My letter to the Future

To start, I love to teach, and love learning even more. So please comment on anything you feel the need to. This is a brief summary of an analysis document I sent him in order to teach him the basics. Feel free to contact me and discuss the blog or future business propositions. (Note: The numbers are not exact, as they are being used to teach, not to execute. I also understand that this letter makes more sense if you can see the attachment, but I can't get it to convert to a photo just yet.)

Jimmy,

Glad to see you are doing ok.

Attached is the property analysis for the Condo you sent me. The explanation is as follows:

There are 5 major Return on Investment (ROI) controls that each "Investor" looks for in order to ensure the risk on an investment is minimal while the return is maximized. They are Appreciation, Depreciation, Cash flow (Cash on Cash return), Principal Reduction (Equity), and Forced Appreciation. When analyzing a property, we try to ensure we can utilize all of them if possible. In some cases, there is a super deal utilizing one or more of them, but ideally, we want to try and use them all. So during the analysis, the process is always the same for each class of property.

Market Analysis (Antonio, Tx)

-Median Purchase Value (MPV)

-Median Sales Value (Comparable)

-Market Rent

Sub Market Analysis (Bexar County)

-Median Purchase Value (MPV)

-Median Sales Value (Comparable)

-Market Rent

Neighborhood Analysis ( Alamo Community College)

-Median Sales Value (Comparable)

-Average time on market

-Vacancy Rates

-Market Rent

Property Analysis (See Attachment and follow along)

Note: All information was based on the 1B/1B condo type of property. This changes based on the type and number of Beds and Baths.

The asking price of the property is more or less irrelevant in relation to the rest of the information. In real estate, we make our money when we buy, not when we sell. So what someone else is asking for it does not mean that is how much it is worth. The properties are sold on a Dutch Auction based system. An asking price is put on the market, and the price continues to drop every few months until there is a buyer interested, or the seller is unwilling to go any lower. Because of this, we use the (MPV) in order to determine what the current "market" is more likely to buy. (Median in real estate means middle value, not average, on a highest to lowest scale). In this case, the MPV is $241,000. Right off the bat, you can see that it is less than your asking price, which means that your current Purchase Value (PV), if bought at the asking price or higher, may not sell well in the market at this time. Then we look at the Comparable Sales Value for your property type, and we see that it is at about $270,000. this gives us our Estimated Sales Price. This means, that if everything works out perfectly, we can sell for that price after repairs. Comparing the purchase price to the Median Neighborhood Price will give you your estimated forced appreciation buffer. Allowing you to determine how much money your property could be worth after making it "up to par" with the rest of the homes.

Next we calculate the total repairs, Quiet Costs, and profit margins In Order To (IOT) deduce what our minimum offering price is.

There are no known repairs that need be made, so all values are assumed to be 0. Quiet Costs are all the little subtle costs of buying a house in the first place. These costs are almost always overlooked and need to be calculated IOT prevent massive, unexpected losses. As you can see, the total quiet costs are pretty high. If you did an analysis without this, and thought you would be making $30,000 profit, you would actually already be behind $5,000. (Note: These costs are still calculated for a Rental property, just independently. For the ease of this explanation, we will defer it to a later conversation, as it is a bit more complex. For now, the Quiet costs will be included into the Down Payment for the Rental Analysis.)

After the Quiet costs, we calculate our profit margin. This deduction is designed to identify a solid purchase price that has this included, therefore reducing the risk involved when purchasing. If you notice, the Risk Prophet is calculated also IOT compensate for unknown issues within a project based on the amount of improvement costs required to fix it up. The Risk prophet percentage goes up, as the improvement costs per sqft increases( the crappier the house, the more problems that can come up).

The wholesale value is 0 right now, because I am not wholesaling the house to you. If it were a good investment property that I found, not you, then I would lock it down, and try to find an investor to take it from me for a whole sale profit. Usually about 3-5% of the properties value. Sometimes, there is also a "watch dog" or "Consultation" fee involved which you would also reduce from the total value of the property. This fee is for someone like me, who receives a fee when a property proves to be a good investment for the investor that I am helping. Either I found the property for them and they pay me for finding it, or I help them in the same manner as you, and they pay me for ensuring they are successful. Neither one of these I require from you yet, seeing as this property is no good. But if I found it good and a solid investment, and you were to purchase it, you would be required to pay me either one of those fees based on my services. That is just good business, and the same would be done for you if the situation was ever reversed.

After all this is said and done, finally, the Maximum Asking Price is calculated after deduction all the required investment costs from the Estimated Sales Price (ESP). You will notice that it is much lower than the asking price, and unless the seller has a genuine need to sell. You probably wont be making a deal.

Now all of the above mentioned analysis was for calculating Forced Appreciation ROI. With your current numbers, you can see, that there is no potential in this property for such returns. So scratch that one off the ROI list. Next we calculate the Cash Flow and Appreciation ROI IOT determine wealth building potential.

