Examining Real Estate Deals – The Truth About Buying Equity
So, you’ve at last found a motivated seller. So you went to check the home. They are glad to sell you the property for $30,000 less than what you imagine it is going to appraise for. Is that not a great deal?
Maybe, maybe not. There’s a great deal more to property investing and deal analysis than merely comparing what you can purchase a house for and what you think it could appraise for. If you wish to take issue with me, I have practically scores of homes that I can sell you for $30,000 or more below current appraisal value that I won’t touch.
Now, do not take it the wrong way… I have purchased properties with lots of equity; and simply because of the equity earlier. However, I will not buy houses that have tons of equity with certain exit strategies.
For instance, I am not going to purchase properties just because they have a lot of equity if I am going to lease it for an extended period UNLESS (and it’s a BIG unless) it is generating good cash flow. It makes logical sense, right? Who would want to fee a property $100, $200, $300 and over each month? Even if the property has $30,000 in equity built up, maintaining negative cash flow houses is going to eat you alive.
This is why I propose analyzing deals based more than just on equity. I strongly propose my clients and other real estate investors to use Net Operating Income. Net Operating Income, in my view, is the only real means to find out what you can really afford to make payments on a house as a real estate investor.
Haven”t heard of Net Operating Income? Well, grab your preferred beverage and get settled. It is one of the best tools for dissecting deals and it is easy to calculate.
Below is a quick break down of how you can calculate Net Operating Income for a house:
1. Ascertain what the market rent is.
2. Subtract a margin for vacancies.
The remaining figure is what is known as Net Rent.
3. Add up all the expenses including taxes, insurance, management, a reasonable estimation of upkeep, HOA, utilities, and so on EXCEPT your mortgage payment.
4. Subtract of the expenditures from Net Rent.
The figure that remains after you have subtract all the expenses except your debt or mortgage payment is what is called Net Operating Income.
The Net Operating Income will let you know exactly how much debt the property can actually afford. If you are aware how much interest rate we can acquire on a loan and the length of the loan, then we can plug in the Net Operating Income as the payment and any good fiscal calculator can tell you the most you are able to afford to pay for the house with the Net Operating Income as the payment.
So, when you present your offer to a seller, you could sit them down, show them what the true expenses are for the house and what you expect to get in rent and explain to them why you can pay what you can.
Stop thinking about making offers at 70% of the home’s value without being able to justify an absurd price… when you make an offer supported by Net Operating Income, you will be able to very distinctly show any property owner why it is that you are only able to pay just your proposed price.