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Real Estate Investing Financing Truths - Part 1 of 2
| | Monday, October 17, 2005 @ 09:24 AM EDT
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Contributed by: Steve Majors
Steve Majors Properties
Read more archived articles about Managing
Take an inside look at 'traditional' and 'creative' real estate investing methods and discover simple formulas to make the most of your real estate investments in today's marketplace. (Part 1 of 2)
(p28 - The Lazy Investor's Guide to Real Estate)
real estate investing Financing Truths - Part 1 of 2
Traditional Methods of real estate investing
Through years and years of transactions, the
traditional method of buying and selling Real Estate
investments has evolved into a market of its own
and has grown into a Real Estate 'machine' that
circulates massive amounts of money through Real
Estate Agents, Real Estate appraisals, Title & Escrow
Companies, Banks, and Mortgage Companies.
These once-simple real estate investments have
grown from a modest fee for a professional to keep
the Buyer's or Seller's best
interest in mind during
negotiations, to now, traditionally, 6% (or more) of
the total sales price being paid to Real Estate
Agents (via Brokers who often take the majority of
the money), another 3 - 5% being paid to Title,
Mortgage and Escrow Companies for various fees,
and then even more is taken for a real estate
appraisal.
As if that weren't enough, then a huge amount of
money is absorbed by the Bank, through the form of
interest payments - usually over 15 - 30 years and
totaling 2 - 3 times the original purchase price of the
initial Real Estate investment!
Down Payments go to pay a variety of fees.
Now, don't get me wrong, it certainly is possible to
make money through these methods, but the
'traditional real estate investment system' is
designed to simply 'break even' for the home owner
in purchasing a home (the first, and perhaps, only
real estate investment they will ever make) in this
manner. It is really not designed for the investor,
who, of course, wants every real estate investment
to make money.
Traditional funding only allows the Home Owner
to break even.
Example - Home Owner Financing:
(the numbers represented here reflect the methods,
not necessarily the price structures of any given real
estate investment market.)
List price on property (with Real Estate Agent)
$200,000
Bank loan available (owner-occupied, 100% @ 7%
interest)
$200,000
Monthly payments (over 30 years)
~ $1350
Taxes, Insurance, etc. (per month)
~ $250
(This example is for an 'average' home in an
'average' neighborhood, for the 'average American'
using an 'average' interest rate of 7% - of course,
these figures do not apply everywhere.)
Therefore, the payment for this property is
approximately $1600 per month for 30 years, to be
paid by the home owner living in the property.
Now, the 'traditional real estate investment system'
allows for this home owner to have a change in their
lives and decide to purchase another (usually larger)
home. They have the right, and often do, 'rent out'
the first house and move into the new one with their
family.
The owner will be responsible for any additional
expenses (repairs, Home Owner's Association fees,
etc.) as well as their desire to make a small cash
flow from this endeavor.
Their previous home now becomes a true real estate
investment where they increase their 'homeonwer's'
monthly payment to the 'renter' by an additional
$200 per month, for a total price to the renter of
$1800 per month.
Reasonable enough - until/unless there are repairs
to be made - or, the renter leaves and the new
'landlord' has to make payments on this vacant
house. Then, this $200 positive cash flow per month
real estate investment doesn't look so goodˇ.
But, the ˇ°rentˇ± has been established for that house
- and the 'comparable rent for the area' can easily
be calculated using this method;
STANDARD RENT CALCULATION - (Simple Method)
Total payment for the property (includes Principle,
Interest, Taxes and Insurance - known as PITI at
100% loan at 7% interest)
+ cash flow for the 'investor' (usually $200 per
month)
= 'Rent'
Note: With several homes in the area of similar size
and style, plus the fact that most homeowners in the
area have similar loan structuring, we can estimate
that whatever the average loan percentage is will
create a 'standard rental rate for X model real estate
investment' - in this case, $1800.
A simple (and LAZY) way to remember it is;
PITI + $200 = STANDARD RENT
If an 'investor' (one that seriously wants to make
money from buying/selling Real Estate investments)
wishes to purchase the same house in the same
area and for the same amount of money, the
'traditional real estate investment system' doesn't
allow the investor to really make any money from
the transaction.
Example - Investor Financing:
List price on property (with Real Estate Agent)
$200,000
Bank loan available (investor loan, 80% @ 8.4%)
$160,000
Monthly payments (over 30 years)
~ $1250
Taxes, Insurance, etc. (per month)
~ $250
(This example is for an 'average' home in an
'average' neighborhood, for the 'average American'
with an 'average' investor interest rate of 8.4% - of
course, these figures do not apply everywhere, but
the formula is very similar.)
Therefore, the monthly payment for this investor-
owned real estate investment is approximately
$1500.
At first glance, seems very good, as the investor will
have a 'cash flow' of $300 per month - more cash
flow per month than the homeowner-turned-
investor.
However, the difference is that the 'Investor' (the
one serious about making a profit from this real
estate investment) has brought in cash (out of
pocket) of $40,000 - UP FRONT!
Plus, the investor has to pay a higher interest rate
(in this example, I have included 1.4%, while a bank
may charge several percent for investor loans -
those identified as being purchased solely for the
purpose of being a real estate investment - check
with your lending institution on their policies prior to
finalizing your loans)!
Now, I don't know about you, but I don't know too
many people with that kind of money for 1 property
- not to mention the fact that this person expects to
make several real estate investments, repeating
'what works' several times.
Not only does the investor have to come up with
$40,000 up front (every time they decide to make a
real estate investment), but how long will it take (at
$300 per month) to make enough to purchase a
second investment property at this rate?
10 YEARS!! (presuming there are never any repairs,
the investor never takes out a penny of the cash
flow for their own use, etc)!
Investors and Homeowners get different rates.
Not what I call a 'wealth path', not what I teach -
and certainly not any way to run a business.
END Part 1 of 2
Steve Majors - The Lazy Investor
Note: Steve Majors - The Lazy Investor
Profit from Real Estate Investment articles, real estate investing information and news from one of the most creative investors on the planet
Word Cloud:
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