Though real estate investing is one of the best ways to generate cash flow and build wealth, inexperienced investors are prone to make mistakes that are financially crippling. In this article, we discuss 5 of the biggest mistakes investors make with real estate, often setting themselves up for failure.
#1 Over Leveraging
Leveraging investment properties is a common practice, and can greatly increase investors’ overall profits. Real estate that is not leveraged is dead money, but real estate that is over leveraged is a time bomb waiting to explode.
When considering how much to leverage a property, here are two important things to consider:
- Don’t rely on appreciation. Real estate investors make a great deal of money from appreciation. But, investors also don’t know when a down cycle is coming in the market. Therefore, investors should not rely on appreciation when calculating the amount of leverage to use.
- Conservatively calculate cash flow. Sufficient cash flow is the lifeblood for real estate investing. Too often, inexperienced investors do not conservatively calculate cash flow, and eventually must sell properties at a loss to raise cash. Investors should, therefore, closely monitor their debt-service coverage ratio (DSCR) to ensure they have adequate cash flow.
#2 Falling in Love with an Investment Property
Falling in love with an investment property has numerous consequences, including over improving the property. New real estate investors are especially prone to renovate an investment property like they would their own home, which decreases their cash flow and throws profits down the drain.
Besides over improving the property, investors who fall in love with their properties don’t tend to formulate an exit strategy before purchasing the property, which we talk about later in the article. As a result, they often overpay and hold their properties too long.
#3 Insufficient Cash Reserves
“Cash reserves” refers to the amount of cash kept on hand to pay for extraordinary expenses, in addition to carrying costs while a property is vacant.
As a rule of thumb, keep at least 6 months of expenses for each property. So, an investor with 10 properties, each costing $800 per month, should have a minimum cash reserve of $48,000.
When investors try to get by with a lower cash reserve, they inevitably make a big mistake, experience a natural disaster or a downturn in the rental market, and become insolvent.
On the flip side, investors who keep a reasonable cash reserve, make more money in the long run. Furthermore, solvent investors can take advantage of good buying opportunities, as when greedy investors must liquidate their properties to raise cash.
#4 Lack of Due Diligence
Profitable real estate investors exercise due diligence in every aspect of the investing process, including research before buying a property, the actual purchasing process, rehab, property management, leasing and/or selling the property.
These investors typically rely on real estate, construction, financial, and legal experts to help them through the entire process. Therefore, they typically avoid foolish mistakes and generate higher profits.
Amina Mohamed, who is a mortgage broker in Canada, shares her experience of due diligence, resulting in purchasing an excellent rental property that will generate cash flow profits for years.
You can read Amina’s article here: Financial Freedom Through Wholesale Real Estate Investing In The U.S.
#5 Not Planning an Exit Strategy
Every investor should have a real estate investing business plan, which outlines a basic strategy of investing, including a holding and exit strategy. Specifically, the exit strategy should include a preferred exit, secondary exit, and last resort exit strategy for different types of property.
We recommend that the first thing investors should know when considering whether to invest in real estate is that they need to “create a strategy, and plan their goals, which includes determining an exit strategy.
Graystone Investment Group
Graystone Investment Group is an experienced real estate wholesaler in Tampa Bay. We serve clients who flip homes in as little as 30 days, as well as clients who hold high cash flowing rental properties.
Unlike other wholesaling groups, we provide clients with a turnkey process at no extra charge. We find properties that we resell to investors at discount prices, while also connecting them with private financing. We also coordinate with rehab and management companies we’ve worked with for years.