A Real Estate Bubble Burst of Excitement

Unless you’ve been trying to purchase or sell a home from underneath a rock, you’re aware of the current slowdown in the Florida real estate market and beyond. However, would this be bad for everyone? In actuality, many savvy real-estate investors have been hoping for just such a hit.

“You can make a fortune in a falling market,” says Hugh Bromma, CEO of Entrust Administration and author of How to Invest in Real Estate and Pay Little or No Taxes.

How would you accomplish this goal? By buying low. Investors can build up rental property portfolios more easily in down markets - if their initial pay out is smaller, they are more likely to turn a profit on rents.

This means that rents must exceed expenses every month. As the prices of rental markets have gone up recently, though, many potential renters cannot afford monthly prices.

“If you don’t buy a rental right,” says Erwin Jackson, a Florida landlord, “by the time you pay the maintenance, insurance, taxes, and everything else, you won’t have any money.”

Buying from the bottom up

Jonas Lee, of Redbrick Partners, a real-estate investing firm specializing in single-family homes, says his company has had success since 1993 by “playing in the lowest-priced markets.” The typical single-family home his company buys costs a mere $80,000 and has three bedrooms and two baths.

He’s hoping a housing-market dowturn will enable him to expand his holdings.

Many investors who bought in at the top may not have the resources to ride out a bust and they’ll be forced to sell out or even give their properties back to the banks.

“In falling markets, people need to sell their homes more quickly,” says Lee. “They’ll take a discount to the [fair market value] at that time.”

Also, foreclosures become more common because there’s little benefit to the property owner to cash out before it reaches the foreclosure stage; they may owe more than the property is worth. And foreclosures can pile up in local markets causing a spiraling down of prices and providing opportunities for bold investors.

Market studies

The question becomes: How do you know when the price is right?

Investors must familiarize themselves with statistics and crunch numbers before they buy. They have to know what a home can command in rent and how long it takes to rent a property.

A key stat is the “cap rate,” which is a percentage based on the annual rents you can collect versus the property value.

For example: Let’s say a property that costs $100,000 dollars and generates $650 per month in rent, the cap rate would be nearly 8 percent ($7,800 divided by $100,000). A cap rate of 8 percent or more should provide enough cushion to offset expenses. The lower the home price compared with the rent, the higher the cap rate.

If the numbers add up to positive cash flow, then it’s a profitable time to buy.

The lower the price the greater is the margin of safety. Karen Pio, a small real estate investor from Bristol Connecticutt, says she and her husband waited patiently until a property’s price was way low. If it never reached the price they thought they needed, they passed on the property.

Falling markets can even sometimes have a positive effect on how much landlords can charge for rents by increasing the demand for rental units.

Bromma says that investors should watch markets carefully for the next six months. Mortgage rate increases could lead to a market slowdown or turnaround. His advice for anyone looking to invest in rental properties is to be “in cash.” That way, they can act quickly to snap up some bargains.

Bernice Ross, of RealEstateCoach.com, who has been in the business more than 25 years, says the most successful real estate investors she’s known over the years have been contrarians. “They sell when everyone else is buying and buy when others are selling.”

Currently, the Florida home loan market would not necessarily placate someone using this strategy. It has not dropped or declined as greatly as others around the nation.