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How Do You Choose An Area To Invest In?

 
The most important factor in determining an area to invest in is to assess the job market for the area. Is there a major employer that will provide the majority of the jobs for the area, also known as Core Jobs? What is the average wage for this employer? How many people will be employed by them? Are they hiring or laying off? Is it a cyclical industry?
With Core Jobs, you also have Non-Core Jobs, in other words, jobs that support the community formed from the Core Jobs. Examples are restaurants, car dealers, hair care, etc.
Where will you get the majority of your tenants from, Core or Non-Core Jobs?

Part 2: The most important ratios to acquire/run your property

The 2nd important ratio to use when acquiring a property is the DSC or Debt Service Coverage Ratio. What is it and why is it important? It’s important because this is the ratio lenders look at when considering to finance a property. Today, lenders are extremely cautious because of the uncertainty caused by the pandemic and have tightened up lending criteria.
To determine the DSC of a potential property, take the annual NOI (Net Operating Income) and divide it by the annual mortgage debt, i.e., NOI/Mortgage Debt to determine the DSC. In other words, if your NOI is $120,000 and the Mortgage is $100,000, your DSC is 1.20. Lenders are typically looking at a 1.20 as an absolute minimum, but would more likely prefer a 1.25 or even higher, in case the income is reduced and/or the expenses go up, which will impact the NOI.

What Ratios Are You Using to Acquire/Run Your Property

There are 2 that you need to know, expense ratio and Debt Service Coverage or DSC. The expense ratio is your expense to income ratio. This is crucial in determining whether you should acquire a potential property. You need to know what other, similar properties expense ratio is that are competing with the subject property. In other words, if the subject property is supposedly operating at 43% expenses to income but every competing property is operating at 52%, you need to ask why is there such a huge disparity? Are there a number of expenses not getting included that should be? Has the property been underassessed and the real estate taxes are substantially lower than the competition? Better plan on a huge increase after you acquire it! Or is the listing broker manipulating the expenses to show a better NOI than is realistic?
DSC will be discussed in the next post.

Are You Making Offers from Pro forma Info?

Never, ever make any offers based on pro-forma info! At a minimum I require a T-12 (trailing 12 months) before I consider making any offers, and would prefer the last 2 years income and expenses. The broker (if one is involved) will probably tell you many offers are coming in and you better make an offer soon, you’ll get the actual income and expenses after the offer is accepted! Don’t fall for this BS! Either the broker isn’t able to get the actual income and expenses from the seller because the seller isn’t really trying to sell, or the broker is attempting to bid up the property and get the buyers to make contingent free offers so when the actual income and expenses are made known, the buyer can’t back out!

Best Time to Inspect a Property

When do you inspect a property you’re considering buying? I always like to go when the weather is at it’s absolute worst! Every property looks great when it’s 75 and sunny! It’s when it’s raining sideways with 30 mph winds I like to go see how the property is holding up! Are there ponds in parking lot? Tenants complaining about the roof leaking, again? Is the maintenance staff anywhere to be found?

Another good time to visit a property is Friday or Saturday night around midnight. Is there any drug or gang activity taking place? There may be a bigger problem at the property that needs attention! I always recommend getting a police report for the property to see how often and what activity is taking place there.

NOBODY GETS RICH QUICK!

I have known thousands of real estate investors in my 25+ year career and I’ll let you in on a secret! NOBODY GETS RICH QUICK! There’s a lot of hard work and education that goes into being a successful real estate investor and it doesn’t happen overnight! You need to invest in your knowledge of the market, the property, the real estate cycle, financing, and on and on! If someone says that you can get other people’s money to invest and you don’t know a thing about investing in real estate, wake up! Would you invest in somebody who doesn’t know anything about what they’re doing? You have to pay your dues and you do that by being smarter and working harder than everyone else!

Has your broker and/or their firm been disciplined?

What do you know about your commercial real estate broker? What about their company? Would you be surprised to find out they may have been disciplined by their state regulatory board? Or their firm may have been convicted of multiple disciplinary actions by the state regulatory agency? Find out by going to the state regulatory agency and look them up before you find out the hard way!

Your Unique Selling Proposition

You’re considering buying a “C” grade multi-family property and you think you can raise the rents to improve the cash flow. Can you? Did you compare this subject property to the competition? What can you do to differentiate this property from the rest? If this is a “C” grade property, have you checked out the “A” grade properties? What do they offer that you can’t? How much more do they charge compared to this property? What is their vacancy compared to this property?

Lenders Tightening

Due to overwhelming concerns about the impact Covid will have on commercial real estate, lenders are tightening up lending criteria. 75%LTV and 1.25 DSC are the minimums most are requiring. Fannie and Freddie loans have been requiring anywhere from 6-18 months of debt service to be escrowed along with 6-18 months of repairs reserves also to be escrowed. Refinancings with Fannie and Freddie have required borrowers to show their last 2 years of income and expenses TO THE PENNY!

Biggest Mistake Real Estate Investors Make!

After 25 years of experience and over half a billion dollars of multi-family properties sold that the biggest mistake real estate investors make is they fail to plan their exit strategy before buying, and therefore, over pay for a property. They may start out with the intention of improving the cash on cash return by improving the units and raising the rents, but the biggest mistake they make is planning what the value of the property will be in 3-5 years and what will be necessary to achieve it. I use a proven system that analyzes each line item of income and expenses and then adjust each accordingly, annually based on projections, to determine what the property will be worth, as well as what the potential tax exposure will be if a sale is contemplated. My system determines the Internal Rates of Return, both before and after tax, to give you the road map necessary to achieve your objectives.

Planning your exit strategy is crucially important in the current Covid world because a mistake in planning may be devastating financially!