Who doesn’t love a good deal?
With Black Friday and Cyber Monday just wrapping up, we’ve seen just how crazy people can get when they’re faced with the prospect of a good deal. They’ll go to extreme lengths to save money if they think they can.
For real estate investors, we go to our own extreme lengths sometimes. There’s a natural impulse in all of us to look for the best deal and the lowest price. But just like the person who gets punched over a toaster oven on Black Friday, we may find that getting something cheap isn’t always worth it.
Real estate investors: beware of buying properties on the cheap!
5 Reasons to Steer Clear of Cheap Investment Properties
High up on the list of reasons to avoid cheap properties is fairly obvious: you’re likely getting a deal because the property has a lot of serious flaws, and thus, a lot of work that needs to be done. This can be a serious undertaking for any investor, and you should be well-prepared to have someone who can perform a thorough home inspection. When it comes to these cheaper properties, however, there’s a lot higher chance that there are hidden problems lurking!
Be wary: you’re not only going to have to spend a lot of time renovating the property, but you’ve got to be extra vigilant to see that there are no nasty surprises waiting for you. Cheaper homes are typically older as well, so even if there are no hidden issues, the age of the home will increase the demand for maintenance over time: raising your costs in the long run. We discussed this on a previous blog post, Bargain Or Bust: Navigating Cheap Real Estate.
Another issue with cheaper properties is their location. Keep in mind that a lower price is likely indicative of slipping property values if not an issue with the property itself. The area might be wrestling with decline and that may come back to bite you in terms of appreciation and exit strategy down the line! Besides that, you’ll want to be sure to look into things like crime rates, amenities, and other issues present in the area.
Location is the most important factor in real estate. INvestors should think like residents think when deciding where to invest. If a resident will choose a nicer property in a nicer area, shouldn't an investor do the same? If the price seems too good to be true, it probably is.
Say the location checks out. You purchase a property, renovate it to your satisfaction, and force appreciation. Your home values will be great now, right? Not necessarily. The surrounding home values in your neighborhood will ultimately have an impact on what your property is worth. Even if you know what your property should be worth, the area you’re in is going to impact what you’ll actually be able to sell it for. Neighborhood values and condition are important. Unless the whole area is going through a revitalization, you may be out of luck.
This is why investors often hear they should not renovate or upgrade properties beyond the median value of the surrounding properties in their neighborhood.
Buying cheap investment properties, most of the time, means renting out cheap properties. Chances are, a passive investor just starting out is not going to give a property a total facelift. You’re going to have to price your property competitively. That means that what you will earn in rental income is not going to be so much higher proportionally than if you were to purchase a more expensive property: you’re just earning less per month with a smaller mortgage to pay.
Cheaper rents attract different kinds of residents than more expensive ones. That’s just how it tends to be. Typically speaking, if you’re not paying as much for something, you may not be as inclined to treat it as well, either. Vacancies also tend to be higher.
As investors, we have to consider what kinds of residents our properties will attract and what kinds of residents we want to attract. Ideally, you want quality residents who stick around for the long haul! There is one cheap property peddler who posts videos and articles claiming that his cheap $40,000 properties are in high demand from doctors and nurses because they are inner-city and close to hospitals. This is one of the crazier claims made by some cheap property sellers.
This does not line up with comon sense. Can there be hospital workers who want to rent lower-price properties? Sure. However, if someone can afford a nicer property in a nicer area they will almost always pick the better property. Residents will always choose to live in safer, cleaner environments.
Cheap properties are cheap for a reason. The locatoins are not as nice; the renovations are not as nice; the neighborhoods and properties themselves are not as nice. If you are looking to build a portfolio for investment, especailly as a passive investor, choose the best you can find and avoid cheap!
Even though it costs more on the front end, turnkey real estate is a much better alternative for real estate investors. You’re stepping into investments that are already primed to earn passive income. Renovations are taken care of, the deals have been made, and the provider knows that the property is ideal for generating cash flow.
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