7 Problems with Real Estate

1 Capital Locked Down

Any real estate investment requires a down payment.  With great credit you can get less of a down payment but normally it is 20%.  So this is the capital that is required for your investment.  This doesn't count if you have to rehab your investment or any other unexpected expenses.  This capital is locked in place until you either refinance or sell your investment.  This could be a significant amount of time if the real estate market does not cooperate and prices decrease.

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2 Transaction Fees

Every time there is a real estate transaction, there are a ton of fees to pay and legal documents to sign.  These fees can be a deal breaker for some.  They range from 2-8% depending on what is included.  Real estate brokerage fees can be 6%.  If you include title insurance, appraisal fees, staging fees, etc it can be overwhelming.

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3 Price Appreciation

There is no way to guarantee that your real estate investment will increase in price.  If you are rehabbing places then you are investment is increased significantly over your down payment and there is no guarantees that you will get that full investment back.  In a market that we have now where interest rates are increasing after a historic low interest rate environment, real estate investors have to be concerned that there may be a lack of buyers.  Obviously, single family homes differ from commercial, but the increase in interest rates changes the entire spectrum of where investors are willing to put their money.

To truly get value out of your investment property it must increase over the pace of your additional expenses like taxes and upkeep.  Investors may have to also endure a significant downturn in the market valuations similar to 2007 housing crisis.  This is a risk with any investment, but there are additional risks tied to real estate because of the larger amount of capital that is locked down in the mortgage down payment.

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4 Speed of Transaction

This involves the time it takes to actually sell your investment property.  The only way to truly profit is to sell the property after a price appreciation or after years of collecting profitable rental income.  We have all see the "Days Listed" after we have searched for our investments.  We also have to include the time it takes to close the transaction and or the potential that a transaction falls through because of funding complications on the buyers side.  Needless to say, this process can be very quick with a motivated cash buyer or very slow depending on the market environment and price levels.

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5 Return on Investment

This is one of the most important factors to consider when thinking about investing in real estate.  Your return on investment should be considered in all of your investments in combination with diversification and and risk tolerances.

For real estate many people overestimate their return by underestimating their true investment.  Any expense that is not offset by income from the property gets added to the total investment.

If this is a rental property, then there is ideally a small profit each month.  If this is a rehab then all of the rehab costs have to be included.  The rehab model is pretty straight forward as you are trying to flip the house as quick as possible.  Purchase cost, labor, materials, transaction costs, insurance, etc are all included in your base investment.  The return on investment then becomes the profit divided by your total investment.

The rental property can be a little more complicated because of the length of time you hold and an additional fees needed for upkeep.  The goal would be for any upkeep to come out of the net profit while still being able to put something in the bank at the end of the year.  Net profits divided by total investment gives you the ROI for the life of the investment.

In order to compare to other investments you may need to compare average monthly income vs total investment.

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6 Speed of Return

The speed of return on how quick you make money.  If you are rehabbing a property then you need to know how quick you can flip it and know your carrying costs and expenses to know your return on investment.  You can then compare the total time of the purchase to the sale and your return to give you an idea of how quickly you can make your profit.  This is always longer than planned.  To compare your return you will convert your profit in terms of similar times frames.

If you are doing a rental property then you can compare the monthly return vs other returns on a monthly basis or on an annualized basis.

With both styles of investment it is important to compare your ROI to the same time frame as other investments.  If you can make 10% ROI on flipping a house and it takes you one year, but another style of investment can make that same 10% in a month then there is not much of a comparison.

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7 Headaches

As with most investments there is always some stress that things don't work out.  Real estate seems to be loaded with opportunities for things to go wrong.  For rehabs, just simple timing of contractor getting into the jobs to pulling permits can completely destroy potential profit of a flip.  Rental investments have the long term aspect of the investment so there is always upkeep in addition to filling vacancies, to late rent or even evictions.

You really have to weigh the opportunity and potential headaches before you put your hard earned money to work.

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