Welcome to “Tarl's Weekly Insights," my take on real estate today.
Hey,
There’s so much talk around interest rates right now. It affects everything from retail buyers to investors just like you and I.
But interest rates aren’t the only thing you need to consider. Read on, I’m going to share what rates you’re likely not considering in your investments…
Rate = Risk
This sums up the vast majority of my experience in real estate… so what does that really mean?
There are a variety of ways you can interpret "Rate = Risk" and here are a few of the big ones:
- Higher the rate on your loan, means the lender views you and/or your deal more risky
- Lower rate on your loan, means the lender views you and/or your deal less risky
- Higher the potential profit margin on your deal, can (but not always) mean the lower risk you are taking on the deal
- The more contingency percentage you put in your rehab budget (buffer), the less risk you take on the rehab costs
- The lower 'guaranteed' return you get on an investment (ie, CDs, Bonds, A+ rated notes, etc), the lower risk (in theory) you are taking on the investment
- The higher 'potential' return on your investment on a speculative deal, can mean the higher risk you are taking for the potential of greater reward
And the list goes on and on...
The thing about measuring risk that messes some of us up though is that WE ALL have different tolerances and measures of how we determine our risk.
However the important thing to note out of all of this, is that MITIGATING RISK is the key to a long term (and short term) real estate investment strategy. The better we get at doing this business and mitigating our downside (risk), the more profitable AND less risky real estate gets for us.
What is the most common way that I personally measure my risks when investing in Single Family Housing (SFH)? For me, it’s measuring the total project cash-on-cash (COC) return of a potential SFH deal.
For the last 13 years, I have measured all of my SFH purchases based on project COC assuming the property is being PURCHASED all cash and REHABBED all cash.
Why assume an all cash purchase and all cash rehab when analyzing a deal (initially) and not add finance costs?
Simple, finance costs change, but all cash deals are neutral when evaluating risks.
I personally buy my SFH flips with a minimum target COC ROI at 15% per project. How do you calculate this?
Example (overly simplified):
Purchase all cash = $100,000
Rehab all cash = $50,000
Total CASH for project = $150,000
Target Profit margin = 15%
Target cash profit = $22,500
Add in resale costs and taxes/insurance total.
After Repair Value minimum ROUGHLY = $190,000
This is assuming NO finance costs, plus 6% real estate agent commissions and average escrow/title closing costs, etc. This is just an example.
I go over in detail how I do this on a video for free when you get my Profit and Loss Spreadsheet here (you probably already have this and have watched it if you are a part of this newsletter).
Why not add finance costs to this equation even though I typically finance my deals?
I want to measure the DEAL as neutral as possible as well as make it very easy for others to measure if a deal is good enough to send to me (like wholesalers and realtors).
After I see that a deal gets at least 15% COC with all cash, I can then add my next level of risk to the equation and that is financing costs.
A 15% COC flip is great for most investors, but it's not always WORTH MY TIME (opportunity cost is a risk to you...) if the deal does not make enough CASH PROFIT after adding financing to the deal.
I personally want to make at least $30,000 net cash in order to make it worth my time to do the deal. A deal can be 15% COC but not net 30k profit especially after adding finance costs in the mix.
If this is the case, then the risk is too great for me to take on the deal because the deal will potentially take me away from better deals and/or suck up valuable resources (like time and money).
How YOU measure your risks are TOTALLY UP TO YOU!
Just know that profit and upside should be factors you do your best to maximize, BUT ONLY AFTER you minimize your risks and downsides.
This is just my opinion, take it or leave it.
Do you approach this differently? If you’re a part of my private Flippers Anonymous community, share your thoughts in the group.
If you’re not (you should check it out – we’re about to launch a brand new 6-week challenge in a few weeks), DM me on Instagram and tell me what you think.
Talk soon,
Tarl Yarber
