How to Select an Exit Strategy for Any Type of Real Estate Market

Profits are certain if you understand the relationship between market conditions and exit strategies

Exit Strategies

Simply put, an exit strategy is your chosen method to convert a home’s equity into cash. This is how profits are made through each real estate investment you make. Market conditions will always help determine your game plan (exit strategy) for each property you buy. Your ability to identify each specific real estate market and assimilate strategic real estate investment exit strategies to these markets is crucial for your overall financial success. The main real estate investor exit strategies are listed below:

• Buying and holding long term – owning rental property and holding indefinitely, perhaps refinancing over time to harvest dead equity.
• Buying to hold short term – sell to tenant buyer (lease option/rent to own), sell tenant occupied to another investor at wholesale pricing or perhaps list the home for sale on the MLS through a Realtor. This type of deal could involve an existing home you may have rehabbed, a turn key house you acquired below market value, a new construction or a pre-construction home you acquired under market value.
• Wholesale or Retail Priced Rehab – Buying an “ugly” home, performing rehab and selling when the project is complete either below market value (wholesale) to another investor or at retail prices to an owner occupant buyer.
• Flipping a.k.a. “Wholesaling” – Buying or controlling a piece of real estate, performing no physical renovation to that real estate, marking the price up and then selling it very fast, usually within 90 days and at wholesale prices. Controlling the house utilizing a contract between you and the seller rather than buying the home outright is sometimes referred to as an assignment of contract or purchasing on an option. This exit strategy is also commonly called a “quick flip”. Essentially, you’re linking the seller of a cheap piece of property to an investor or would-be homeowner who wants a hot deal. In a transaction like this, you earn a set fee from the seller, the buyer or both. The set fee is what you choose to charge the parties involved for your help in setting the transaction up. You never actually “hold” or own the home. You are acting as a transaction coordinator.

There are four types of real estate markets which require an investor to match the above exit strategies to. These markets exist in every part of the United States and at certain predictable times. The rewards and pitfalls of your investment activities differ in each type of real estate market, so it is very important to know how to tailor your investment activities to ensure profitability in all market conditions.

Market Types:

Emerging (“hot”) market – This is an investor’s dream market. It’s nearly impossible to go wrong in this economic environment. Demand for real estate far exceeds supply. Appreciation can be as much as 10% per month! An emerging market can be caused by any number of factors such as a “baby boom”, senior citizens retiring to a warm climate, an increase in jobs in a given area, an increase in wages, a catastrophe wiping out large scale areas causing a rebirth of new construction, a “hot economy”, liberal bank lending guidelines or a sharp fall in interest rates. This is the market that creates millionaires many times faster than in other markets because banks are freely lending money to investors and home buyers. Any exit strategy will work in a hot market. It’s hard to not make money in this type of market because demand for homes is much greater than available supply. Be cautious however if your exit strategy is to buy and hold. The market may correct, leaving you overleveraged.

The Las Vegas and Florida real estate booms in 2000-2005 exemplify a hot market. Many investors bought into pre-construction deals in these areas with ambitions to sell their investments to owner occupant buyers when their projects were completed. A pre-construction deal involves finding a builder during an ongoing project or before a project begins, agreeing to purchase the pre-construction unit (home or condo) and then holding the unit or selling it while construction is concluding. Most builders required hefty down payments to break ground on these projects; but that didn’t matter to many investors who were routinely making $50K, $75K, even more than $100K per deal during the “boom”. Though this was a good strategy for many investors in two very good markets, time had begun to run out on some in 2006. Emerging markets don’t usually make it past five years. Many investors had massive nonrefundable down payments outstanding on their preconstruction homes when the market changed in early 2007 and had no choice but to walk away from their projects because home values had dropped so much during construction that it no longer made sense for the purchasing investor to close the deal with a required bank loan to finalize the acquisition. Its one thing to lose a $50,000 nonrefundable down payment/deposit by wisely walking away, but it’s another thing to have to close a finished construction project by acquiring a large purchase loan on a unit that’s worth tens of thousands of dollars less than what was anticipated – on top of putting that $50,000 deposit up.

Remember to be careful in hot markets as competition between investors is high which can cause “overbuying” or spending too much on a property. This causes home values to artificially inflate which is a precursor to a crash. Getting caught up in the frenzy of a hot market can lead to many ill-advised decisions. Also remember that hot markets are flashes in the pan and end as quick than they start.

