The 5 Questions You Need to Ask on Any Real Estate Deal

Posted on March 25, 2022 by Jordan Dessauer

 I think we are in a very precarious scenario with real estate today. Being a real estate investor today can present some severe challenges. I have developed a system of questions that I think will help guide you through any purchase.

I have certainly made my share of mistakes with my investing. I want you to understand that during "booms" mistakes in real estate investing are easier forgiven. That happens because money is easy to come by and properties sell faster. In today’s environment, which we may be coming to the end of a "boom" period. When the market is much more like normal, it typically does not forgive mistakes as easily. Investors pay the price, because they feel the market will always go up. Because of that, I wanted to review how I am using my system to move forward.

The system involves five questions. I have also included some honorable mention questions that are also important. Excuse my play on words here, but questions are the answer when it comes to success in real estate. Here they are:

1. How much is the income stream?

First, you have to have an income stream for it to be expensive or inexpensive. That is key because it means hat you are focusing on becoming a cash flow investor, rather than one that focuses on natural appreciation. The income stream is the money that is used to pay your debt service on the property. You derive your income stream by taking your income that comes in and use it to pay all of your operating expenses. The residual is either known as net operating income or income stream. It turns into cash flow if, and only if, there is residual left after you pay your debt service.

There are many ways to find out how expensive the income stream is. It depends on what type of property you are looking at purchasing. If you are purchasing a commercial property, you will probably look at cap rate. Cap rate is the relationship of how much income the building is producing compared to what its price is. Find out what the standard cap rate is in your market, and then compare the cap rate of your deal. It’s will tell you whether or not you are paying too much or actually have a deal.

If by chance you are looking at a non-commercial piece of property, you will probably be using comparable sales to answer the question. If you find similar pieces of property have been selling at below or above what your target property is, you will have your answer.

A good resource for finding these answers lies in the knowledge of Realtors, brokers, and even appraisers. If you take a little action you may find that the answer of value is somewhat easy to find.

2. What is my competition like?

Any time you are buying a piece of real estate you must have a strategy. Buy and hold, fix and flip, foreclosures, multi-family to name a few. In a strategy you must consider your competition. Most of the professional sports teams spend a lot of time understanding their competition. You as a real estate investor are no different.

You want to understand things like pricing, rents, amenities, age, proximaty (to shopping, schools, and highways). You also want to understand things like how your cometition markets it product. From that you ask the questions of; if I market differently, how will my customers differ? Or by understanding how much competition you have may dictate how your business is run.

By knowing your competition you can plan to implement your srategy in a certain way. You can also adjust where needed during your implementation. Your competition will have much more of an impact on your success than you can imagine.

3. How hard is my money working for me?

By understanding the simple relationship between the amount of money you produce in cash-flow compared to what cash you put into the property, you can have a financial measurement of success. Later, to get a more detailed look, you add things to the cash-flow such as appreciation, depreciation, and amortization. Without measurement, you do not know whether you are winning or losing.

The other thing that it does is enables you to raise investment money. Without knowing how well your money works for you, its harder to understand what you can pay for borrowed money. Have a better understanding of how hard your money will work for you and you will raise more money.

4. Does the property service the debt at 100%?

This was the one question that was never asked during the boom. It was one of he reasons why most people have issues with their real estate. I have even made this mistake in my career, thinking that I could work myself out out of the negative cash-flow.

Make sure that it pays the debt at 100% at the beginning. If you are buying a project where the cash-flow won’t support the debt make sure that you customized the debt service(if possible) so it will help you survive the beginning months/years of the project.

5. Am I over-leveraged?

This question is probably the most important of the five. People simply do not know how to answer this question. This question is answered by looking at the relationship of your income stream (NOI) to your debt that you pay for the year. By dividing your debt for the year (principle and interest) into your income stream you will come up with a number. If that number is 1.3 or lower you are over-leveraged.

Honorable Mention:

Should I be investing in real estate at all?

In these tumultuous times, real estate investing may not be the best thing to be investing in. Please check with your team of financial planners and accountants to make sure this is the right investment for you.

What is my exit strategy?

You have to know how you will be exiting your equity out of the property in these times. You have to know your market to sell to. Can they afford your piece of real estate? Can they get financed? Will you be able to re-finance the property to get your equity/money out of the property? Do you have contingency plans such as long-term rental, lease option, etc..

Will changes in the economy affect my investment?

You have to think about changes in interest rates, taxes, or the employment situation to see how your investment may be affected. Never under estimate a changing economy and how that directly relates to the real estate market. And keep in mind the economy is always changing!

“Remember, wealth has nothing to do with money, success has everything to do with failure, and life is as simple as you want to make it!”

-John Dessauer