“Luck is what happens when preparedness meets opportunity.” – Earl Nightingale
Everyone has a junk drawer. It contains the pens, pencils, paper clips, AA batteries, loose change, TV remotes, etc. And, if you’re like me and have daughters it also has pink hair clips, Barbie doll accessories and Peter Piper Pizza game tokens. I love my junk drawer, a household melting pot of stuff, a place for everything I don’t have a drawer for.
What does this have to do with real estate investing? I have met many newbie, would-be, so-called, part-time, full-time and yes, even sophisticated investors that use this same junk drawer mentality to acquire property. At a networking event last month I met a guy who was hocking developable land in Mexico one second and a wholesale- flip-opportunity in suburban Phoenix the next. Then there’s the guy I know who is running a short-sale business here in Arizona but is also trying to buy a property in California that he can convert to an assisted living home.
You’ve heard the phrase “jack of all trades but master of none?” That is the definition of a junk drawer real estate investor. If you’re going to have sustained, long-term success in real estate you must be very clear and consistent.
- Do you want to be an active or passive investor?
- Do you want cash flow or appreciation?
- What is your exit strategy?
Active or Passive Investing?
An active investor is directly involved in the day-to-day operation of the business. For example, in a flip model that means identifying the subject property (via the MLS, wholesalers, bird dogs), doing the due diligence (market analysis), arranging the financing, acquiring and rehabbing the home, marketing and finally selling it on the retail market. There’s also a lot of coordination involved throughout the process, like dealing with utility companies, insurance agents, construction trades, loan officers, title companies, sellers, buyers and buyer’s agents.
The passive investor funds the deal, either with traditional bank financing, a secured/unsecured promissory note or partnership interest in the entity that is created by the active investor to purchase and sell the properties. It is then the responsibility of the passive investor to get out of the way and collect the profit, or mailbox money.
Keep in mind you can be both in any real estate deal and most investors are, especially when just starting out. As you become more successful, more often than not, you’ll meet active real estate investors disguised as passive real estate investors. They will tell you that they want to invest money with you. But, before long they want to be involved in every decision, no matter how trivial. There is an affectionate term for this type of investor – PITA – Pain in the Ass Investor. Needless to say, stay away from the PITA.
Cash Flow or Appreciation?
- Profit from a flip
- Rental income from a buy and hold
If you seek a quick return on investment then you want to cash flow. Of course, your rate of return will vary. If your exit strategy is to buy and hold, on average expect 8-12% cash on cash. On the other hand, if you flip like I do it’s not uncommon to get a 40% ROI or more.
Are you more interested in long-term wealth accumulation? Then investing for appreciation would be for you. Real estate that appreciates quickly typically cost more to buy and maintain (i.e. beach front property, vacation rentals, move-up homes, multi-family properties.) But, they will increase more in value as time goes by.
There are many acquisition strategies. However, there are only four exit strategies:
- Fix and flip
- Buy and hold
Which will you choose? That will depend on the market you are in. In Phoenix from 04-07’ it was difficult to buy and hold or lease/option. The price of real estate was too high (can you say negative cash flow?) Those who used these strategies during that time got creamed (I know because I was one of them.) The music stopped and I didn’t have a chair. Today, the buy and hold strategy is a great way to go because prices have bottomed and there are cheap, cash flow homes available on the market.
Don’t Be a Junk Drawer Real Estate Investor
Resolve not be a junk drawer real estate investor. Decide what type of investor you want to be, what kind of return you want and what type of exit strategy you plan to employ. Then, become an expert in the market you plan to invest in. Pick a small geographic area and conquer it. It’s like Max Weber, one of the founders of modern sociology once said, “Only by strict specialization can the scientific worker become fully conscious, for once and perhaps never again in his lifetime, that he has achieved something that will endure. A really definitive and good accomplishment is today always a specialized act.”