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Real estate investments should be tailored to the
particular investor’s needs and abilities. What is right for others
may not make a good investment for you. |
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In determining the type
of investment you’d like to pursue, think about your goals and the
money and effort you are willing to expend in order to achieve them. How
much are you willing to risk? Return on your investments is directly
related to the risk involved. Much can be done to reduce your risks,
but nothing is guaranteed. This means you should also take into
consideration the amount of negative cash flow you can live with.
Setting realistic goals is the first step in coming up with an investment
plan. Once you know where you want to go, you can determine the
best path to take. The next step is up to you. |
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Analyzing
Property
If you are putting up money or accepting some form of financial
obligation, it’s important to remember that, ultimately, the decision
to invest is in your hands. Buyers must carefully consider the property,
the area and the economy when choosing an investment.
Location
Location is the most significant factor in a property purchase.
Values can vary widely from place to place, so arm yourself with
information before making a commitment. Investors tend to suffer
the biggest losses when they stray from their area of expertise.
Property goes through three stages: integration, equilibrium and
disintegration. Look for positive signs in established neighborhoods,
such as renovation, gentrification (younger, more affluent residents
moving in), and/or low vacancy rates. Moreover, be aware of negative
factors like graffiti and other signs of decline, abandoned buildings
and the conversion of large homes to apartments.
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Other
general rules
- Better homes tend to be built outward from
a community in the same direction;
- Commercial property grows outward along major
transportation routes;
- Desirable recreational facilities as
well as the presence of colleges, universities and medical facilities
increase the desirability of surrounding housing;
- As a rule, it’s best to buy the least expensive
property in a good area. The surrounding properties will raise
the value of your land. This is the principle of progression.
A similar phenomenon occurs when an expensive property is surrounded
by less valuable properties: the value of the expensive property
is pulled down.
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Zoning
Zoning can also have a significant effect on the value of a property.
Restricting the use of properties or adjacent “non-conforming” properties
can change value.
CC&Rs
Similar to zoning, Covenants, Conditions & Restrictions (CC&Rs)
are private restrictions placed on the use of property in a specific
subdivision. This usually pertains to use, size and style of properties.
The law states that when restrictions conflict (i.e. zoning and CC&Rs
are not consistent), then the more restrictive use governs. |
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Other
factors affecting land value
- Political climate
- Accessibility of utilities
- Topography & drainage
- Development of roads
- Vehicular & pedestrian traffic through
the area
- Shape of a parcel (a triangular lot
is less valuable than a rectangular one)
- Highest and best use (i.e. use that
provides greatest net income)
- Income to Expense ratio to maintain
property
- Condition of the physical structure
(foundation, paint, electrical wiring, roof, etc)
- Presence of hazardous substances
(asbestos, lead, termites, toxic mold, etc)
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Appraisals
Methods
of determining the value of a property include:
Comparative analysis: shows listing and sale price
for properties with similar features, in same area, same size. Generally
provided by a broker and used in appraising residential homes.
Market comparison method: The easiest appraisal
method to learn and the one used by most people buying property.
It is simply comparing one property to another using substitution
of a like property providing similar benefits of ownership. Differences
in amenities are given a value and added or subtracted to determine
overall value. For example, if you are comparing two properties
that are exactly the same except one has a pool, the pool is given
a dollar value that is either added or subtracted to balance things
out.
Replacement cost method: Generally used in the
valuation of new structures or those without comparable properties
in the area. The building is appraised according to how much it
would cost to build a similar structure providing similar benefits.
The property value is reached by adding this rebuilding amount to
the value of the land, then subtracting accrued depreciation. This
method is problematic as it is often difficult to determine the
accrued appreciation.
Income method: Used to appraise income properties,
the value is found by dividing the net income (gross income – expenses)
by the rate of return.
Gross multiplier: not a true appraisal, but a method
used to obtain a ballpark figure. For example, if investors of a
particular type of property are paying the equivalent of 5 times
the annual gross receipts, then an investor would evaluate the property’s
price by multiplying the annual gross income times 5 to see how
the property price compares.
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