Steady (“traditional”) market – Demand for real estate matches closely to supply. Everything is “normal” in this real estate environment. The economy is good, but not great. Jobs are plentiful, but not drastically needed. Wages allow people to afford homes and there are many good tenants out there as well. Expect 1-5% annual appreciation in this market coupled with a good outlook. Investors can do well in steady markets and can use multiple exit strategies to make money. One good investment technique in this market is buying, renovating and selling at retail prices for buyers looking for a home of their own to live in. If you can renovate a house, include better amenities and still price it thousands of dollars under homes in the surrounding area, you will do very well. For a buyer who falls short of qualifying for a home loan, you can allow them to lease your house while they prepare for an eventual purchase by building their credit and saving money (otherwise known as Lease Option, Lease with Option to Buy, or Rent to Own). This technique usually facilitates a profitable sale in due time and will steer you around any lender title seasoning issues. Make sure you master credit repair techniques and help your buyer raise their credit scores; or make it mandatory for them to see a credit repair specialist. This will allow the buyer to get a mortgage faster. Lease options can be dangerous though if a potential buyer knows the system and intentionally fails to make their monthly obligations to you. Make sure you collect a good sized non-refundable down payment to compensate for a potentially “street wise” buyer.

Flat market - This market is a precursor to a failing market. Jobs are being lost and people may be leaving the local area for better opportunities elsewhere. Divorce rates are high, wages are low, and personal bankruptcies are increasing. Overall outlook is bad. Houses are not appreciating because supply is outpacing demand. The good news for investors is that sellers are taking less for their homes and foreclosures are increasing. Banks are also taking less for each foreclosed home they sell. Rookie investors are running away while elite investors are whetting their palates in this market. This is a great economy to buy, rehab and sell at wholesale price points to investors looking to hold rental units. It is also a good market to wholesale flip ugly houses to investors who want to exhibit their own exit strategies. Unless you get a tremendous deal, avoid rehab flips at retail prices to owner occupant homebuyers in this market as housing inventory is growing and buyers can shop you for a better deal elsewhere.

Failing/declining market – the economy is ravaged by job loss and foreclosures. Banks aren’t lending money like they once were. Real estate is actually temporarily depreciating. Retail priced real estate sits on the market for years. Homeowners are desperately selling their homes at $10,000 to over $100,000 less than what their homes were worth a few years ago. Tenants are abundant but many of them won’t pay for very long. The best real estate investors are the only ones surviving and they’re wholesaling to inexperienced investors who are excited to get into the game. Expert investors that have mastered land lording are also buying to hold until the market improves. Some are providing seller financing to buyers who can’t seem to find bank financing. Foreclosures and ugly homes are everywhere – a Sunday drive through any neighborhood will reveal several vacant foreclosed homes. Banks in this market accept offers on their foreclosed inventory for less than half of what they used to in better times. Many sellers are able to work out a short sale with their mortgage lender(s) knowing they can’t sell at top dollar like in years past. In a failing market, it’s possible to buy homes for prices below what they cost to build.

It is exponentially harder to profit in a failing market as there are fewer people with credit and jobs to either rent or buy a housing unit. Make sure you have good business partners as a security blanket in this market. If you’re inexperienced and don’t have a network of real estate professionals and buyers in place, be ready to wait until the market improves. If not, then buy low and be prepared to sell low (wholesale to other investors and homeowners that want a great deal) so you don’t wind up holding the bag.

Remember that in every market your personal financial situation dictates if you can actually buy a property or not. Being a middleman (otherwise known as being a transaction coordinator, a bird dog, purchasing on an option, or assigning a contract) works in all market conditions with little or no risk as you are not buying real estate but rather facilitating a transaction between other parties for a fee you set.

Your ability to sell real estate investments for profit whether they are yours or other people’s in any type of market, is dictated by what banks are willing to do for your potential buyers. In the failing market, which has been ongoing since 2008, banks are doing very little lending and way too much appraisal scrutinizing, which ultimately kills deals. Currently, if you intend to buy low and try to sell for a profit, mortgage lenders will pick through the appraisal in an attempt to figure out ways to chop the value of the subject house down to protect their lending interests. Lenders hate lending money to the buyers of houses that an investor is trying to make tens of thousands of dollars on; they view this as “equity stripping”. FHA lenders want investors to own the subject house for at least 90 days before trying to sell to a third party. Conventional lenders generally want to see a seller own the subject home being sold for a minimum of one year.

So where does that leave you in this tricky era? Hopefully watching the numbers of every house you try to buy and making a good appraiser your best friend so they can steer you to the right areas to buy in. Match the local economy you want to do business in to the appropriate exit strategy. The current market is dictating “under market value” pricing and seller financing as reliable exit strategies. You must buy really low and provide good deals for others – whether you’re renovating homes to sell or wholesaling un-rehabbed homes to investors looking to do their own rehab flips. In suburbia, it’s wise to build in better amenities than other locally listed houses and still offer lower than average pricing. In lower income areas, you must provide cheap but nice rehab work and outstanding pricing with seller financing or down payment assistance. Seller financing is a tool that reigns supreme now because banks aren’t offering zero down loans like they used to. This means you can step up and give a slice of equity away to suffice as your buyer’s down payment and steer them to note buyers to complete the financing process – instead of steering your buyers toward traditional banks and mortgage lenders.