John T. Reed- The Biggest Mistakes Real Estate Investors Make

JOHN T. REED’S

Special Report on

The biggest mistakes real estate investors make 1. Getting information from getrich-quick infomercial gurus

Tis would not have been on the list beore 1980, nor would it be on the list i this were a list o mistakes made by, say, people trying to improve their gol game. But the real estate investment inormation business has uniquely been taken over by dozens o  criminal, sociopath con-men who charge thousands o dollars or seminars or “mentoring” services that simply tell you attractive lies about how easy it is to get rich quick in real estate. Teir knowledge is how to run a con game on you, not how to run an investment program. Teir goal is to part you rom your money. Teir advice is not only worth less than it costs, it is dangerous. Most will not work . Much o it is illegal or unethical. Much o it is likely to cost you your good credit rating. Te good inormation on the subject comes rom legitimate trade associations, experience, and a ew good gurus. Te good gurus generally will not do seminars or “mentoring.” Tey only write books or newsletters. I talk about this extensively in my newsletter, Real Estate Investor’s Monthly . 2. Ignoring risk management Te two sides o investment are risk and reward.

do nothing-down deals. Real estate investors also love the way leverage multiplies return. But they orget orge t it’s a two-edged sword. Leverage amplies both prots and losses. Investors tend to use more leverage than they can handle and to use high leverage too long in their careers. Investors should use lots o leverage early in their careers as long as they make sure they  can make the payments in the worst case scenario like during a periodic, cyclical downturn in the rental market. And as they get older and closer to their net-worth goals, real estate investors should reduce their loan-to-value ratios and ocus on making the net worth they achieved more secure. See my books, How to Buy  Real Estate for Little or No Money Down and Fundamentals of Real Estate Finance , or more inormation. 4. Fail to choose a strategy that matches their strengths, weaknesses, and resources

Not everyone is cut out to be a landlord. Landlords have to evict drug dealers and 6’4” bikers and raise rents on little old ladies. Not everyone can do those things. Not everyone is handy enough or patient enough with contractors to engage in the xers strategy . Not everyone can get cashiers checks or hundreds o thousands o dollars that are necessary to buy at oreclosure auctions, yet many beginners with meager net worths are paying thousands to t o learn how  to buy at such auctions. Tere are dozens dozen s o dierent  ways to approach real estate investment. You need to choose the one that matches your strengths, weaknesses, and resources . See my books, Succeeding  and How to Get Started in Real Estate Investment , or more inormation.

But there is virtually no discussion o risk management in current books or seminars about real estate investment. Te only risk management the vast majority o real estate investors do is hope or the best. Since the risks in real estate ar exceed those in the stock market—like getting sued and having to pay a judgment that is ar more than the value o the property that caused the lawsuit—risk management is ar more important than in the stock market. Risk  management involves things like reusing to agree to balloon payments or personal liability  5. Overstate your return on a mortgage, using options instead o deed ownership, and so orth. I talk  Fishermen have a well-earned reputation or about this extensively in my newsletter newsletter,, telling sh tales, that is, exaggerating how many  Real Estate Investor’s Monthly . sh they caught or how big they were. Real estate 3. Overuse of leverage investors are worse when it comes to talking about Real estate investors are ascinated with the notion their cash fow or resale prots, but no one seems to that a nothing-down purchase has innite return. recognize it. Your actual cash fow is what you put p ut on  Actually, it doesn’t because o transaction costs and Line 22 (“Income or loss rom rental real estate”) o  the value o your time, more o which is required to your Schedule E plus the depreciation you claimed www.johntreed.com

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2 on Line 20 minus the totals o line 19c and 20c on Form 4562, Depreciation and Amortization (“Basis o assets placed in service during the most recent tax year”). It’s a big negative isn’t it? So stop telling others at cocktail parties, and yoursel, that you have positive cash ow . In your dreams you have positive cash fow. Maybe i you own the building ree and clear you have positive cash fow. But i you have a mortgage o about 50% or more o the value o the property,, you almost certainly do not have positive property cash fow, even i you paid some bad guru $5,000 to teach you how to get positive cash fow. Similarly, Similarly, your actual, not imaginary imaginar y, resale prots in real estate investment are ound by subtracting all the depreciation deductions you claimed on the property in question during your holding period (Schedule E Line 20 or the property in question) and all the unamortized costs o inancing and acquisition (Form 45562 Part IV Line 42c) rom the gains you reported or that same property on lines 1 and 8 o  your Schedule D. By using your tax-return numbers as I am advising, you stop overlooking capital expenditures and many other expenses in your cash fow calculations, and you stop overlooking transaction costs in your resale prots. I talk about this extensively in my newsletter, Real  Estate Investor’s Monthly . 6. Ignoring the value of your time

