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Part 4: Quick-Start Guide to Investing – Exit Strategies and Mastering Your Craft

Post It Note to Improve Skill

We’ve been outlining the 8 Steps you need to take as a beginner to get your real estate investing business off to the quickest start possible:

  1. Understanding Real Estate Cycles
  2. Identifying the Key Indicators in Your Market
  3. Building Your Power Team
  4. Making Offers
  5. Finding Financing Sources for Your Deals
  6. Implementing Finding Strategies
  7. Understanding Exit Strategies
  8. Constantly Learning and Mastering Your Craft

In this final installment, we’ll be looking at Steps 7 and 8.

Step 7 – Understanding Exit Strategies

To effectively get started in the investing business, you must understand exit strategies and how to use them to get into and out of deals profitably.

Every property that you encounter is a different situation. Each one has a different need, a different financing challenge and one or more appropriate exit strategies. The more exit strategies you know and master, the greater your chances of success as an investor!

For starters, make sure that you have a sound understanding of wholesaling, lease options, seller financing, rental properties, and rehabbing. These exit strategies will provide you with a solid foundation to be able to put together deals that are profitable for you and helpful for sellers. (Rich Dad Education’s Elite Training courses are designed to give you detailed instruction in each of these areas.)

Step 8 – Constantly Learning and Mastering Your Craft

Like most things in life, learning is a journey and not a destination. Truly savvy investors realize that they must remain in constant search of new ideas and information if they want to stay one step ahead of their competition.

Rich Dad Education offers classes, a Mentor Program, and personal coaching that are designed to help you realize your full potential as an investor and entrepreneur. We also encourage you to utilize many of the resources you have, from your local library to the Internet, to stay up-to-date on current market conditions and strategies.

As you continue on your path to financial freedom, get help as you need it.

By Mark Justice

Rich Dad® Education Elite Training Mentor

Selling the Lease

groupSelling the Lease by Jim Aviza

With so many options available to renters and so many properties that are very similar, how can you get them to choose you over the competition?  Appeal to the emotional aspect of their housing needs.  Selecting a home is more than a matter of economics to renters.  As investors, we know how to determine market values for rental and purchases.  We’ve done our study of what people are willing to pay based on square footage, features, locations, amenities and so on.  But the one thing that can tip the scale in our favor is to provide an answer to their question, “Will I be happy here?”

From the start of working with your prospective renter, you should be building rapport.  Find out what their “triggers” are and use those to anchor them to your property.  Do they like sports?  There’s a great gym (or park) right around the corner.  Do they like cultural events?  Point out the theaters, galleries, museums, and other points of interest in the area.  Are they new to the area?  Talk about the wonderful people in the building, in the community or organizations they may want to join.  Do they like to cook or entertain?  Point out the counter space for food preparation, the openness of the floor plan for hosting gatherings.  Find out what their interests are and make it a point to turn features of your property into benefits they can envision as part of their future in that particular home.

They will also get a sense that you are interested in their happiness and that will carry over to liking you as well.  When people like you, they do business with you!   Remember to keep your relationship professional.  Do not blur the line between friends and a professional relationship.  Be personable, find out what they want and then help them see how your property suits their needs above and beyond the price, location and condition.

Negotiate With a Lender: Commercial Property Loan

Commercial Real Estate Loan

Questions With a Lender for a Commercial Property Loan

A piece of property is considered to be commercial property when it is five units and above.  This includes apartments, office, retail, warehouse, mixed use and flex space.  A completely different lender and lending guidelines apply to these properties.  It is critical to your success to make sure that you are working with a lender that specializes in commercial loans.

Ask a Lender These Questions:

“What do they have an appetite for?”  This means what they are lending on in regards to the categories that are mentioned above.

“What is the commercial loan based on, the loan to value or the debt coverage ratio?”  It can be one or the other or it can be both.

“What are the terms that you are offering on commercial loans?” It could be 70% LTV for 25 yrs at 5% and a balloon in 10 yrs.  Or it could be a debt coverage ratio of 1.25 for 25 yrs at 5%.  These are two different kinds of loans.

For example, let’s say that you have a property that brings in a NOI of $2000 a month and the bank uses a 1.25 DCR.  The way that you determine the DCR is that you take the Net Operating Income and divide that by the DCR rate.  So, in our example, we have a $2000 NOI and we divide that by 1.25.  That gives us $1600 a month for Principle and Interest.  If you subtract the monthly payment from the NOI you have $400 a month in cash flow.  To determine your annual cash flow, simply multiply by 12.  This property has $4800 in cash flow for the year.

“What is the minimum credit score for this commercial piece of real estate?”  Usually the bank requires a credit score around 725, but keep in mind that each lender is different.