The Market rent that was previously researched gives us the approximate positive potential, and is our foundation for this part of the analysis. This value is monthly, and must be converted to annual IOT calculate Vacancy Rate deductions.

Mortgage/Loan PITI is the sum of the Mortgage payment which includes the Principal, Interest, Taxes, and Insurance. If they are included in the Mortgage payment (like in NC), then it is simply that one payment value. As you can see, your value is higher than the Market rent, which already means you will be taking a loss every month. But how much exactly?

Vacancy Rate is the amount of time that you property will be vacant through out the year and is expressed in a percentage. For 1B1B condos in that area, your property will be vacant approximately 10% of the time. This value is calculated against your Total annual income (10% of your annual income will be lost due to having no tenant).

Maintenance costs are a calculated IOT prevent loss due to a tenant just living within your property (includes utilities as well if not already contracted to the tenant). This factor is increased based on the age of the home. The condo is relatively new, and should not require much maintenance. You can also require that the tenant be responsible for the repairs of the property, allowing you to 0 out this factor. Be aware this may cause issues on the back end due to tenant laziness.

Now we convert them to annual and subtract them from the Annual Property income IOT determine our Annual Cash flow. With a $-6000/yr value, I am sure you can guess what kind of property this is turning out to be. But is it a bad deal?

To determine whether the investment potential is there, we have to calculate the total ROI for the property as a whole. We include all 5 factors and decide whether the deal is solid, or a dud.

If the required minimum Down Payment (DP) is 10% of the PV, then you are looking at $26,400 invested "pre flop" so to speak. If we take the total annual Cash Flow and divide it by the total invested, we get $-6,000/$26,400 and come up with -.2273 or -22.73% ROI. That means, that by the end of 4 years, you would lose almost double the amount invested (putting you at -$50,400).

Now comes the tricky part, analyzing the Appreciation and Expected future value of a property. Real estate has historically fluctuated every 10 years with the exception of the market boom in 2007 due to the Adjustable Rate Mortgages (ARM). In other words, properties will rise and fall every 5 years, and will historically always rise more than they fall. This concept is simple as there are more people then there is land and houses. Typically, the market will switch once the price for owning a home is equal to or less than the price of renting a home. If 2010 marked the fall of the real estate market, then 2015 should be the markets return. Which means as of right now, we should be looking for Appreciation potential as a viable means to create ROI.

After looking at the link below, you will find the tax record for the property you asked me about. You will see that the market value of the condo is actually upwards of $500,000 with $321,000 dollars of improvement value. This means that your property now has a potential to sell for the last purchase price before the market crash, assuming you hold onto it for that long. Remember, we already calculated that the total ROI after 4 years would look something like -$50,000 or more. So we put that against the estimated future sales value after each consecutive year. 1 year later would be at -$32,400 (26,400+6000), while year 2 would be at -$38,400, and so on.

Does the total loss over the duration of those years make up for the potential gain received from appreciation? Possibly yes, but are we maximizing our investment? No. Because we could use neither Cash Flow, nor Forced appreciation. Because there is no immediate ROI, we have to wait and hope we can sell it once it either reaches the BREAK EVEN POINT (which would be $270,000 within the first year, and increasing $6000 dollars every consecutive year), or appreciates to the point where we can create a profit.

Lastly, we have the two ROIs that automatically happen due to having a rental property in the first place (with a few exceptions). Depreciation is already going to be calculated into your Tax requirement and is basically your properties total value split up into 27.5 years depending on where you live and is fractioned as a tax deduction(consult your CPA for specifics). And Equity is acquired just because you have been making your mortgage payments.

Total Property Analysis ROI for 1st year($26,400 invested):

Cash flow: -22.73%

Forced Appreciation: 0%

Depreciation: +32%

Appreciation- Estimated +1.6%

Debt reduction- Approx. +16%

Taxes: -3%

Inflation: -4%

Total annual ROI: +19.87%

(Note: Its easy to forget this is ROI, using the $26,400 invested as the base, not the PV.)

As you can see, you will be getting close to 20% ROI with this property without any passive income or forced appreciation. But does that make this property a good investment? That is what makes a good investor! The ability to identify an opportunity that others do not see, and capitalize on it. Other factors may improve or hurt the investment, such as a new school being build next to it, a mall, or up coming construction, or zoning, all these can be researched if you really want to see if this is a jewel. However, by this time, you are reaching approximately 2-3 hours on one property just to find out if its going to be good in the long run. The cash will come and go...the most precious recourse you are ever going to invest is your time my friend. Use it wisely.

Also note, there are many things that have to be done after the property analysis. At each stage of the purchasing process, you could find something that makes the property a dud. Ensure you are consulting a mentor before diving head first into a property that your analysis "proves" is a solid investment.

If you have any further questions, please don't be afraid to contact me or email. I am always open to teaching and learning. Below are a few websites that I used to research. Use them if you like in order to aid you in your investing ventures.

r/s,

Greg Berkley

Real Estate Investor/Advisor

Real Solutions Group