I you invest in U.S. ederal bonds and low-cost, broad-based stock index unds like the Vanguard S&P 500 Index, which you should with part o  your money, you spend zero o your own time on the investments. On the other hand, i you invest in real estate, you spend dozens or hundreds o hours to nd, nance, acquire, improve, do the accounting on, and sell or exchange your properties and about 3.6 hours per unit per month (residential—a little less on most non-residential) managing those properties in between. It is apples and oranges to compare returns on the three asset classes without rst subtracting the value o the time you spent on your rental properties rom the cash fow and resale proceeds. I talk about this extensively  in my newsletter, Real Estate Investor’s   Monthly and my book, How to Manage  Residential Property for Maximum Cash Flow and Resale Value .

they make so they can spend it. Neither do they  think about the probability they there will come a time as they age when they no longer want to, or no longer have the health to, manage, acquire, and sell rental properties. You need to schedule both putting money into your real estate investments and liquidating those investments when you have achieved your monetary goals or you want to or have to exit or other reasons. I talk about this extensively in my  newsletter, Real Estate Investor’s Monthly  and will cover it more in my orthcoming book on real estate investement undamentals. 8. Rely totally on market wide appreciation for prots

Te “prot strategy” o the vast majority o real estate investors is to simply buy a property or current market value and wait until it goes up in value. Tat’s not a prot strategy. Tat’s speculation, like passively owning stocks. Tere are dozens o ways to make bargain purchases or to improve properties protably. You should be using one or more o  those strategies to make prot on purpose with your intelligence and diligence. You You should sho uld not be using a strategy that would work as well or a chimpanzee, that is just buy and hold. For one big thing, real estate does not always go up in value and downturns are not always brie. Because o down-zoning, rent control toxic contamination, neighborhoods going bad, and so orth, some properties drop in value and never come back up. Also, that strategy is precisely the one most likely to give you huge negative cash fow. I  your negative cash fow is large enough, even decent increases in your property value will not be enough to to overcome all the cash fow losses during the holding period. I talk about this extensively in my newsletter, newslette r, Real Estate Investor’s Monthly , my books How to Increase the Value of Real Estate , Fixers , and How to Buy Real Estate for at  least 20% Below Market Value , and my  orthcoming book on real estate investement undamentals. 9. Paying huge transactions costs

ransaction costs amounts in real estate are a scanscan dal. Tey are grotesquely higher than those or buying other asset classes like ederal bonds or low-cost index unds. Real estate’s high transaction costs dramatically reduce the returns o real estate investors, but, as I said above, they are very big on orgetting they  7. No exit plan paid them when bragging at cocktail parties about  You  Y ou invest in real estate to make money which is how much prot they made on a property. o avoid a means to an end . But most investors think very  them, rerain rom ever selling , invest in real estate little about how they are going to extract the money  through derivatives , or use the many little tricks like www.johntreed.com

