the-abcs-of-real-estate-investing-ken LifeFeeling

Chapter Seven: Is It Really a Diamond?
Someone once told me that the average person remembers only three to five concepts in
a business book. Just three to five! I know already in this book there have been dozens of
concepts presented. So which ones are going to be remembered and which ones forgotten? I
found this statement hard to believe until I started to think back on the books that I read
recently. And I had to admit that if I remembered three concepts in each of them I was
lucky. (I always knew I was average.)
Well, I’m not going to assume that with this book I’m going to change the reading
comprehension rate of the typical human. And I’m not going to take it personally if after
reading this book, you don’t retain every single thing. But I will be disappointed if you
don’t remember the concepts in this chapter. In fact, if you forget everything else you read
in this book, this is the one chapter I hope you not only remember, but refer to often.
Because if you master the process I’m revealing in the pages ahead, your life as an investor
in rental property will be infinitely easier. Infinitely!
It’s true that your success in this business is the result of your preparation. That’s the
message and the purpose of the early chapters of this book. But regardless of how prepared
you are, you can create a disaster for yourself in a matter of seconds if you can’t tell a
diamond from a cubic zirconium. That’s the time it takes to sign your name on the dotted
line of a bad deal.
I know that sounds pretty scary. There is little gray area separating a good deal from a
bad one; and to me, gray area is made up of black and white. A deal is either good or bad
and fortunately a bad one is easy to define. It is simply a deal where the numbers don’t
work. In other words it’s when the projected cash flow income minus total expenses equals
a low or negative number.
In good deals the numbers work. In bad deals, they don’t.
Does this seem terribly obvious? Of course it does. But you’d be surprised how many
times investors ignore this simple truth. They purchase property based on the seller’s asking
price, or something close to it, instead of the operational performance of the property. Here
are a few principles about property investing we need to get out on the table right now:
• The seller’s asking price is irrelevant.
• You determine the property value, which becomes your offer.
• With multiple units, the property value is based on the current cash flow of the
property.
These three principles are the foundation for everything else in this chapter. That’s
because in this chapter, I will walk you through my own personal system for determining
property valuations for multiple units. It’s called the Five Step Property Evaluation and I’ve
used it for the past fifteen years with outstanding results. Here it is in a nutshell:
1. Verify property income.
2. Verify expenses.
3. Determine net operating income.
4. Find the capitalization rate and valuation.
5. Calculate the loan payment and your profit or cash on cash.