One of the concepts that a lot of real estate investors have a hard time grasping especially when they are first starting out, is the concept that you need to know the day you buy a property what you plan to do with it; or your 'exit strategy' as it is commonly called. You will find that experienced real estate investors almost always have more than one exit strategy. This is known as 'Plan B' or your 'back-up plan'.
image by huskyboy via flickr.com
Having more than one exit strategy gives you options if things don't work out as planned. As the saying goes, 'You make your money the day you buy the property'. If an investor pays too much for the property initially, it is generally going to be pretty hard to make money on it when he sells it. So knowing what you plan to do with the property right from the beginning is extremely important.
What exactly is a backup strategy?
Let's face it. Things don't always work out as planned. For instance, you may purchase a property with the intention of rehabbing it and then selling it to a retail buyer. But what happens if you can't find a buyer? You may have to rent the house until the market improves, so it's important to know whether or not this property would cash flow if you find yourself in that situation. You will also have to consider the effect it will have on your financing if you have to hold the property long term, especially if you have used some type of short term or construction financing for the purchase and rehab of the property. You need to be sure that you will be able to refinance later if you can't find a buyer.
In my area, this has become a big part of the 'buying criteria' for rehabbers. They have passed on some properties that would have been good deals to flip, but wouldn't cash flow as a rental if they weren't able to find a buyer.
Taking the exit strategy one step further; it makes a difference in your renovation whether you plan to sell the house to a landlord or to a retail buyer (a home owner). In most cases, a real estate investor wouldn't put in granite counter tops and expensive upgraded cabinets in a rental home. In a bad market you may make different choices in your finishes than you would in a good market just in case you have to fall back on 'plan B'. You may decide to put in finishes that are more 'middle of the road' so to speak. Just remember, that If you buy the house at the right price, you will always have options available should one exit strategy not work out the way you planned.
Does my exit strategy affect how much money I will need?
Yes! The amount of money you will need will depend on your exit strategy. Some are short term strategies, and others are long term strategies.
The 3 Top Exit Strategies for Real Estate Investors
'Buy, renovate and sell (short term).
'Keep the property for a rental (long term).
'Flip or wholesale the property to another investor (short term).
Whatever exit strategy you ultimately choose isn't nearly as important as knowing what that strategy is the day you make your offer on the property.
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