Standards For Serious R.E. Investors
By: Neil Fjellestad and Chris De Marco FBS Property Management
Real Estate as an investment remains a mystery to many. There are Raving Fans that believe or would like you to believe that real estate is a sure bet. There are also Rash Critics that see nothing but risk and loss every time real estate is mentioned as an investment alternative.
If we think about it both must be right to some degree. The purpose of this discussion is to illustrate that there are some realities that are ignored or misunderstood by both. Take a closer look to discover that there are standards for investment success. Whether followed or not, the outcome is reasonably predictable.
Standard #1 – All successful investment begins with deliberate strategy and a plan. What are your personal objectives? Security against principal loss; potential or predictable growth appreciation; durability of future income; tax-favored investment return; inflation hedge and liquidity access are possible objectives to consider.
Standard #2 – Successful investment strategy is more than one or two transactions: execution requires patience and allocation
of resources. Performance can be measured and improved with “best practices” applied by trusted advisors and professional business managers.
Standard #3 – Develop a philosophy of an independent investor. Real estate should be acquired and held long term (not sold) in order to qualify as part of a working strategy. Eventually, independent ownership without partners that is debt-free enjoys the highest investor rewards and pride of ownership. Many mistakenly think real estate is to buy and sell. This approach is dependent upon external conditions and the results are reduced substantially by costs surrounding these events. Transactional real estate is by definition speculative, not strategic.
Standard #4 – Strategically held real estate is a long-term investment and must be operated as a business. To accomplish, a long-term hold ownership should include as many “silent benefactors” as possible. Silent benefactors provide investors with key business advantages. These benefactors include: lenders; renters; government taxing agencies; professional advisors and comprehensive property management. In all cases they sustain the real estate ownership as an operating business.
HERE ARE THE PRIMARY ADVANTAGES THEY PROVIDE:
- Appropriate leverage (generally a minimum of 30% equity at all times) is the foundational principle that makes RE returns on invested capital the best in smart financial circles. Mortgage lenders have confidence in RE Investment. Don’t kill the golden goose.
- Reasonable financing on balance with terms that are competitive and affordable are available for qualified borrowers. It is important to avoid and/or have plans to resolve: principal due dates, negative amortization and adjustable interest rates.
- The real estate or a portion thereof should be rentable. Such capability enlists tenant(s) to provide an income stream, an interested party onsite, enhances the tax-favored nature of income and the deductibility of expenditures. Rented property also enjoys favored access to borrowed funds with better terms. Tenants provide the investor with long term staying power.
- Taxing agencies consider your investment a rental business whether one condo or an apartment high-rise because rentals are essential in the marketplace representing about half the households. Though government might provide health care, roads, water and energy rental housing must be provided by rewarding investors.
- Real estate equity grows with every mortgage payment. These rental contributions to your forced savings plan will grow substantially over time. There are simple methods to accelerate this key strategy. Potential appreciation is an investment bonus.
- While spec build-outs and fix and flip schemes can have merit these are speculative in nature and normally not included in a personal investment plan. However, physical improvements to expand floorplan, reduce energy footprint or re-design landscaping are prudent methods to expand long term rental business profit.
Standard #5 – Some rentable real estate is more conducive to an individual investment plan:
- Property that is local is more easily understood and convenient for oversight. An exception can be a distant location with personal benefits. Example: Southern California property makes economic sense no matter where you live. In addition, such holdings might allow enjoyable tax deductible family visits.
- Rent ability generally favors residential lease(s) of one year staggered to be renewed when leasing traffic is at a substantial level.
- Rent should be readily comparable – floorplan, age, condition, neighborhood.
- Comparable properties demonstrate history of increase – rents, prices, value-added improvements.
- Every rental should have an improvement plan that fits the neighborhood, has a payback horizon, and increases rental income.
Standard #6 – Surround yourself with a team of real estate savvy advisors and hire complete property management. Expect transparent accountability; inspect operations; and receive monthly financial reporting. Annually align actual outcomes with financial expectations.
Standard #7 – Keep your property investment appropriately maintained; improve to enhance rental value; accelerate pay down on loan(s); keep it simple; keep it in the family; just keep it. Avoid equity leaks from unnecessary transaction costs. Examples include: loan fees, sales closing costs, income taxes, and capital gains.
Standard #8 – Be transparent with your heirs by updating your estate plan together. Enhanced results will be experienced when heirs are educated in the details of the investment strategy, the workings of the rental business that supports the investment performance, and introduction to your advisory team.
“Rent Sense” is an informative series for Rental Owners or those looking to become R.E. Investors. This monthly insight is brought to you courtesy of Neil Fjellestad and Chris De Marco, Principals of FBS Property Management in San Diego, CA. The goal of “Rent Sense” is to educate individuals with correct expectations for investment performance; inform about trends and concerns for Rental Owners; give thoughtful consideration of “best practices” now possible due to technology advances being made by our company and other industry leaders. We are investors, responsible Rental Owners and entrepreneurs that have started, grown and sold a dozen real estate-related businesses. Currently FBS operates rental properties in 69 zip codes within southern California. Now in our 5th decade we report to 800 clients. All of this daily exposure provides us with a variety of topics to discuss. Neil, Chris and the rest of the FBS team is available at 619-286-7600 or www.fbs-pm.com.