Here in the Bay Area, there's no mistaking that the real estate market is on a sharp rebound. Thousands of buyers and investors have taken notice. Since plenty of stories abound about investors making big money on real estate in the past few years, many first-time investors are diving in. As I specialize in working with property investors, here are the top five mistakes that I see investors make:
1. Buying properties in unfamiliar markets
This is a very common mistake, one that speaks to the low-hanging fruit nature of novice investing in any asset class. If you don't know where to start, you tend to go with whatever your neighbor or somebody on TV tells you. It's not a good or bad idea -- it's just higher risk when you can least afford it. The headlines are always attractive, but if you don't know the market, you don't know if you're getting one of those advertised deals. You can be in the exact same market as the winners and end up in a dump that happens to be on the wrong side of the street.
2. Underestimating expenses
Real estate is a complex asset class. That complexity offers opportunities for the experienced and pitfalls for the novice. As an investment category, there are a large number of possible expenses that a first-time investor would not be aware of or know how to properly calculate. Just on taxes alone, there are transfer, supplemental, and property taxes. On the often touted foreclosure deals, there could be hidden liens, litigation, or undisclosed structural issues. Usually, these unknown expenses are learned through expensive trial-and-error, the same process that real estate brokers and their salespersons go through on a daily basis.
3. Accepting negative cash flow
Less common than in the boom days, first-time investors still think that investing in pricey California means they have to accept no cash flow and even put money in to support the investment. These investors hope that appreciation returns will offset the negative cash flow and bail out the investment in the long run. Often, this means they're investing in "good" school districts and in nice single family homes. While it is possible to make money in the long run with this approach, the overall return would be less than that of a positive cash flowing property, which would also appreciate.
4. Underestimating the competition
Unlike competing with other home buyers, competing with property investors is a whole new game. Many property investors do it professionally and they know all the tricks of the trade. They're well prepared with their finances and have a experienced team of lenders, lawyers, and contractors. So, just because a property is a distressed short sale or bank-owned unit, it doesn't mean you can instantly capture the discount by bidding at the below-market list price. Winning deals, especially in the currently hot real estate environment, takes effort and a bit of old fashioned cunning.
5. Going without an Investment Realtor
This is probably the most serious mistake. Yes, it seems elementary to just buy and rent a property, but that's the 30,000 foot perspective. Success in property investing depends on proper execution on every step of the process -- understanding market conditions, finding the right deals, winning those deals, making the profitable improvements, getting the right tenants, and managing the property. If you go on your own, there are dozens of ways to make a costly mis-step. Even if you work with a regular buyer agent, you're still left with figuring out how to deal with the property after you've purchased it. Regular buyer agents just want to sell you the property and have no accountability for delivering the rental returns. It's very easy to sit six months or more on a vacant property without the right management. Flipping property is a whole other story, with even more challenges.
So if you're considering becoming a property investor, make sure you're educated on these issues or have the right guidance along the way.