What could go wrong?

Question

I have read many books on REI and various online resources as well. It seems like there is far too much "puff" in many books. The whole line about how easy REI can be and how profitable. Anytime there is high profit potential there must be high risk. I want to start doing some REI, but I would really like to hear from experienced investors about the downside or risks that can occur. I don't mean to be negative and I understand the whole fear factor with investing. I just want to be able to evaluate the risks before I take the plunge. Thanks in advance for your comments.

Jeffrey K. · Answer

Matt,
          I think you are going to run into problems not having any money.  There is no such thing as making money in this business without spending any.  It can be done with little, but is very hard for n00bs.  Most people starting out have to use their own money.  I would advise trying a rental first so you start to understand some of the numbers and systems of a house (unless you are already a pro) with a less risky investment.

Steve Babiak · Answer

One of the more difficult "risks" to understand is: "risk of lost opportunities".  While you are all worried about the risks you are going to undertake, you worry yourself out of possible deals that could be sure-fire winners.

Brian Haskins · Answer

It completely depends on what type of deal your doing. If you are wholesaling and you have good contracts and play by the rules you really donâ€™t have any risk. You can bring risk on yourself by not doing what you say in your contract like waiting until the last minute. Honestly your mindset has a lot to do with if you will be successful or not and it sounds as if you maybe shooting yourself in the foot before you start. Like I said there can be lots of risk but, as you get educated you will find out how to eliminate risk. This will really depend on you and what type of investing you plan on doing and if you do your homework and protect yourself.

Brian Haskins

Jeff B. · Answer

The other things when you are starting out is that you will always miss something to be fixed on the walk through.  The rehab estimate or labor figures will be to low.  The % for unexpected things should be about 15% of your total budget until you get more experience.

Additionally not inspecting or accounting for bigger ticket expenditures like (HVAC, flooring, roof, plumbing, electrical, foundation, and appliances) will reduce your profits the fastest.  For the HVAC and appliances you can get the info on how to read the date codes from the manufacturer serial number of the internet.

For any HVAC system or appliance that is 10 years old account for a service call and for 15 years account for replacement.

The last piece of advice is to start small and to Not rehab any property were the rehab costs are more than 30 % of your total purchase price.  This should be left up to the guys with more experience.

Matt Eilers · Answer

Rehad-
No your numbers WELL!!!

Use a conservative out price as if you are trying to move quickly, you usually won't get absolue top dollar.

Know your market and when the Buying season is.  If you get your place all ready to go and the season just ended-lost a lot of potential buyers.

Get into as many houses as you can (open house, with a realtor...).  That way you can track what they eventually sold for and have a good idea of your out price when you do buy a place.

If you have an agent, have them pull sales comps on similar style of properties as to what you would be buying.  Do a days on market for a variety of things such as bdrms, sq.ft...
I was in an area with a rehab that was a big family (everyone seemed to have 2-4 kids).  Lots of 3 bdrms. on the market but not many 4  or 5 bdrms.  Found out that 4 bdrms had a much faster DOM due to demand for the type of area I was in.
Figure out what the 2-3 motivating factors are for your market and try to stay within these parameters for your rehab (unless you find an absolute smokin deal on something else).

Bargain hard on the buy price.  IMO- this is where you make your money.

Rehab- as was pointed out, don't let it get out of hand.  You can go all out on everything but that doesn't guarantee a profit.  I usually like the paint, carpet, slight kitchen/bathroom upgrades type of place.

I once went into a home with a great view, nice sq.ft and was underpriced on paper.  Couldn't figure out till I walked in, pink kitchen countertops and god awful carpet. I guess most Buyers did a U-turn, 1st words out of my mouth were "I love this place" :-)

Consider staging (depending on your market) or staging 1-2 key rooms so the Buyer can envision living there.  A completely bare room is not that inviting.

Downside- 
1)if you can't sell still paying mortgage every month.

I also reviewed the rental market (how hard it was to rent and the price I could get) in case that was my fall back position. I tried to stay in price points that worst case, i could rent to cover or almost cover mortgage.

2) more costs of rehab than you imagined (mold, water damage, bad wiring...). Hence, I like sticking to basic asthetic rehabs.

Also, I found a structural engineer that did home inspections. Cost me about $300 more than a regular home inspector but it was the most comprehensive report I ever received.
If you are unsure of electrical, plumbing problems in a house you are looking at... or a speciality issue, then get a specialist out their during the home inspection phase.
Better to pay a few hundred more upfront and walk from the deal if you found something bad, than find it once you own it.

Best of luck.

Don Hines · Answer

I am sure I can learn more that can go wrong. I sold my first rehab just about this time last year. I considered it my learning experience so, I really wasn't expecting a profit even though I had one built into the proforma. Here is where it went wrong...
With the wave of a hand, my wife said "lets's knock this wall down". I said "we got plenty of profit in it so OK". Then with a wave of my hand, I said "let's replace these crappy windows". ETC, ETC, ETC.
We ended up overdoing the house for the neighborhood with other stuff like fancy custom light fixtures, building decks etc. $Five$ Hundred here $700 there, about $1200 in electrical and $2000 in plumbing that were surprises. I also learned not to tear into walls. My profit and more was gone. I lost about $4000 on the deal. 
But, I loved every minuet of it. Learned to not enter any deal with less than $20k figured for profit and hope to make $15k.
Don

Matthew R. · Answer

Just a quick update. I have started running some online ads and ordered business cards. I attended my first REIA meeting this morning (20+ people in attendance) and I had no problem keeping up with the discussion. I have started putting together a "seller profile" form to use when I actually start talking to property owners. I did some driving for dollars and found two vacant homes.

I think my next step will be sending out some direct mail to the vacant home owners and to probate leads.

Any thoughts?

Thanks!

Account Closed · Answer

There are many things that can go wrong.  Having a plan and educating yourself on your market and the strategy or strategies you intend to use is very important.  To begin purchasing property with out a clear plan will eventually lead you into trouble.

You will want to know the market you are investing in as well, if you don't then you will want to find qualified advisers to help you.

Leverage is a good thing.  To much leverage usually leads to negative cash flow.  Some may try this with the hope of future appreciation making up the difference.  I n my opinion this is a poor strategy especially sense there are properties that will cash flow.

You will need to have at least some money to invest with.  There are some strategies that require significantly less money, but some money is necessary.  If you are without money, you will need something else that you can offer to a partnership.

When you start out you will want to learn the legal environment you are working in.  Find good agreements and contracts and in y opinion you should have a lawyer review your contracts to insure that they are enforceable and cover the risks associated with the deal you are involving yourself in.

Matthew R. · Answer

Jeff, thanks for the advice.

Todd Gustafson · Answer

Mr. Keating, I'm exactly where you're at in this game. I'm ready to do my first deal but there are sooo many factors.

Good luck to you and let us know when you buy the 1st property.