Your Investment Property Shopping Criteria

It's time to start looking for a property. Before you do you need to define your selection criteria. This section will focus on what your criteria is, why it matters, and how to define it.Imagine that you want to use a new recipe in making your dinner tonight . You take out a cookbook to find a recipe that looks good, discover a great baked chicken meal, and make your shopping list of ingredients in order to make the meal for your family. You head to the store and begin picking up the items on your list. Chicken, basil, olive oil, and other items begin to fill your cart. Suddenly - you see the spaghetti and remember another recipe that you once wanted to try with spaghetti. You begin to reach for the spaghetti but then remember your shopping list. Spaghetti isn't on the list for tonight's dinner, so you put back the distraction and continue on your way home to make a perfect dinner for your family.

Real estate is no different. Your selection criteria list is just like your ingredient list in the example above. It is designed to keep you focused on shopping for the things you need, and not waste money on other good looking things along the way. Real estate is an exciting field with a lot of different niches and strategies - so it is easy to get distracted by the next big thing or trend. Having a clearly defined selection criteria can help you stay focused, avoid "analysis paralysis" and keep you on track to buy a great investment property. By defining your criteria, you will be able to narrow down the choices in the market, and you will then eliminate the vast majority of deals that are only distractions.  Instead, you'll focus on finding just the kind of deals that you are interested in buying.

Creating Your Selection Criteria

In chapter three, we looked at a number of different niches you could invest in, as well as multiple strategies you can use to invest. It's now time to choose the niche and strategy and come up with a list of criteria to narrow down your selection further.
There are a number of different items you will want to consider to add to your "criteria list." These could include:

• Neighborhood
• Property Size (Square Ft)
• Lot Size
• Property Conditions
• Number of Units
• Cap Rate
• Cashflow
• Appreciation Potential

No one can tell you exactly what your investment property criteria should or should not include. Some of it will come down to personal preference, such as "I only want to buy in Seattle" or "I only want houses with basements," but most of your chosen criteria will revolve around the kind of investment you are getting into. For example, if you are looking to become a "buy and hold" investor of small multifamily units, your criteria is going to include small multifamily properties and will exclude old commercial buildings.
By specifying, ahead of time, what criteria you are willing to look at, your search becomes much more manageable. In the same way, you are able to more effectively communicate your desires to others who may help you buy property. If you simply told people "I am looking for real estate," the most likely response would be "good for you..." However, if you instead mentioned that you were looking "to buy a small single family house in the Rockford neighborhood for under $150,000," you enable others to think of properties that might match that description and get you connected with the deal.

Understanding "The Rules" of Investment Property

Perhaps the most important part of the criteria you put together is the financial component. If a deal doesn't make sense financially, it's not going to be a strong investment for you. In chapter two we looked at some of the basic math surrounding real estate investing, such as income, cashflow, and return on investment. However, generally speaking, a listing is not going to tell you the important information you want to know about the financials of a property. Yes, you can generally determine the amount of income the property makes - but you won't know immediately how much monthly cashflow the property produces, how overpriced the property is, or what you should offer. Additionally - it's not going to make sense to get out your spreadsheet and do a full property evaluation on every single deal you glance at. This is when "rules" come into play.
A "rule" is short for "rule of thumb." Rules can help give you a quick way to evaluate a property's financials on the fly. As with any "rule of thumb" using rules is not an exact science and should never be relied on entirely to decide if a property is a good investment. However - they can help you quickly filter a property and decide if it's worth further evaluation. Let's take a look at a few of these rules:

The 2% rule states that your monthly rent should be approximately 2% of the purchase price. 

In other words, a $100,000 home should rent for $2,000 per month; a $50,000 home should rent for $1,000 per month. This is a very conservative estimate that is very simplistic but can help in deciding if a property warrants a deeper look. In most parts of the country, the 2% is very difficult to achieve, but the closer you can get to that, the better cashflow you'll receive.
Real World Example: An average three bedroom home rents for $800 per month in your neighborhood. According to the 2% rule - you should be looking to spend around $40,000 for that property ($800 / .02 = $40,000)

The 50% rule is a great rule-of-thumb that helps you to fairly-accurately predict how much your expenses are going to cost you each month for a property. 

The 50% rule simply states that 50% of your income will be spent on expenses -- not including the mortgage payment. 

As mentioned above - most real estate listings will let you know what the monthly income of a property is. By dividing that number in half, you are able to easily see how much you'll have left to pay the monthly mortgage (principle and interest). Any income left over, after the 50% of expenses and the mortgage payment are taken out, is your cashflow. The 50% of expenses includes all expenses, including repairs, vacancies, utilities, taxes, insurance, management, turnover costs, and the occasional "big ticket" repairs that must be saved up for -- aka. CapEx or Capital Expenses like roofs, parking lots, furnaces.
Real World Example: An apartment building brings in $8,000 per month in income. Using the 50% rule, we are left with $4,000 to make the mortgage payment. If the monthly mortgage payment on the property was $3,500 per month, you can reasonably assume a monthly cashflow of $500 per month.
The 50% rule is especially helpful in teaching that expenses are almost always more than one might think. One common mistake that new investors make is under-estimating how much the expenses are going to cost. The 50% rule helps to show that there are always costs that are unexpected, so plan for them.

The 70% rule is used by investors to quickly determine the maximum price one should pay for a property based on the after repair value (ARV). Though most-often used by house flippers, the 70% rule can actually be used for any strategy when you want to find a good deal. 

The 70% rule says that you should only pay 70% of what the after repair value is, less the repair costs.


