Investing in Real Estate

GARY W. ELDRED, PhD is the bestselling author of The Beginner’s Guide to Real Estate Investing, The 106 Common Mistakes Homebuyers Make (and How to Avoid Them), Trump University Real Estate 101, and many others. He is a leading real estate authority whose Fortune 500 clients have included Wells Fargo, Georgia- Pacific, and Century 21. He frequently speaks at national investment conferences and has served on the graduate business faculty at Stanford University, the University of Illinois, and the University of Virginia.

• Acknowledgments xixPrologue: Invest in Property Now xxi1 Achieve a Prosperous Future: 22 Ways You Can Earn Profits with Property 122 Sources of Profit from Investment Property 2Will the Property Experience Price Gains from Appreciation? 2Will You Gain Price Increases from Inflation? 4Earn Good Returns from Cash Flows 5Magnify Your Equity Gains with Leverage 5Magnify Returns from Cash Flows with Leverage 6Build Wealth through Mortgage Payoff 7Over Time, Returns from Rents Go Up 7Refinance to Lift Your Cash Flows 9Refinance to Pocket Cash 10Buy at a Below-Market Price 11Sell at an Above-Market-Value Price 11Create Property Value through Smarter Management 12Create Value with a Savvy Market Strategy 12Create Value: Improve the Location 13Convert from Unit Rentals to Unit Ownership 13Subdivide Your Bundle of Property Rights 14Subdivide the Physical Property (or Space within a Property) 15Create Plottage (or Assemblage) Value 16Obtain Development or Redevelopment Rights 16Diversify Away from Financial Assets 18Is Property Your Best Investment Choice? 182 Opm: Borrow Smart, Raise Cash, Build Equity 21The Birth of “Nothing Down” 22Should You Invest with Little or No Cash or Credit? 23What’s Wrong with “No Cash, No Credit, No Problem”? 23Leverage: Pros and Cons 26What Are Your Risk-Return Objectives? 32Maximize Leverage with Owner-Occupancy Financing 33Owner-Occupied Buying Strategies 34Current Homeowners, Too, Can Use This Method 34Why One Year? 34Where Can You Find High-LTV Owner-Occupied Mortgages? 35What Are the Loan Limits? 35High Leverage for Investor-Owner Financing 37High Leverage versus Low (or No) Down Payment 37Creative Finance Revisited 37Are High-Leverage Creative-Finance Purchases Readily Available? 45Build Confi dence with Lenders, Investors, Sellers, and Sales Agents 46Credit Scores and Credit Record 48Capacity (Monthly Income) 48Cash Reserves and Source of Down Payment 50Collateral 51Loan-to-Value Ratios 51Recourse to Other Assets or Income 52Character 53Competence and Experience 54Compensating Factors 54Automated Underwriting (AUS) 553 Appraisal: Ins And Outs Of Market Value 57What Is Market Value? 58Sales Price Doesn’t Necessarily Equal Market Value 59Underwriting Rules Determine the Value in LTV 59How to Estimate Market Value 60Property Description 61Identify the Subject Property 68Neighborhood 68Site (Lot) Characteristics 69Improvements 70The Cost Approach 71Calculate Cost to Build New 71Deduct Depreciation 72Lot Value 73Estimate Market Value (Cost Approach) 73The Comparable Sales Approach 75Select Comparable Properties 75Approximate Value Range—Subject Property 76Adjust for Differences 76Explain the Adjustments 77The GRM Income Approach 78Income Capitalization 80Net Operating Income 80Estimate Capitalization Rates (R) 83Compare Cap Rates 84Relative Prices: The Paradox of Risk and Appreciation (Depreciation) 85Valuation Methods: Summing Up 86Appraisal Limiting Conditions 87Valuation versus Investment Analysis 874 Maximize Cash Flows and Grow Your Equity 89Will the Property Yield Good Cash Flows? 89Arrange Alternative Terms of Financing 91Decrease (or Increase) Your Down Payment 92Buy at a Bargain Price 94Should You Ever Pay More than Market Value for a Property? 95The Debt Coverage Ratio 97Numbers Change, Principles Remain 97Will the Property Yield Profi table Increases in Price? 