Real Estate Investment Mistakes To Avoid

Squaw Valley, Lake Tahoe California

Unless you are really rich or don’t care about financial returns, you probably shouldn’t own any vacation property. In the Spring of 2008, I bought a vacation property at my favorite resort up in Lake Tahoe. The property is in a secluded place with ski-in/ski-out during the winter and golf, hiking, and fishing on the premises during the summer. Ah, the good life!

Although Bear Sterns had gone under, I was still hopeful things wouldn’t get too bad. Our government consistently bails everybody out after all. Unfortunately, I was wrong as there was no amount of money the government could inject into the system at the time that could stop the wave of defaults. Instead of making a lot of money from my job that year, my income got whacked and I lost over $200,000 in my vacation property the subsequent year.

I thought I was getting a deal for $700,000 because the owner had just bought the place a year ago for $815,000. Surely, a property with over $80,000 in gross annual rental revenue could not go much lower. Of course I was wrong because the condotel secondary mortgage market shut down as no banks were willing to lend for vacation properties anymore. The only people who could buy were those with enough cash. This was a great reminder why cash really is king.

As the financial crisis worsened in 2009, fellow resort owners started going into foreclosure, bringing values of adjacent properties down as well. This is a big problem with owning a condo. You are at the mercy of your neighbor down the hall. In a real estate downturn, the first properties to get hit are vacation properties because they are non essential. Meanwhile, you have tons of people shirking on their loans in California because we are a non-recourse state. If you stop paying your mortgage and hand back the keys, the banks cannot go after your other assets!

I’d like to go over some real estate mistake one should avoid making. It’s good to relive financial errors in order to make better choices in the future!

SIX REAL ESTATE MISTAKES TO AVOID

Should I Include My Primary Residence When Calculating Net Worth? The Case For Yes

House on cliff in SantoriniThere’s a debate raging whether one should include their primary residence or not as part of their net worth calculations. In my post, “The First Million Might Be The Easiest,” I exclude my primary residence in calculating my net worth figure at 28 because it is the conservative and most accepted way of calculating net worth.

The way to calculate your net worth is a personal preference where so long as you are netting out your liabilities from your assets you’re on the right path. Calculating the proper net worth is all about creating different scenarios that match your risk tolerance and financial goals as we’ve discussed in “How To Better Manage Your 401(k) For Retirement Success.”

It does seem strange to exclude what is likely our most valuable asset from our balance sheet. This post will argue why it’s absolutely fine to include our primary residence when figuring out how much we are worth.

A RENTER’S PERSPECTIVE TO NET WORTH CALCULATION

How Hot Is The Real Estate Market? Example Of A 30% Overbid

how hot is the real estate market

Remember the $1.69 million three bedroom, two bathroom condo I used as an example in “How To Correctly Value And Analyze Property“? I forecast it would go for $1.85 million. 2553 Greenwich has a fantastic view of the Bay, but it doesn’t have a dedicated entrance, and it’s on three floors after walking up a flight of stairs.

I figured the property could easily reach $1,000/sqft in several years, or $2 million due to the view and upward trajectory of the SF real estate market. It turns out my estimate of $1.85 million was just wishful thinking of what I’d like to pay. A friend’s friend bid $2 million for the place cash and LOST! Just think about that for a minute. Someone was willing to pony up $300,000 above asking and still got a big fat rejection!

The only people who have $2 million cash liquid are those with net worths of at least $5 million if not much, much more. Of course someone with “only” a $2-3 million net worth fully invested in the stock market could just liquidate instead, but that’s highly unlikely. The multi-millionaires I know coincidentally follow two main Financial Samurai rules: 1) They don’t spend more than 1/10th of their gross income on cars, and 2) No one asset class makes up more than 50% of their net worth. They are highly diversified.

Lessons Learned From Not Selling My House

San Francisco Bay Area Home Price ChartsBack in the summer of 2012 I decided to test my house on the market to coincide with the Facebook IPO. (Should I Sell My House As Facebook Goes Public?) Although I didn’t want to sell my house, I was in a peculiar stage in my life where I was just coming off my WARN Act income after leaving my job of 11 years. With the great unknown ahead and a recovery in the housing market, maybe, just maybe I could entice a newly minted Facebook millionaire to buy my house for top dollar. With the cash proceeds I’d immediately fly to Vegas and bet it all on black to double my money! Just kidding.

My realtor was a tennis friend of mine who hounded me for literally a year to give him the listing. Because I was so reluctant to sell, I basically told him to list 5%-8% above the market hoping that my house would either not sell or I’d find an avid buyer and have no choice but to sell. It’s always a good idea to underprice your house in a hot market to create a bidding war. Overpricing is a buzz kill. The listing also gave me an excuse to finally paint my living and dining rooms I’d been putting off for years.

After about three and a half weeks on the market with several serious inquiries but no silly money I decided to pull the listing. My realtor begged me to keep the house up for a couple more weeks but I was sick and tired of the private showings. Deep down I continued to feel like selling at that time was a mistake given the recovering markets. But I also felt a little bad for my realtor given he spent so much time decorating and working on the marketing material. However, as soon as I thought about the six figure commission I’d have to pay, the guilt was replaced with disgust at the collusive pricing structure in the real estate industry.

Now that a year has passed, I can honestly say that I’m ecstatic to have kept my home. For starters, my house is my home where I plan to continue making great memories. Financially speaking, the real estate market in San Francisco has moved up anywhere from 8-30% depending on who you talk to due to a tightening labor market and continued low inventory. Prices are up about 12% nationwide YoY in April 2013 so the 8-30% range is in the ballpark.

This post will hopefully help homeowners who are thinking of selling or renters going through the process of buying in a recovering real estate market. Price gains should slow with the recent rise in interest rates, although you never know now that the herd is running in full force!

LESSONS FROM NOT SELLING A HOME

A Pricing Strategy To Maximize Rental Income And Minimize Turnover

San Francisco SkylineMy latest search for a tenant was not easy. After hosting six open houses over a one month period I’ve finally found the one who will hopefully stay for longer than one year, pay on time and take good care of the place. It’s a darn small world because her boss is a fellow tennis club member I see literally every week. He enthusiastically gave her a thumbs up so here’s hoping for the best!

The average search duration during my previous three changeovers took half as long. I attribute two reasons for the duration difference: 1) Pricing and 2) Pickiness. Over the past 10 years I’ve seen my net worth grow just like most of you. As a result, I’ve become more picky in choosing “the ideal tenant” because my rental property is decreasing as a percentage of my overall net worth. With such a decline comes a reduction in time I want to spend tending to this asset. Meanwhile, I raised my asking price by $400, equivalent to a 12.5% increase.

My first tenants were French citizens with no credit or rental history. I was a first time landlord back in 2005 who based my decision on gut and paystubs. They fortunately turned out to be terrific tenants who stayed for four years until they got married and decided to buy a place of their own. Perhaps I was lucky, or perhaps most tenants are simply honest to goodness people and being so thorough isn’t necessary.

With each subsequent tenant I’ve scrutinized just a little more. A minimum of 40X monthly rent for annual income and credit scores of over 720 are non-negotiable criteria now. The average credit score for a rejected mortgage applicant is 729 so I’m not far off. The one thing landlords need to realize, however, is that you can’t always get what you want. After the fifth showing I almost gave in by lowering my price, but figured out a win-win pricing strategy just in time.

MAXIMIZE YOUR RENTAL INCOME WHILE LOWERING TURNOVER