Real estate deals most often consume large chunks of capital, often highly leveraged. For many new investors, real estate investments are the largest ones of their lives. The potential exists for large gains, but also for significant losses, particularly for those who don’t do their homework in advance.
Reputable lenders require their borrowers to perform thorough due diligence before applying for a loan to purchase investment property. Due diligence is simply the process of evaluating all of the potential benefits and pitfalls of an investment property before deciding to buy.
What does due diligence entail? Here are five elements of the critical analysis necessary prior to purchase.
1. Determine Your Investment Strategy
Buying properties willy-nilly as they come to market is a sub-optimal investment strategy. Indeed it isn’t really a strategy at all. Instead, determine in advance what your goals are – equity, appreciation, cash flow, etc. – and find properties that will satisfy those goals. Know in advance whether you are making a purchase to flip, renovate and sell, or rent for later sale. Knowing your goals and plans helps filter out those opportunities that don’t meet the investment strategy.
2. Research the Location
Because location, location and location are famously the top three principles of real estate, it’s critical to understand the area in which a property resides. For residential properties, what does the neighborhood look like and how does it affect the property’s value? Consider the school district and proximity to things people value, like shopping, employment, parks, and public transportation. The location can make or break the value of a property.
3. Know the Property’s Market Value
Perusing online value estimators does not constitute due diligence. “Professional real estate investors prepare comparable market analyses that determine sale prices of similar houses in the area,” says Alex Baker, fund manager at Coastal Equity Group, a specialty lender for real estate investors. These evaluations are often no better than approximations, and are best leavened by an expert eye that can adjust for a property’s specific circumstances.
External issues, like interest rates, supply and demand dynamics in a market, and macroeconomic conditions, can have an outsized impact on property values. A smart investor takes these into account and adjusts for them.
The bottom line is, real estate investors want to look for properties available below market rate, and should try to avoid paying above market rate in all but the rarest circumstances.
4. Understand the Market
Real estate investments are made for the purpose of generating rent, selling for a profit or developing for sale later. Investors must understand how well the market supports whichever strategy applies. For example, investing in an office building for commercial tenants requires an appreciation of the local demand for office space. A plan to renovate a private residence and then sell it hinges on the ability of buyers in that neighborhood to afford an upgraded home. Knowledge of these conditions must precede any purchase.
5. Have Your Vendors Ready
Are you ready to pull the trigger when the right investment presents itself? Lining up a real estate agent, attorney, appraiser, inspector, property manager and lender in advance will save you a lot of time, and ensure that you are prepared to answer when opportunity knocks.
Coastal Equity Group is a professionally managed boutique investment firm providing real estate-based loans to borrowers in need of non-traditional financing. Because we are small and private, we can move quickly through the underwriting process and structure loans more creatively than conventional banks. Based in Charleston, South Carolina, Coastal Equity Group also lends in Kentucky and Florida. Apply for a loan today at CoastalEquityGroup.com.