In investment property, the kind of rent the property adsproperty can produce is the magic number. If you buy a $500,000 property that you can only rent for $250 below its monthly overhead (mortgage, taxes, insurance, upkeep, etc.), that property has no positive value to you or to your lender. Even if one may speculate that the property in question may (because everything in speculation is uncertain) increase, or in the very least hold value, you are still losing $250 per month, every month. On the other hand, a $115,000 property that rents for $250 above its monthly overhead is a gem! Crazy, huh? But bear with me; this program will turn a lot of your long-held perceptions upside down.
The reason lenders look at all of this differently is that if you disappeared tomorrow instead of trying to sell your income property at a foreclosure sale—which they hate to do because they inevitably end up selling it at a loss—they can hold on to that property and manage it to a profit just as you had done, or else sell it to an investor, using the same “business plan” to seal the deal. Thus, the idea here is simple—find properties that can be rented for a profit. Nothing else matters at all.
These facts have never been disputed by anyone when the subject is purely commercial property, such as an office building or a storefront. But the average person finds it surprising when I tell them it holds true for residential income properties as well. The reason for this is emotion. Homes are an emotional purchase. We are used to buying them because we fall in love with them and we can picture our kiddies frolicking on the swing set in the back yard while we care for the flowers we just planted in the front yard.
With the current investment climate I am asked often, “Sean, how low do you think my property will go?” I often respond the same. Your property value will reset to a value that is once again supported by the rental income for your neighborhood. With residential rental property, no such illusions need exist. Our personal tastes mean nothing. Don’t look for the type of place where you would want to live. That’s irrelevant now. This is nothing more than a math problem. Either the numbers work or they don’t. So if the current rents in your neighborhood are $1700 a month and your current property values are $330,000 you may lose another $100,000 in value since $1700 a month will only support $230,000 in mortgage. Understanding, that the low property may not be yours but a similar property in your neighborhood will reach that value, thus resetting the value of your property for that moment.
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