Real World Example: A home which, after being fixed up, should sell for approximately $200,000, needs approximately $35,000 worth of work. Using the 70% rule, a person should multiply $200,000 by 70% to get $140,000 - and then subtract the $35,000 in repairs. The most a person should pay for this property, therefore, should be $105,000.
Remember, a rule of thumb like the ones above are used only to quickly and efficiently screen a property and decide if it's worth further investigation. Never use a "rule of thumb" to decide exactly how much to pay or if you should invest or not. If a property passes the above rules (or gets close) it may be worth a more detailed analysis on paper or via a computer spreadsheet. Don't confuse a rule of thumb for a license to skip doing your homework.

Negotiating The Deal

5 reasons you still need a real-estate agent

You might think buying or selling on your own will save money, but it could be more costly in the long run.

The proliferation of services that help home buyers and sellers complete their own real-estate transactions is relatively recent, and it may have you wondering whether using a real-estate agent is becoming a relic of a bygone era. While doing the work yourself can save you the significant commissions that many real-estate agents command, for many, flying solo may not be the way to go — and could end up being more costly than a commission in the long run. Buying or selling a home is a major financial and emotional undertaking. Find out why you shouldn't discard the notion of hiring an agent just yet.

1. Better access/more convenience
A real-estate agent's full-time job is to act as a liaison between buyers and sellers. This means that he or she will have easy access to all other properties listed by other agents and will know what needs to be done to get a deal together. For example, if you are looking to buy a home, a real-estate agent will track down homes that meet your criteria, get in touch with sellers' agents and make appointments for you to view the homes. If you are buying on your own, you will have to play this telephone tag yourself. This may be especially difficult if you're shopping for homes that are for sale by owner.

Similarly, if you are looking to sell your home yourself, you will have to solicit calls from interested parties, answer questions and make appointments. Keep in mind that potential buyers are likely to move on if you tend to be busy or don't respond quickly enough. Alternatively, you may find yourself making an appointment and rushing home, only to find that no one shows up.

2. Negotiating is tricky business
Many people don't like the idea of doing a real-estate deal through an agent and think that direct negotiation between buyers and sellers is more transparent and allows the parties to look after their own interests better. This is probably true — assuming that both the buyer and seller are reasonable people who are able to get along. Unfortunately, this isn't always an easy relationship.

What if you, as a buyer, like a home but despise its wood-paneled walls, shag carpet and lurid orange kitchen? If you are working with an agent, you can express your contempt for the current owner's decorating skills and rant about how much it'll cost you to upgrade the home without insulting the owner. For all you know, the owner's late mother may have lovingly chosen the décor. Your real-estate agent can convey your concerns to the seller’s agent. Acting as a messenger, the agent may be in a better position to negotiate a discount without ruffling the homeowner's feathers.

A real-estate agent can also play the “bad guy” in a transaction, preventing the bad blood between a buyer and seller that can kill a deal. Keep in mind that sellers can reject a potential buyer's offer for any reason — including just because they hate his or her guts. An agent can help by speaking for you in tough transactions and smoothing things over to keep them from getting too personal. This can put you in a better position to get the house you want. The same is true for the seller, who can benefit from a hard-nosed real-estate agent who will represent his or her interests without turning off potential buyers who want to niggle about the price.

3. Contracts can be hard to handle
If you decide to buy or sell a home, the offer-to-purchase contract is there to protect you and ensure that you are able to back out of the deal if certain conditions aren't met. For example, if you plan to buy a home with a mortgage but you fail to make financing one of the conditions of the sale — and you aren't approved for the mortgage — you can lose your deposit on the home and could even be sued by the seller for failing to fulfill your end of the contract. (Keep in mind that the details of any contract may vary based on state law.)

An experienced real-estate agent deals with the same contracts and conditions on a regular basis and is familiar with which conditions should be used, when they can be removed safely and how to use the contract to protect you, whether you're buying or selling your home.

4. Real-estate agents can't lie
Well, OK, actually they can. But because they are licensed professionals, there are more repercussions if they do than for a private buyer or seller. If you are working with a licensed real-estate agent under an agency agreement, such as a conventional, full-service commission agreement in which the agent agrees to represent you, your agent will be bound by law to a fiduciary relationship. In other words, the agent is bound by law to act in his clients' best interest, not his own.
In addition, most real-estate agents rely on referrals and repeat business to build the kind of client base they'll need to survive in the business. This means that doing what's best for their clients should be as important to them as any individual sale.
Finally, if you do find that your agent has gotten away with lying to you, you will have more avenues for recourse, such as through your agent's broker or professional association or possibly even in court if you can prove that your agent has failed to uphold his fiduciary duties.
When a buyer and seller work together directly, they can — and should — seek legal counsel, but because each is expected to act in his or her best interest, there isn't much you can do if you find out later that you've been duped about multiple offers or the home's condition. And having a lawyer on retainer any time you want to talk about potentially buying or selling a house could cost far more than an agent's commissions by the time the transaction is complete.

5.  Not everyone can save money
Many people eschew using a real-estate agent in order to save money, but keep in mind that it is unlikely that both the buyer and seller will reap the benefits of not having to pay commissions. For example, if you are selling your home on your own, you will price it based on the sale prices of other comparable properties in your area. Many of these properties will be sold with the help of an agent. This means that the seller gets to keep the percentage of the home's sale price that might otherwise be paid to the real-estate agent.
However, buyers who are looking to purchase a home sold by owners may also believe they can save some money on the home by not having an agent involved. They might even expect it and make an offer accordingly. However, unless buyer and seller agree to split the savings, they can't both save the commission.


The bottom line
While there are certainly people who are qualified to sell their own homes, taking a quick look at the long list of frequently asked questions on most “for sale by owner” websites suggests the process isn't as simple as many people assume. And when you get into a difficult situation, it can really pay to have a professional on your side

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