawbacks like the unknown neighborhood, increased costs when the project is running, and delays. As such, building a new house requires time. Time points on the duration you would take to research from the zoning authorities on future investments and the project’s duration.
Building a new home will require lot inspection, permits and utilities, excavation, multiple loans, and various building materials. On the other hand, established properties offer faster access, especially if you want a short-term investment. However, there are costs like upgrading older appliances and Homeowners Association fees.
Your Credit Score is Essential
As a real estate investor, you must partner with a mortgage company, especially at the start of your investment. This gives you a chance to invest more and grow. A mortgage is a type of loan that helps people buy real estate. As a real estate investor, you can buy a property without paying the entire purchase price upfront with the help of a mortgage.
As a buyer, you can repay the loan with interest and have the property ownership changed for you. Luckily, the property value appreciates as you pay the loan. And in the end, you can sell it and make a profit.
How can your credit score help in real estate investment? Credit score affects your ability to qualify for the mortgage. Moreover, it helps you negotiate better terms with your lender. A higher credit score attracts better mortgage terms that can help you thrive faster in real estate. Normally, credit scores of more than 800 are considered excellent for a real estate investor. As such, it helps you qualify for the best mortgage. But how can you improve your credit score?
The first thing to consider is paying your bills on time. You can set an automatic payment or a reminder. The second thing is to ensure all your debts are settled on time. If there are accumulated debts, consider effective ways like debt management plans. Another important factor is credit utilization.
Credit utilization rate is the amount of revolving credit you use divided by the amount of revolving credit you have available. In simpler terms, it is how much you owe divided by your current credit limit. Experts advise you to aim for at most 30% of credit utilization to pay your credit quickly and get a good credit score.
Finally, avoid closing your credit card if unused, provided you are not paying the annual fees—also, limit requests for new credit and hard inquiries. Then, review your credit reports and dispute all the inaccuracies.
Mind About Your Leverage
You may have heard that real estate is about taking advantage of loans and investing for the future. Another common risk you must have heard about is professional renters. But loans may come at a higher cost. As such, ensure you understand how to use the loans. The Balance, an experienced personal finance educator, enlightens us with four risks to avoid when using leverage in real estate.
The first risk is counting on the high levels of appreciation. The history of real estate indeed repeats itself. And normally, the real estate value keeps appreciating. But counting on the highest levels of appreciation is a risky proposition. You can end up overpaying for the properties. Instead, consider the best, worst, and most likely when using the leverage.
The second risk is ending up with too high payments. It’s normal to think that a very low down payment can help you have a higher return on investment. But that isn’t true in reality. Higher payments have higher leverages. And if the market softens, or you incur losses from unoccupied houses or professional renters, you could have difficulty paying. Consider a higher down payment to be on the safer side.
The third risk is letting good financing lead to a wrong purchase. Always prioritize the property value over everything else because many investors are blinded by little cash outlay. Good financing can trick you into buying an overpriced property, resulting in minimal or no appreciation.
The final risk is forgetting the cash flow is essential. If you pay your property management company, mortgage costs, and other expenses and still take home a reasonable sum, you don’t have to worry about appreciation. But you risk incurring losses if the property isn’t paying the mortgage or gaining value.
Learn Negotiation Skills
As a real estate investor, negotiation skills are essential to help you make a good profit. Negotiation comes into play at the buying level, where you must purchase at the lowest price. Secondly, it comes into play when dealing with financial organizations. For instance, you must negotiate to get the best loan conditions if you want a loan. Finally, negotiation comes into play when dealing with a contractor. You must construct or renovate a house for a better return on investment.
Be Aware of Real Estate Market Trends
It always feels good to buy low and sell at a higher price. But this doesn’t always happen since the real estate market has fluctuations. So, it pays to be knowledgeable about the trends like home prices and sales, constructions, mortgage rates, property inventory, and foreclosures. Staying current with these trends will help you determine when to buy or sell. Trends also help you play around with mortgage rates and costs. It can also help you calculate the homeowners insurance cost to cover your home and household items.
Choose Your Networks Wisely
Real estate investment is all about experiential learning. That said, you must have a professional network to support you and create opportunities. A real estate network comprises mentors, clients, business partners, and nonprofit organization members. This network allows you to challenge and support one another by enlightening yourselves on risks. For instance, if someone has encountered professional renters in their journey, they can educate on identifying them.
Real estate is indeed a growing market. But overlook the trending advertisements, claiming it’s an easy way to make wealth. Instead, focus on planning, learning, and networking to thrive in the real estate business. Also, know there are risks like over leverage if you rely on leverage and professional renters if you invest in rental apartments.