By Than Merrill
Being able to quickly and accurately evaluate real estate deals is one of the most important skills you can acquire as a real estate investor. Even with a great marketing plan in place and when generating a ton of leads, if you can’t differentiate a deal from a dud, you will find yourself spending too much time trying to make chicken salad out of you-know-what. First we will explore the five essentials for deal evaluation.
Five Initial Essentials for Evaluating Real Estate Deals
The following six initial essential skills for deal evaluation are important factors in helping to determine whether the lead you are evaluating is a deal or a dud. Furthermore, you must be able to evaluate a deal quickly otherwise you will never be able to increase the number of leads you look at in the course of a month.
After determining the essentials, and realizing that there is money to be made, the deal requires further evaluation to confirm all your initial figures, assumptions, and expectations. If you have prescreened your lead properly you should have most of the six essentials solidly in place before doing any further evaluation. But what are these essentials?
Step One: Determine Motivation
The first essential is the seller’s motivation for selling their property. This is readily obtainable by asking a simple, concise question, “Mr. or Mrs. Seller, is there a particular reason why you are interested in selling at this time?” You will find most motivated sellers will readily divulge this information, and those who question why you need this information typically have no motivation to sell. The answer to this question will not make or break a deal but, the answer is a great starting point in separating the deals from the duds. If the seller responds by saying, “I’m just trying to see if I can get my price…there is probably little motivation to sell and it is unlikely to result in a workable deal. On the other hand, if the seller responds by saying, “The property needs a lot of work and has been vacant for a while”, you may have a lead that justifies spending more time and paying closer attention.
Step Two: What is the Least the Seller Is Willing to Take for the Property
The next important piece of information you need from the seller is how much they are currently asking for the property. This is one of the most important questions you need to ask during your initial phone conversation. This will help determine whether or not the property is worth looking at and give you a starting point in the negotiations. Depending on how well you know the neighborhood you can sometimes determine the likelihood of a deal from the answer to this question alone. Occasionally you will have a seller who openly says “I am just looking to get out of debt.” This response doesn’t necessarily mean the deal is a slam dunk, as he or she may owe more than the property is worth, however, a response of this type always corresponds with some level of motivation. We will need more information to further classify the lead as a deal or a dud but seeing such motivating factors is a step in the right direction.
Step Three: Determine What the Seller Owes
The next important information about the property and general circumstance of the deal for us to determine, is the seller’s level of debt. This is an important piece of the overall equation and you should begin determining this in your initial phone call with the seller based on the lead interview sheet. Be sure to determine the total debt against the property and the composition of that debt whether it be a first mortgage amount, second mortgage amount, judgment lien amounts, IRS lien amounts, or some other form of debt. After you know the debt information and how much the seller wants for the property you can infer how much equity the seller thinks he has established. Again, this amount is just the seller’s perception of how much he or she is initially willing to sell the house for versus how much is owed.
Step Four: Estimate the Repair Costs
During you initial conversation with the seller try to determine a ball park figure for the repair costs for the property. Now, being the trustworthy people that all sellers are (mild hint of sarcasm), they always portray their property as being in much better condition then it actually is. There are a few leading questions you can ask that will make the seller divulge a bit more information about the property than might otherwise come to light. Asking the seller if the property needs work will probably get you nowhere. However asking, “If you were planning on staying in the property for an additional two to three years is there anything you would fix or replace?” This pointed question will go a long way toward helping you determine how much work the property needs and whether or not the property is worth visiting.
Step Five: Determining the After Repair Value and the As-Is Value
The final two pieces of initial information you need to properly classify the deal as worthwhile or not are the ‘As-Is’ and ‘After Repair’ values. To do this you will need access to comparable sales or “comps” as most real estate investors call them. You can get these comps from Realtors who use the Multiple Listing Service or online from a variety of different services. You want to locate comps that are geographically close to the property (1/2 mile or less), and similar in size and style to your subject property. This will help you determine the After Repair Value or what the property is worth when you are done fixing the property. These comparables will also help you determine the As-Is value of the property or what the property is worth as it sits right now. Like the repair figures, these values are only estimates until you can actually perform a more detailed on-site evaluation. At this point being aware of market values and the selling price of properties in the neighborhood in question becomes a very important piece of the puzzle. The better you know the specific area, the more accurate your in-office As-IS and ARV estimates will become. Knowing your market area well strengthens your ability to evaluate any deal.