Mental Accounting Pitfalls

[Joshua Michael Hauman]

I have witnessed countless individuals fall victim to the pitfalls of mental accounting when it comes to their property investments. I know wholesalers that have booked a vacation expecting an assignment fee only to be dismayed when their buyer backs out. I know syndicators that lost their shirt on a deal when they accounted for cashflows from the property to fund renovations rather than being oversubscribed on their raise.

Mental accounting refers to the tendency of categorizing and assigning different values to our financial resources based on subjective criteria, rather than objectively evaluating their true worth. One common mistake I have observed is funding future renovations solely based on asset cashflows or spending money that is yet to be acquired. This approach can lead to overestimation of available funds and significant financial setbacks.

To avoid this perilous trap, it is crucial for experienced real estate investors to raise more capital than they initially believe they require, especially as it relates to renovations. Not to mention there can be unexpected expenses or market fluctuations that may arise during the process. This prudent approach ensures you have the necessary financial resources readily available, preventing delays, eating into NOI and potential project failures.

Moreover, proper budgeting is an indispensable tool for mitigating mental accounting biases. By meticulously outlining a detailed budget or scope of work that accounts for all expenses, you solidify the bedrock of your financial plan. This not only helps avoid overspending but also enables you to make informed decisions based on accurate financial projections.

Hope this helps and acts as a tool for your journey towards truth and sound investing.