3 binder title policies that reduce transaction costs. I undamentals. 13. Failure to know the history of  talk about this extensively in my newsletter, Real  real estate investment Estate Investor’s Monthly . 10. Misunderstanding ination Since World War II, real estate has been through Real estate investors think infation is their riend. many ups and downs including nationwide rent Not really. It reduces the real value o the mortgage control, energy crises, recessions, the REI crash, payments you owe, which is good. But it also reduces the S&L debacle, the sub-prime crisis, the tax-shelter the value o the prots you make rom cash fow  crisis, the ax Reorm Act o 1986, extremely high (rare) or resale (common). Much o the bragging infation and interest rates in the late 1970s and early  that real estate investors engage in at cocktail parties 1980s, etc. Yet Yet new investors come into the business is really about how much the   value o the dollar every day, look around at how it is right now, and  went down while they owned the property they are conclude that is the way it always has been and always bragging about, not how much the property  went  will be . No way wa y. You You must mu st orce yoursel to study the up in value in real terms. I talk about this extensively  history o real estate including interest rates, apprein my newsletter, Real Estate Investor’s Monthly  and ciation rates, regulatory changes, recessions, vacancy  my orthcoming book on real estate investement rates, technological changes, changes in ashions undamentals. relating to real estate, and so on. We older inves11. Little real expertise tors behave dierently and more intelligently rom Most experienced real estate investors think they  younger ones primarily because be cause we know the history. know what they are doing. Tey probably do know   As Sir John Buchan, the First Baron o weedsmuir a ew things like how to manage property and how  or George Santayana said, “Tose who to shepherd a transaction through acquisition, - do not study history are condemned to nancing, improvement and such. But such expertise repeat it.” I talk about this extensively  produces ew, i any profts . Te expertise they need in my newsletter, Real Estate Investor’s  to make real prots is in fnding bargain purchases  Monthly , and my orthcoming book on and/or making proftable improvements and man- real estate investement undamentals. 14. Being too wimpy about raising aging risk so that their prots are not lost to events beyond their control. Te most important expertise rents, ring unsatisfactory employ mistake that real estate investors make is erroneously  ees, and enforcing leases thinking they know many pertinent things that are,   Your rents should always be at current market. in act, unknowable , like what property values will Unsati Unsatisactory sactory employees need to be counseled and be in the uture. You must recognize what you can then, i they don’t improve to a satisactory level, know, and recognize what you cannot know, and red. You You need to enorce every clause in your lease protect yoursel against bad things that you can nei- promptly. You can turn a decent investment into a ther orecast nor control. I talk about this extensively  disaster i you are wimpy about these things. For in my newsletter, Real Estate Investor’s  more inormation, see my book, How to Manage   Monthly and my books How to Buy Real  Residential Property for Maximum Cash Flow and  Estate for at lease 20% Below Market  Resale Value . 15. Overimproving properties Value , How to Increase the Value of Real  Estate ,  Aggressive Tax Avoidance for Real  Tere is no prot in xing xers. Cosmetic renovaEstate Investors , and Fixers . tion does not make money. Te prot is in buying 12. Underestimating the value of a disasters really cheap and turning them into xers good reputation   which you then sell as xers. oo many investors  At seminars run by criminal gurus, investors learn overpay or xers. xer s. Don’t be one o them. Sell to them. unethical things like lying on mortgage applications (See my book Fixers or more.) Get the ast buck not and putting  weasel clauses or assigns clauses into the last buck. 16. Not getting big enough dispurchase agreements. Tat sort o behavior gets you a bad reputation in your local real estate investment counts on purchases community and that, in turn, makes it harder or  You  Y ou have to buy real estate est ate or at least le ast your to nd good deals. I talk about this extensively  20% below current market value to make in my newsletter, Real Estate Investor’s Monthly , and a prot on a bargain purchase. I have my orthcoming book on real estate investement talked to many investors who were very  www.johntreed.com

4 proud o buying or o r 5% to 15% discounts. disco unts. Tat’s Tat’s not enough. Te transaction costs alone in real estate will  wipe such discounts out when you buy and sell. 17. Relying on an accountant to do tax returns

Do your own taxes with the help o  my book   Aggressive Tax Avoidance for  Real Estate Investors  and the urboax computer program. 18. Procrastination

Real estate investment is ull o people who decided years ago to become real estate investors, but they cannot pull the trigger because they are waiting until they eel more certain that it is the right thing to do. Welcome Welcome to the NFL, rookie. I you keep waiting until it eels comortable, you will never invest. It never eels comortable. Older experienced investors who read this list o  mistakes probably nod in agreement as the list triggers painul memories. Brand new investors probably  think it’s it’s too wimpy—that using all the leverage you can get is great, what’ what’ss wrong with balloon payments, etc. Tey will learn either by believing this list o  mistakes or by repeating them. Remember, this is only a list o the biggest mistakes. Tere are many other smaller ones like ailing to appeal your property tax assessment when it gets too high, not wiring mortgage payos to save the interest that accrues when slower payo methods are used. You should start with my book, How to Get Started  in Real Estate Investment . JTR

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