When investing in cities with declining populations, you must perform due diligence to understand the entire marketplace plus your exit strategy. Below are a few areas to watch out for when real estate investing in cities with declining populations.
Ali Safavi Explains: What Is Real Estate Investing?
The purest, simplest form of real estate investing is all about cash flow from rents rather than appreciation. Real estate investing occurs when the investor, also known as the landlord, acquires a piece of tangible property, whether that’s raw farmland, land with a house on it, land with an office building on it, land with an industrial warehouse on it, or an apartment. He or she then finds someone who wants to use this property, known as a tenant, and they enter into an agreement. The tenant is granted access to the real estate, to use it under certain terms, for a specific length of time, and with certain restrictions — some of which are laid out in Federal, state, and local law, and others of which are agreed upon in the lease contract or rental agreement.
In exchange, the tenant pays for the ability to use the real estate. The payment he or she sends to the landlord is known as “rent”.
Ali Safavi Real Estate Tip: Why Stocks are Scary
For many investors, rental income from real estate investments has a huge psychological advantage over dividends and interest from investing in stocks and bonds. They can drive by the property, see it, and touch it with their hands. They can paint it their favorite color or hire an architect and construction company to modify it. They can use their negotiation skills to determine the rental rate, allowing a good operator to generate higher capitalization rates, or “cap rates.
From time to time, real estate investors become as misguided as stock investors during stock market bubbles, insisting that capitalization rates don’t matter. Don’t fall for it. If you are able to price your rental rates appropriately, you should enjoy a satisfactory rate of return on your capital after accounting for the cost of the property, including reasonable depreciation reserves, property and income taxes, maintenance, insurance, and other related expenditures. Additionally, you should measure the amount of time required to deal with the investment, as your time is the most valuable asset you have — it’s the reason passive income is so cherished by investors. (Once your holdings are large enough, you can establish or hire a real estate property management company to handle the day-to-day operations of your real estate portfolio in exchange for a percentage of the rental revenue, transforming real estate investments that had been actively managed into passive investments.)
Ali Safavi’s Top MUST KNOWS BEFORE Investing in Shrinking Cities
1. Understand the big picture.
Just like you would if you were moving to a new city, get a lay of the land. Find out where people live and where that is in relation to your real estate. If you’re trying to accomplish a quick flip, selling in an area with a declining population may limit the number of serious buyers you are able to find.
Related: How To Avoid Real Estate Potholes
2. Do Some Detective Work
If a city is on a steep decline often it’s not hard to understand why. Many small towns are propped up by factories. If the factory closes, there goes the neighborhood. Sometimes a city can bounce back, thus a massive job loss doesn’t necessarily mean you should walk away immediately. However, bouncebacks can take years, even decades. Do you want to wait that long?
Ali Safavi Real Estate Tip: Locals hold all the secrets, and more often than not they’re willing to tell you the whole story. Stop in the local watering hole and see what you can find out.
3. The Buyers Dilemma
If this shrinking town’s population is dwindling, then statistically this town is experiencing a “buyer’s market.” An inexperienced investor can get into some trouble here. Real estate prices are going to drop if people are leaving town in mass numbers. This makes dream-like property become super affordable causing your temptation to buy to rise. However, if you’re flipping, it won’t be too long until you become the motivated seller and life all of a sudden doesn’t seem so rosy.
Ali Safavi Real Estate Tip: A buy and hold deal is when you purchase a property and wait for a while before selling. If a dwindling town is adjacent to a major city it’s very possible that the town will have a comeback. If you’re willing to wait, there can be light at the end of the tunnel.
Related: Building Your Buy and Hold Team
4. Why Are You Special?
Often we think we’re the smartest person in the room…and maybe we are! But, there is a lot we can learn from a motivated seller if we know where to look. Why are the motivated to sell? How long as the house been on the market? Most importantly, what if any of those factors will change once we own the property? Do you have a plan for what to do better? If not, probably a good idea to walk away.
In conclusion, before purchasing any property in an area you are unfamiliar with, learn as much as you can. Like any good detective, never feel rushed or bullied. Decide if you want to make a long or short term play, plan accordingly, and whatever decision you make, know that you took all factors into consideration.