98Low-Involvement versus High-Involvement Investing 99Compare Relative Prices of Neighborhoods (Cities) 100Undervalued Neighborhoods and Cities 101Beverly Hills versus Watts (South Central Los Angeles) 101Demographics 103Accessibility (Convenience) 103Improved (Increased) Transportation Routes 104Jobs and Economic Base 104Taxes, Services, and Fiscal Solvency 105New Construction, Renovation, and Remodeling 106Land-Use Laws 106Pride of Place 107Sales and Rental Trends 107Summing Up 1095 Pay Less Than Market Value 111Why Properties Sell for Less (or More) than Market Value 112Owners in Distress 113The Grass-Is-Greener Sellers 114Stage-of-Life Sellers 115Seller Ignorance 116Prepare Screening Criteria 117Bargain Sellers 118Networking/Get the Word Out/Social Media 118Newspapers and Other Publications 119Cold Call Owners 119Agent Services 121Internet Listings 124Seller Disclosures 124The Disclosure Revolution 125Income Properties 126Summary 1266 Profit with Foreclosures 127The Foreclosure Process 128Lender Tries to Resolve Problem 128Filing Legal Notice 128The Foreclosure Sale 129REOs 129Buy Preforeclosures from Distressed Owners 130Approach Owners with Empathy 131The Difficulties of Dealing Profitably with Owners in Default 131Prequalify Homeowners and Properties 134Finding Homeowners in Default (Prefiling) 135Networking 135Mortgage Collections Personnel 135Drive Neighborhoods 136Find Homeowners (Postfiling) 136Cultivate a Relationship with Property Owners 137Two More Issues 137Vacant Houses 139Satisfy Lenders and Lien Holders 140All Parties Are Better Off 141Win by Losing Less 142Profi t from the Foreclosure Auction 142Why Foreclosures Sell for Less than Market Value 143Make the Adverse Sales Efforts Work for You 144How to Arrange Financing 145The Foreclosure Sale: Summing Up 1467 Profit from Reos and other Bargain Sales 147Sad for Sellers and Builders, Bargains for You 147How to Find REOs 148Follow Up with Lenders after Foreclosure Sales 148Locate Specialty Realtors 149HUD Homes and Other HUD Properties 150Homeowners versus Investors 151As-Is Condition 151Potential Conflict of Interest 152Buyer Incentives 153The Bid Package 153Department of Veterans Affairs (REOs) 153Big Advantages for Investors 154Fannie Mae and Freddie Mac REOs 155Agent Listings 156Investors Invited 156Federal Government Auctions 157Buy from Foreclosure Speculators 157Probate and Estate Sales 158Probate 158Estate Sales 158Private Auctions 159How to Find Auctions 1608 Profit by Creating Value 163Fix, Sell, Profit! 163Your Fixer-Upper Search 164The Browns Create Value in a Down Market 165Research, Research, Research 166Improvement Possibilities 167Deep Clean the Property 167Add Pizzazz with Color Schemes, Decorating Patterns, and Fixtures 168Create Usable Space 168Create a View 169Capitalize on Owner Nearsightedness 170Eliminate a Negative View 170Enhance the Unit’s Natural Light 171Reduce Noise 171Required Repairs and Improvements 172Plumbing 172Electrical System 172Heating and Air Conditioning 173Windows 173Appliances 173Walls and Ceilings 173Doors and Locks 174Landscaping 174Storage Areas 174Clean Well 174Safety and Health 175Roofs 175Improvements and Alterations 175You Can Improve Everything about a Property—Including Its Location 175South Beach: From Derelicts to Fashion Models 176Community Action and Community Spirit Make a Difference 177Neighborhoods Offer Potential 177What Types of Improvements Pay the Greatest Returns? 178How Much Should You Budget for Improvements? 179Beware of Overimprovement 179Other Benefits 180No-No Improvements? 180Budgeting for Resale Profits 181Estimate the Sales Price First 181Estimate Costs 181Future Sales Price – (Costs + Profi t) = Maximum Acquisition Price 182Comply with Laws and Regulations 183Should You Buy a Fixer-Upper? 184Too Little Time? 184Put Your Creativity to Work 1859 More Techniques to Profit With Property 187Lease Options 187Here’s How Lease Options Work 188Benefits to Tenant-Buyers (an Eager Market) 188Benefits to Investor-Sellers 190The Lease Option Sandwich 191How to Find Lease Option Buyers and Sellers 192A Creative Beginning with Lease Options (for Investors) 192Lease Purchase Agreements 193Seems More Defi nite 193Amount of the Earnest Money (Option) Deposit 194Contingency Clauses 194Conversions 194Condominium Conversion 195Convert Apartments to Office Space 196Tenants in Common 197Master Leases 198Assignments: Flipping Purchase Contracts 200Summary 20210 Negotiate a Win-Win Purchase Agreement 203Win-Win Principles 204The Purchase Contract 207Names of the Parties 208Site Description 208Building Description 208Personal Property 209Price and Financing 210Earnest Money Deposit 210Quality of Title 211Property Condition 212Preclosing Property Damage (Casualty Clause) 212Closing (Settlement) Costs 213Closing and Possession Dates 214Leases 214Contingency Clauses 216Assignment and Inspection 217Public Records 217Systems and Appliances 218Environmental Hazards 218No Representations 218Default Clause 219Summary 22111 Strategic Management Builds Equity 225The 10:1 Rule (More or Less) 225Think First 226Know Yourself 227Know