“What is the debt to income ratio?” Currently lenders are doing approximately 50% maximum debt to income ratio.  That means you are allowed to spend 50% of your income towards debt.  Debt is principal and interest.  Because of Dodd/Frank there is the possibility that the debt to income ratio may be lowered to 43% in the future.  Keep in mind that every bank, savings and loan, & credit union has their own loan conditions.

The sixth question you want to ask if you are looking at a loan which is based on debt coverage ratio is “What does the bank require in terms of vacancy rates?”

“What does the bank require in terms of a cash reserve?” Cash reserve can be based on a percentage of the rent. Cash reserve can be based on a dollar amount per unit.  Cash reserves are for capital improvements over the investment period that you are analyzing.  These numbers take into account cash reserve, utilities, and so forth and reduce the amount of money that you are making and that is called net operating income.

“How much money do you need to set aside for management?”  This is a critical number in determining your Net Operating Income.

Net Operating Income is determined when you take the Gross Rents and subtract:

  • The vacancy factor
  • The taxes and insurance
  • The cash reserve
  • The utilities
  • The maintenance
  • The management
  • And any additional expenses

Once you have subtracted all of these expenses, you have the Net Operating Income.

Cash on Cash Return

The next thing that you want to evaluate is your cash on cash return.  Take the annual cash flow of $4800 from the example above and divide that by the initial investment to determine how much cash on cash return you are making for that piece of commercial real estate.

So what does the initial investment entail?  The investment entails your down payment.  So let’s look at the payment again $1600 P&I for 25 yrs at 5%.  By using a financial calculator you can determine that the loan amount is $298,050.  So if the property is selling for $372,563 for example, that would mean you had to put down $74,507 or your investment.

Therefore, a $4800 Cash Flow divided by $74,513 yields a 6.4% cash on cash return.  That means at the end of the year you are making 6.4% more than what you invested.  In commercial real estate, you are looking for how much cash flow you are getting as part of your financial return.

The financial plan is to get the $74,513 down payment to invest in commercial real estate.  There are several ways to get the down payment for a commercial property.

Acquiring a Down Payment

One way is to buy houses below market value, like a short sale or a foreclosure, and then sell them at market value for a profit. You will typically have to do multiple deals to generate a large enough down payment for the commercial property.  Once you have enough money, then buy the commercial piece of real estate.

Another way to do it would be to buy a house at a discount, then fix the house up, then sell the house at market value. You may have to do multiple deals to generate enough money for the down payment.

A third way to accumulate that $74,513 is to buy houses in markets that are appreciating, then rent those houses, hold them for a few years until the value increases by that $74,513, then 1031 exchange into a commercial piece of real estate. You don’t have to 1031 the property. You can just sell it, take the money, and move the money into a commercial piece of real estate.

A fourth way would be to bring in investors for the $74,513 and then share the profit or make them an equity partner in that venture giving them a piece of the cash flow and/or appreciation and/or principal reduction and/or tax benefits.

Richard Maryanski and Erik Maryanski
Rich Dad Education Elite Trainers and Mentors

Real Estate Success: Motivation

Real Estate Success Motivation

Real Estate Success

This Rich Dad Education investing series examines some of the factors involved in becoming a successful real estate investor. Some Rich Dad education students enjoy tremendous success and achieve all of their goals. Other students never seem to get their real estate investing careers off the ground. By identifying the factors that contribute to the success of students, Rich Dad Education hopes to help new students avoid the pitfalls others have unfortunately experienced.

Motivation

Why do you want to become a real estate investor? This is a very straightforward question that surprisingly many prospective real estate investors cannot passionately answer. It is not enough to simply answer the question by stating that you want more money or hate your current job.  Numerous people are dissatisfied with their current job, and nearly everyone would become wealthy if there was a magic wand that could make it so. Generating income, the desire for a comfortable retirement, and replacing one’s current job are common answers.  Two individuals can give the same answer, but what separates eventual success often hinges on the motivation the student has when they answer the question.

It is important that you know why you want to be a real estate investor and what your goals are in order to have any chance of success. The goals you passionately create can help fuel your fire as you launch your real estate investing career. Creating more income is a nice goal, but is it a strong enough motivation to help carry you to success? Perhaps it is, but the individual who truly yearns to become free by achieving financial freedom might have a substantial motivational edge. Better yet, the individual who knows what they want to do with that freedom will probably have the motivation necessary to achieve success once they receive the proper training.

Making Two Lists

As you contemplate starting a real estate investing career, make two lists. On the first list, include all of the objectives that you want to achieve. For example, items on this list might include:

  • Generate immediate supplemental income
  • Replace current income and quit my job
  • Create enough passive income to escape the Rat Race
  • I want to work for myself
  • I want a comfortable retirement
  • I want to prove to myself that I can do it

Make no mistake, for some people the items on this list will serve as ample motivation. Some individuals may truly be motivated to escape their current employment and that will provide all the motivation they need. For others, items on the second list will help carry them through whatever obstacles they come across.

