Money money money. It can’t buy happiness, but it can buy real estate, which when done right can help you reduce your stress, and your work hours, and hopefully lead to a better quality of life. That’s the end goal, and for some of us with high aspirations it can take a lot of real estate to support our desired lifestyle. That is why this lesson is SO important.
You make your money when you buy. That means that you need to get the purchase right, either in purchase price, or terms, or both. If you don’t buy right you’re starting off at a disadvantage, either because your cash flow won’t be sufficient, or you won’t be able to liquidate in the future when necessary or advantageous, or simply because it won’t generate a good return on investment.
There are two main factors to consider when purchasing a property, the price, and the terms. Depending on what your long term plan is (rental income, flip, appreciation, redevelopment, etc) is what really determines which one is more important. The best terms in the world don’t help you much if you’re paying a high purchase price and your plan is to flip it as quickly as possible. Conversely a super low sales price for a property with a clouded title and requires a cash purchase with no financing leverage possible likely won’t make a great option for a long term hold for a rental property, because leveraging financing is usually where a substantial portion of your ROI comes from in a rental.
If your long term plan is not very long term, meaning that you’re planning to hold this property for a few months to a few years it’s likely that the lowest possible purchase price will be the biggest contributor to your success, since every dollar saved in the purchase turns into a dollar made at the sale. For that reason I’ll focus on long term holds and rental income for the remainder of this article.
For long term holds, terms can be more important than price, but only if you’re CERTAIN of the minimum hold time. I’ve seen far too many investors buy in too high and justify it by saying they are planning to hold for 20+ years and the purchase price won’t matter much by then. They would have been right too if the property generated sufficient cash flow to allow them to be able to keep it for the 20+ years they originally planned. Unfortunately in cases of low or negative cash flow that plan seems to change and then they’re forced to deal with the reality that they paid too much.
The reason terms can be more important than price is that cash flow is the MOST IMPORTANT factor in the success of your rental properties. If a property isn’t cash flowing it’s (at the very least) limiting the number of investments you can make. You can turn a bad purchase price into a great deal for rentals by negotiating owner financing with zero down, 2% interest and 40 year amortization, or better yet interest only for ten years and then 40 year amortization after that. If a property isn’t paid off you might be able to purchase the property subject to the existing mortgage, which might have better terms than would be offered for a typical rental property purchase. In other instances sellers that are stuck on a sales price might be willing to do a seller carry 2nd mortgage, which is similar to owner financing, but reduces your out of pocket costs (sometimes to zero) and with really great terms on the seller carry 2nd (think 0% interest and 30 year terms as a goal) you can turn a high purchase price into an excellent investment with little to no money down, and your bank is still happy because they are in first position.
To summarize, think ahead as far as you can see, consider what your plans are now, and how they might change if something changes in your life (employment, marriage, children, relocation, etc). If things look clear you can lean on the option of great terms, if you aren’t certain you’ll probably want to stick with the best purchase price possible to be safe. But no matter what you do make absolutely certain the property is going to generate a healthy cash flow for you consistently, so that you are in the best position for the long term.