Your Finances 228Know Your Capabilities 228Smart Strategic Decisions 229Tailor Strategy to Local Markets 229Craig Wilson’s Profi t-Boosting Market Strategy 229How Craig Wilson Used Market Information to Enhance Profitability 232Results 236Cut Operating Expenses 236Energy Audits 237Property Insurance 237Maintenance and Repair Costs 240Property Taxes and Income Taxes 241Add Value: Closing Words 24112 Develop the Best Lease 243The Mythical Standard Lease 243Your Market Strategy 243Search for Competitive Advantage 245Craft Your Rental Agreement 246Names and Signatures 246Joint and Several Liability 247Guests 247Length of Tenancy 247Holdover Tenants (Mutual Agreement) 248Holdover Tenants (without Permission) 248Property Description 248Inventory and Describe Personal Property 249Rental Amounts 249Late Fees and Discounts 250Multiple Late Payments 250Bounced Check Fees and Termination 250Tenant “Improvements” 251Owner Access 251Quiet Enjoyment 251Noxious Odors 252Disturbing External Influences 252Tenant Insurance 253Sublet and Assignment 253Pets 253Security Deposits 254Yard Care 255Parking, Number, and Type of Vehicles 256Repairs 256Roaches, Fleas, Ants 257Neat and Clean 257Rules and Regulations 257Wear and Tear 257Lawful Use of Premises 258Notice 258Failure to Deliver 258Utilities, Property Taxes, Association Fees 259Liquid-Filled Furniture 259Abandonment of Property 260Nonwaivers 260Breach of Lease (or House Rules) 260No Representations (Full Agreement) 261Arbitration 261Attorney Fees (Who Pays?) 261Written Notice to Remedy 263Tenants’ Rights Laws 263Tenant Selection 263Property Operations 265Evictions 265Landlording: Pros and Cons 266Possibilities, Not Probabilities 266Professional Property Managers 26613 Create Promotions That Sell 269Design a Winning Value Proposition 269Yet Generic Prevails 269USP versus WVP 270Craft Your Selling Message 272Use a Grabber Headline or Lead 273Reinforce and Elaborate 273Add Hot Buttons 273Establish Credibility 274Compare to Substitutes 274Evoke Emotional Appeal 274Reduce Perceived Risks 274Make It Easy for Prospects to Respond 275Follow Up with Your Prospects 276Reach Potential Buyers 277For Sale Signs 277Flyers and Brochures 277Networking (Word of Mouth) 278Websites and Links 279Sales Agents 279Should You Employ a Realty Agent? 279Services to Sellers 279Services to Buyers 280Co-Op Sales 282Listing Contracts 28214 Pay Less Tax 285The Risks of Change and Complexity 285Homeowner Tax Savings 286Capital Gains without Taxes 286Rules for Vacation Homes 287Mortgage Interest Deductions 288Credit Card Interest 288Rules for Your Home Offi ce 289Depreciation Expense 289Land Value Is Not Depreciable 289Land Values Vary Widely 290After-Tax Cash Flows 290Passive Loss Rules 292Taxpayers in the Real Property Business (No Passive Loss Rules) 292Alternative Minimum Tax 293Capital Gains 293A Simplified Example 293The Installment Sale 294What’s the Bottom Line for Sellers? 295Implications for Buyers 295Tax-Free Exchanges 296Exchanges Don’t Necessarily Involve Two-Way Trades 296The Three-Party Exchange 296Exchanges Are Complex but Easy 297Are Tax-Free Exchanges Really Tax Free? 298Section 1031 Exchange Rules 299Reporting Rental Income and Deductions 300Tax Credits 301Complexity, Tax Returns, and Audits 303Use a Tax Pro 305Property Taxes 306Summary 30815 More Ideas for Profitable Investing 311Out-of-Area Investing 312Reasons to Invest Elsewhere 312What about Property Management? 313Tenant-Assisted Management 314Property Management Companies 314Emerging Growth Areas 314The Creative Class 314Implications for Investing in Real Estate 315Right Place, Right Time 315Emerging Retirement and Second-Home Areas 316Which Cities and Areas? 316Income Investing 317Out-of-Area Caveats 317Commercial Properties 318Low Effort Management 319The Upside and Downside 319Opportunity for High Reward 320Commercial Leases Create (or Destroy) Value 320Triple Net (NNN) 322Self-Storage 323Mobile Home Parks 325Profitable Possibilities with Zoning 327Tax Liens and Tax Deeds 327Localities Differ 328Are Tax Liens and Tax Deeds an Easy Way to Make Big Profits? 328Discounted Paper 328What Is Discounted Paper? 329Here’s How the Loan Sale Works 329Sell the Note at a Premium 330Delinquent and Nonperforming Loans 330Due Diligence Issues 331Should You Form an LLC? 332Different Strokes for Different Folks 332Court Rulings 332One Size Doesn’t Fit All 33216 Opportunity For A Lifetime 335USA: Right Time, Right Price, Right Place 335Personal Opportunity 336Index 339