When purchasing an investment property, it is critical that you make an offer that will enable you to maximize the return on your investment, as the consequences of making a bad offer can be detrimental to your financial well-being. In addition to the obvious fact that you might lose money, you may also be stuck with a problem property that no one else wants to purchase. New investors must take heed to avoid these common mistakes in order to make offers that will allow them to profit and avoid peril.
Mistake #1 – Failing to Understand Your Market
Before you make an offer on any property, it is extremely important that you have a good grasp of the current marketplace. You need to know what the other homes in the area are selling for, otherwise referred to as the “comps” or comparable sales. This level of research and insight will enable you to quickly determine when a property is undervalued or overpriced. Failure to conduct this basic level of research will result in you overpaying for a property and quickly ruining the potential for any investment returns.
You should also know the average rents in your area, as this will determine the level of income your investment property could expect to generate on a monthly basis. If the rental levels don’t provide the potential for an adequate return on investment at the price of your current offer, you will need to lower your offer in order to make the deal make sense.
Mistake #2 – Overpaying for a Property
Never forget that you are purchasing real estate as an investment opportunity. This means that the deal must make financial sense today. There is a popular mantra among successful investors that “you make your money when you buy”, meaning that your investment should be undervalued and be an extremely good deal from Day 1.
Future growth and equity appreciation should be viewed as a bonus and should never serve as the foundation for making an offer on a property. Many times a seller will overvalue their property and attempt to justify their outrageous price by focusing on the future potential of the property. It is not uncommon to hear rhetoric such as, “the area is growing”, “this house has a lot of potential”, etc.
While these assessments of the property may prove to be accurate in the future, the financials of the investment must make sense in the current environment. Never overpay for a property based on the belief that it will appreciate in value and magically morph into a good deal down the road. The bottom-line is that it needs to be a good deal today and your offer needs to reflect the pricing and the terms that will enable your investment to flourish in the current market.
Mistake #3 – No Contingencies/Too Many Contingencies
Not having any contingencies in your offer is another rookie mistake you need to avoid. A contingency is a stipulation that is made based on the outcome of a future event. As it pertains to investing in real estate, contingencies enable you to legally get out of a deal if certain conditions are not met.
Common real estate contingencies for investors are:
Inspection Contingency – This contingency is often referred to as your “due diligence” period and is a set period of time in which you will be allowed to inspect the property. If you find any issues that are not to your liking during this timeframe, you can legally walk away from the deal.
Financing Contingency – This clause states that your offer is contingent upon you being able to secure financing to purchase the property. In the event that you are unable to acquire financing, you would be released from your contractual obligation to purchase the property.
While contingencies protect you from committing to a bad deal, they should be used with caution. Another rookie mistake is placing too many contingencies in your offer. While it is reasonable to have one or two contingencies in your offer in order to protect your interests, many experienced sellers view an abundance of contingencies as evidence that a buyer is not a serious investor and does not have the means to acquire the property.
Always remember that you are under no obligation to purchase someone’s problem property and that you are investing in real estate in order to make a healthy return on your capital. By avoiding these common mistakes, you will position yourself as an experienced investor and set the stage to acquire profitable investment properties that will provide you with consistent cash flow and equity appreciation for years to come.