In the world of buying and selling residential properties for profit, all investors make mistakes. Some mistakes are more easily overcome than others. A few are potentially devastating. One of the most common investor mistakes, and one that can be devastating, is failing to know and understand property values in your target neighborhood.
Fortunately, with just a little bit of effort, you can become THE local expert on neighborhood property values in no time. Here's how.
Get To Know The Neighborhood
First, there is no substitute for looking at lots and lots of property. Start with your local newspaper. The real estate section is a treasure trove of free information and market research. Each week, every decent local paper has a special insert or pull-out section with local real estate listings, recent sales by neighborhood, for sale by owner (FSBO) listings, and much more. If you're not reading this section each week, you probably aren't serious about real estate investing.
Look especially for those houses that have sold recently in your target neighborhoods. Write down the sale price, sale date, and address. Then go look at the houses and make notes about what you see. Keep a "neighborhood notebook" for each of your target neighborhoods. In it, record the list prices, selling prices, and your observations about the condition of the properties, how long they took to sell, and any improvements that helped them sell more quickly.
Watch for "For Sale" signs and open houses. If you truly want to become the market value expert, you won't miss going through every house that comes on the market in that neighborhood. Again, record all the details in your notebook.
Get To Know The Experts
Second, talk to local Realtors. You'll meet them as you are out and about looking at properties, attending open houses, and calling on listings. Ask them what market values are doing, what types of houses people are looking for, which features sell and which don't, any question you can think of that will improve your MVIQ (Market Value Intelligence Quotient). Be sure you write down what you learn in your neighborhood notebook.
Build a relationship with one Realtor whom you trust, and who is willing and experienced enough to help you. Let them know that you plan to be an active investor, and that you won't waste their time. You won't need them to take you around by the hand to every listing, but you will ask them to provide you with the listings so you can go yourself. You are looking for a Realtor who understands how to work with investors, and who is willing be a little flexible with you regarding getting you access to properties on your own. Most of the houses you'll be looking at will be vacant anyway, so keep looking until you find a Realtor who will work with you.
Building a team, including finding a Realtor who will work with you, is the subject of another article I have written. Look for it here: Find The Right Realtor.
Get To Know The Values
Third, when you've found specific properties you are interested in, ask the Realtor to provide you with suitable "comps". These are listings of properties that are "comparable" to your target property. In other words, houses that have sold recently in the same neighborhood as your target property, along with how much they sold for. These will tell you more about value than any other single source. Once you have a list of comps, don't just take the Realtor's word that they are truly comparable. Drive around to each one yourself and verify that the size, style, and condition are at least close to the property you are considering. Throw out any that don't fit.
Once you have a minimum of three that are indeed comparable, using a little common sense, you should be able to assign an ARMV (After Repair Market Value) to your subject property. This represents your estimate of what the property should sell for after any needed repairs and upgrades. Be somewhat conservative. Rehabs and flips often sell for 3-5 % less than comparable open market homes, so subtract at least that much from your estimate.
Here's an example, using a 4 bedroom, 2 bath raised ranch built in 1962, 1910 square feet, asking price $138,000.
Comparable A is a 5 bedroom, 2 bath colonial, built in 1902, 2380 square feet, selling price $249,500 in April of 2005.
Comparable B is a 4 bedroom, 1.5 bath raised ranch built in 1960, 1850 square feet selling price $168,700 in January of 2006.
Comparable C is a 4 bedroom, 2 bath, cape cod built in 1968, 1870 square feet, selling price $152,100 in May of 2006.
Comparable D is a 3 bedroom, 2 bath ranch built in 1965, 1900 square feet, selling price $172,900 in December of 2005.
Of these four comps, which is not really comparable? If you answered A, you're right. This property is not even close to our target property, is it? Even if this house is right next door, it is too different in age, style and size to have any value as a comp. Throw it out.
Now, after visiting the other three and looking at them from the street, suppose we judge that properties B and D are closest to our target property in condition and character. Assume that property C is still close, but due to condition, problems with neighboring properties, or some other factors B and D are just a little more like the house we're considering.
What conclusions can we draw? Well, if we've used good judgment in choosing our comps, and gotten some input from experienced Realtors in the area, we can use an average of the closest comps and arrive at an estimated ARMV of $170,000. Using our "3% rule" would leave us with a conservative ARMV of about $165,000.
As you can see a little rounding is fine, but don't go overboard.
If I were just starting out, or if I didn't have a lot of experience in the neighborhood, I would ask a few other realtors to confirm my findings.
Get To Know Yourself
Finally, to test your market knowledge and build your confidence, choose three properties that you would be interested in investing in. Using the methods outlined above, estimate an After Repair Market Value for each of them. When you are finished, wait until they sell and see how close you came. If you have been diligent in applying these principles, I'll bet you came very close indeed. If not, try to determine why.
Maybe your "comps" weren't really comparable. Perhaps there was something about the property you couldn't see or didn't know. Ask the selling Realtor why they think the house sold for the price it did. Be sure to write everything down in your neighborhood notebook. It will soon become an extremely valuable resource- keep it safe!.
Learn to apply the above principles, and within two to six months (depending on how much time you can devote) you'll know more about market values in your target neighborhood than anyone else in town. That knowledge means confidence, and that confidence translates into investing POWER!
Now, go make more offers!
