There are a handful of different ways to get started in real estate. What works for one investor may not work for someone else. When looking for deals, everyone is in search of a bargain. The perception is that the lower the purchase price, the bigger deal it is. This may not always be the case. There are many properties that you can buy for practically nothing that can end up costing you money. Alternatively many of these properties turn out to be a real home run. It all depends on the specific property, your goals, and how you go about handling them. A low cost property can make or break your real estate portfolio. Here are a few things to think about before your next low cost purchase.
- Market Knowledge. A low cost property refers to any purchase under 50,000 dollars or one you can get at a severe discount. To get the steepest reduction from market value, the property either needs an extensive amount of work or be located in an undesirable location. In most cases, it is a combination of both. The first thing to consider with a lost cost purchase is the location. Getting a property for pennies on the dollar doesn’t do you much good if you can’t do anything with it. You need to know everything about the property, the street, and the surrounding area. Take a look at some comparable listings and recent sales. See what properties are in the rental market and what they offer. If you can’t do anything with the property, it will end up doing you more harm than good. However, if the area looks like it is primed for a resurgence, you may be sitting on a property poised to take off.
- Cost Of Repairs. Most inexpensive properties require a large amount of repairs. These properties are often decades old and haven’t been updated in years. Cosmetic items and other basic upgrades are often only the tip of the iceberg. With these properties, there are often major repairs that are needed for the foundation, structure, electrical and plumbing. These updates will add up quickly and end up breaking the bank. Doing work just for improvement sake may not give you a return on your investment. If the expenses are too high and the market does not have demand, you will not recoup your investment. Your worst case scenario of selling for a small profit may not be realistic. The cost of repairs estimate is typically much higher than you anticipate with these properties. Even if you only make basic updates, you need to secure the safety of the property. The items you find from an inspection are often a laundry list of things you need to do. You never know what the motivation is of a seller, but before you buy any discounted property, you need to check, and double check, your cost of repairs.
- Exit Strategy. What is your plan if you acquire the property? A D class property may leave you struggling for options. If you decide you want to rehab and flip, what is the current market? A common mistake that many investors make is adding too much value on the updates they make. Improvements are always a plus, but you need to look at your market. It is very rare that you will set a new benchmark for price regardless of the work you do. You can put lipstick on a pig but it will still be a pig. If you don’t opt to flip, you can think about renting. This can lead to a whole new set of problems. Now you have to deal with tenants and running a property that probably doesn’t offer much cash flow. A final option could be wholesaling. With this, your margins are smaller, but you can get in and out of the deal without risk and in a much shorter timeframe. The problem with this is that you may have already bought at the absolute bottom. If there were other investors who were interested, they would have found a way to buy before you. With low cost properties, you need to have multiple exit strategies before you consider an offer.
- Uncertain Appreciation. Anytime you make improvements to a property, there is some amount of uncertainty. You never truly know how the market is going to react. This is even more the case with a low cost property. The odds are that there are little to no comparable sales in the area. You can make an assumption as to what you can list at, but you never really know until you do. This can leave you with a decision to make. Do you buy the property and spend money on the repairs hoping that you can hit your target sales price? Do you walk away and allocate your funds on a safer investment? If you ask ten investors, five will side one way and five will opt for the other. What is almost universal is that flipping these properties in uncertain markets is certainly riskier. You may hit one out of the park but you may also struggle to break even.
Different investors have different strategies. Never get talked out of following what you believe in based on one investor’s opinion. If you think low cost properties are for you, then go with it full steam. If you are not comfortable with the risk, find a better alternative. Either way, always do your homework and make any decision your own.