Four Basic Investment Returns...

Keep in mind while planning your investments, there are Four Basic Investment Returns offered in real estate:

1.  Cash Flow: This is the cash thrown off by the income from the property, if it is a investment/rental property.

2.  Loan Amortization: As the months and years go by, the mortgage will be paid down, leaving an increasing principal balance available to the owner. This can be freed up upon sale, or by refinancing and pulling funds out. There are factors to consider, such as tax implications, so proper planning and care should be exercised before proceeding.

3.  Tax Shelter: No secrets here, other than the secrets of understanding the tax codes. However, Steve does not generally recommend to his clients to make real estate investments solely on tax avoidance. If the investment doesn't make economic sense on its own merits, be very careful. And of course consult with your tax expert before making any moves. (be sure to read more about this, below.)

4.  Appreciation: Here is probably the most misunderstood investment return factor. The effects of Appreciation vs. Inflation - do not confuse the two. Inflation is the increase in nominal sales price of a property required for its  purchase, based largely on the general economy, whereas appreciation can occur to the value of a property when and if the market values this specific type of property more highly than in the past. For example, if a specific neighborhood has been experiencing a large increase in demand for properties, then this will tend to “pull along” in valuations all properties located within the region. Keep in mind that “real and/or functional” depreciation will reduce the overall value of the property, thereby offsetting some portion of its experienced appreciation.

Regarding the inflation factor, much time is spent by financial soothsayers and experts on the effects of inflation of real estate. After many years of working to take inflation into account in various financial models, Steve feels for the vast majority of cases, it is generally sufficient  to ignore such factors, and base the projections on inflation being a wash during the holding period. In other words, if none of the other factors significantly affects the property (appreciation in particular), then the property's value will remain reasonably constant over the holding period, in "real dollars". NOTE: many financial "experts" might disagree with this, but Steve feels this works well for most models.

Care should be taken to be sure each investment will contribute its share towards your goals.

Over the years, having had careers in several major industries besides real estate, such as Financial Investments, Advertising and Marketing, Sales, and also Technologies, Steve has developed the following “Rules” to aid his clients.

1. Clearly define your motives for acquiring property:

This is a very important, and a very simple concept but it can’t be over-emphasized. The old saw of “If you don’t know where you are going, then you will probably get there.” really applies in real estate and investing.

 

2. Know your Financial Limits:

Do this before you get very far into the searching process. Some exploration will be necessary in order to come up to speed on what is available, and the associated costs of those properties. However, without a solid understanding of your financial capabilities, you may find that you have a “Champaign taste on a beer budget”, thereby wasting everyone’s time, and running the risk of being embarrassed. Or conversely, you may pass up an opportunity, thinking that you could not afford it.

 

3. Learn to be a strong negotiator, or retain one to work on your behalf:

The business world, and especially the real estate industry, is made up of cleaver, accomplished negotiators. You wouldn’t go into any other important situation unprepared. Never assume that the other side will automatically treat you fairly and with respect. You must earn it first.

4. Do “Due Diligence”:

I repeat “Do Due Diligence”.  In other words, know what you are buying, or say “No” to what you are buying!

Due Diligence is a buzz word that has gained popularity in recent years. It is best defined by the Wikipedia.org site as: “Due diligence is a term used for a number of concepts involving either the performance of an investigation of a business or person, or the performance of an act with a certain standard of care. It can be a legal obligation, but the term will more commonly apply to voluntary investigations. In particular, due diligence is a process through which a potential acquirer evaluates a target company for acquisition.”  Click here for more on Due Diligence in Real Estate.

5. Know when to Sell:

Just because a property was the right one to buy at the time, the only thing that stays consistent in life is Change. Be aware of your location’s environment, and be willing to “Pull up stakes” and sell if changes in the market indicate such a move. You don’t want to be the lone hold-out if the area’s economy collapses. There are many examples of this throughout the country, and throughout history – they are commonly known as “Ghost Towns”.

6. Beware of Tax Shelters:

Do not base your entire purchase or sale on tax consequences. Should I repeat that? Not only are tax shelters poor reasons for buying or selling, there are always strings attached. And, what Congress giveth, they also taketh. History is replete with  examples of tax shelters which simply vaporized when Congress decided it was time, leaving all the investors holding the bag.

Along these lines are the famous, or infamous (depending on your perspective) 1031 Exchange. Properly executed, it can DELAY tax consequences. However, not properly done, and you will regret ever learning of such a wonderful tax shelter.

Yes, if you have a sound business need for selling or buying, and it happens to enjoy a tax advantage, wonderful. Otherwise, consider other options.