On this second list, write down everything you want to do once you achieve your goals on the first list. What are the desires of your heart? What things have you always wanted to do if money and time were not a factor? For some, it will simply be the ability to spend more time with those they love. For others, these dreams might be extravagant, involving adventure and world travel. No one knows your dreams better than you do. Write them down, visualize them, and realize that with the proper education coupled with your hard work, they can become a reality.

Students that enter their real estate investing career with a vision of what they want to achieve have a much easier path than those who do not. When someone asks you why you want to become a real estate investor, you should be able to immediately identify your objectives and what you will do with your life once these objectives are met. Once you can do this simple task, you are one step closer to your eventual success.

Creating Lease Applications

Lease Applications

Lease Applications

No doubt, if you ask landlords to name a key step in their rental process, one of the top answers would be screening tenants.  If you are using a credit report service, it is easy enough to run a report and get a credit score. But, is that all there is to screening?  What does it mean when your report comes back with a 680 credit score?

Credit scores are just one part of the screening process that attempts to predict the risk that you will have a late payment from that applicant.  While timely payments are certainly an important part of the mix, it’s not the only thing that matters.  You should also verify their past rental experiences.

  • Do they complete their lease obligations or do they break leases, leaving landlords to replace them much sooner than expected?
  • Worse yet, were they required to leave (evicted) for non-payment or for breaking other agreements within the lease (objectionable tenancy)?
  • If they don’t want you to know something, is this something they will likely volunteer on the application without being asked?  Probably not.  It is up to you to ask it on your application and then speak to someone who would know from their previous addresses.
  • Do they get along with neighbors?
  • Did they have any pets?  If they did, are they bringing them to your property?
  • Do you even allow pets?  If so, do you charge extra for the rent or deposit? (Excluding pets allowed in accordance with Fair Housing laws.)

As a landlord, spending a little time getting the right renter can save you a lot of time trying to get the wrong one out!

You should be looking for someone who:

  1. Pays the rent on time
  2. Respects your property
  3. Respects the neighbors

Set your rental criteria to meet these standards and verify the information to be sure you are on the right track for a successful tenancy.

In addition to being sure the applicant has the legal right to be in the U.S. for the duration of the rental agreement, make sure that they have the ability to read, understand and agree to the terms within the agreement (which may be done with an interpreter if necessary).  There are some standards that you may want to incorporate in a written format to be displayed at your rental office or as a handy reference when meeting with rental candidates.  Be sure to display Fair Housing compliance statements as well.

History of timely payments.   You want someone who can prove they have a habit of paying bills on time.  If a credit report does not include a score but shows there is a history with no late payments or judgments for accounts that are closely related to housing or living expenses (i.e., utilities, cell phones), this is a good sign.  Proof of timely payments could be verified directly with the account if a credit report is not an option.  If rental managers are unable to verify more than the rental dates, then ask to see cancelled checks where the date cleared is within a few days of the rental due date.

Verifiable income / employment.  You will want candidates to have a history of employment with gross income equal to 3 to 4 times the amount of rent or liquid assets that will be able to cover the annual amount they will owe.  Require proof of the income – not just a statement that it is so on the application.

Rental experience.  Verify with landlords. Did they fulfill their lease terms?  Did they leave any damages or have problems with any neighbors?  You may find it is easier to get this kind of information from individual owners as opposed to apartment managers.  Try to appeal to them by asking as a professional courtesy, “Could you tell me would you rent to them again?”  If you can’t get a verbal or written recommendation, you may want to consider this as a reason to deny an application if you’re getting other red flags such as missing information.

Occupancy Standards.  Check with your local zoning code.  You may want to limit occupancy to recommended standards of two people per bedroom.  A room that is a den (or a closet) by your local code would not count as a means to add two more people.  You may want to consider the exception of an infant/child up to 16-months-old for a one-bedroom.  Don’t forget that additional people mean additional wear and more water/sewer expenses which you may be responsible for if they are not metered and billed directly to your tenant.

Pets.  Will you be allowing pets?  Studies show you may be severely limiting the number of rental candidates if you do not allow pets.  The key is to select from responsible pet owners who understand that having a pet is a privilege that comes with additional responsibilities.

The Humane Society offers some helpful resources for managing pet-friendly properties:

Give your rental criteria some thought. After you have decided what standards you will use, apply them across the board to avoid issues with Fair Housing.  Be fair, but firm in your dealings and teach those who act as agents on your behalf to do the same. You can read previous blogs on Fair Housing for more information.

Jim Aviza
Rich Dad Education Elite Training Property Management Course Instructor

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