Appraising a Property Deal
There are three keys to making money out of property deal: the price, the terms and improving the value.
When you are looking at a property deal, you need to be able to get some initial idea of its value and, more importantly, whether it is undervalued in some way. You may not get a sense of this simply by inquiring about the asking price. The underlying question is: what is the motivation of the vendor?
Why is the vendor selling? This is generally one of the first questions you should ask. If the answer is ill health, financial pressure or relocation, there may be an opportunity for you to negotiate better terms.
How has the vendor arrived at this price? This question allows you to determine whether a vendor is serious about their price and whether they are aware of any comparable sales (which is useful for you to know).
Is the vendor prepared to negotiate on price or terms? You never know how flexible a vendor may be until you ask. If the answer is ‘yes’, see the ‘Terms’ section below.
What is the vendor looking to do when they sell? This may identify whether the vendor has already committed themselves to another property. If so, there is a chance that they may become a little more willing to negotiate in the latter part of the campaign.
These are simple questions and none of them are ‘hard-nosed.’ But you’d be amazed how much useful information you can get back from them – and how fluid a property price can become in the course of a simple phone inquiry.
The secret to making money out of the property deal is controlling the asset, obtaining its highest and best use and then crystallizing its value. In fact, you don’t have to control the asset by owning it. You can get possession via an option or conditional contract or on vendor terms.
Would the vendor leave some vendor finance in the sale price? If the vendor hasn’t got plans for the money from the sale of the property, they may be prepared to accept a deposit of 10–20 per cent and loan you the balance of the purchase price for a defined period (say, five years) at bank rates of interest.
Is the vendor in a hurry to sell or would they agree to a long-term contract period, say
3–6 months? A longer-term contract allows you time to be more creative with your financing, with a potential to up-zone or develop the property prior to settlement. I often buy properties on a six month contract period. By the time settlement is due, the increasing value of the property in a rising market and/or any renovations or rezoning that I may have been able to do could have increased the value of the property significantly in excess of my purchase price, allowing me to borrow 100 percent.
Would the vendor sell subject to you obtaining development approval for upgrading or part subdivision? This question allows you to make sure you have your exit strategy in place before you commit yourself. It may also allow you to tee up finance on the basis of this exit strategy, in advance of settlement.
Would the vendor be interested in getting 80 percent of the price now and leaving 20 percent in on a second mortgage? Okay, this sounds pretty cheeky. But if a vendor has had a property on the market for some time, they may be happy to get the majority of the purchase price (say 80 percent) now and leave 20 percent in on a second mortgage. You get 80 percent from the bank, with vendor finance for 20 percent, financing the property 100 percent. This can be a hard one to put together, as banks want to see some ‘hurt money’ (a stake that gives you something to lose). I’ve got around it by arguing that approvals, stamp duty, and other development costs represent ‘the hurt.’
Improving the value
This is really where the money can be made, because if you can acquire a property which has been run down or vacant or can be up-zoned or developed to a state where it reaches its highest and best use then you can often crystallize a good short-term profit.
The land/allotment size and zoning and the standard of the building may offer immediate value-adding opportunities.
What is the total land area? If it’s in excess of 800–1000 m2 there may be an opportunity for subdivision and dual occupancy (or more).
Where is the current house located in relation to the lot dimensions? In other words, how far is the house from the front boundary and from the back boundary? This will be important if there is potential to develop a dual occupancy and subdivide the property, leaving the existing house on one title and establishing a vacant block as a second title.
Does the house need upgrading or renovating? Even prior to settlement, you can do some cosmetic alterations which will dramatically improve the value of a home. I once bought a house for $92,000, changed the kitchen and did some other minor cosmetic work and on a settlement, it was valued at over $125,000. I was able to borrow not just the whole purchase price but also the cost of the works and even the stamp duty.
• Identify where you got a lead to the property (drive by, referral, internet etc).
• Enter the date of your phone call, details of your contact and who actually listed the property (if different).
• Enter the property address and asking price.
• Enter the property description (unit, house, vacant block), land area (in square meters) and dimensions (draw a diagram if it helps and includes the position of the house if relevant).
• Enter the house area (in square meters), and the year it was built: ascertain if before or after 1985 (for depreciation purposes).
• List the house particulars: number of bedrooms and bathrooms, size and type of garage/car parking.
• Get an estimate of the construction replacement cost today.
• Get the agent’s opinion of the potential rental amount.
• Ask the agent about outstanding requisitions (works required by a council in order to bring the property up to the required standard) or what work the agent thinks needs to be done.
The potential for vendor terms
• Ask why the vendor is selling and note any special motivation which might make the vendor willing to negotiate terms.
• Ask whether the vendor might be interested in selling under market value for a quick sale.
• Ask whether the vendor might leave in some vendor finance.
• Ask whether the vendor might be interested in a long-term settlement: say, 6 months.
• Ask whether there is potential for a lease/purchase agreement, whereby you lease the house for 6–12 months, move in and rent with the right to purchase (at the contracted price) at the end of the lease. In a rising market, this fixes the purchase price for you: you can also contract to pay extra rent in order to make up your deposit amount.
For further thought
• If the house was built after 1985, you will need to come back and calculate approximately what depreciation is left on the house.
• Decide whether the property warrants inspection: note the date you have agreed to inspect.
• Before you end the conversation with the agent, why not ask for some recent comparable sales to give you some price comparisons. Supplement this with your own research.
For follow up
• If you don’t see value today, it’s still worth holding onto this form. If the house hasn’t sold after 3-4 months, the vendor may become a little more motivated: make a note to call back in a few months’ time, to see what the situation is.
Cutting-edge pre-qualification tool: the telephone
A telephone is an essential tool of the trade for the successful active wealth builder. There’s no better way for making contact with people. However, experience has taught me that the phone needs to be used well – and for the right purposes. There are three good reasons to use the telephone in the initial stages of property investment. To:
• make contact with people, to network and gather information
• pre-qualify or evaluate opportunities, to get an idea of the property and the deal
• set up an appointment to see the person and/or the property.
There is at least one rotten reason to use the telephone and that’s ringing up and starting to negotiate over the phone without having even seen the property. People who do that are regarded by most estate agents and other people in the business as ‘tyre kickers.’ The first phone call you make in regard to a specific property really ought to be to pre-qualify – to identify if the property is something that (in principle) you might be able to make money on.
The following is an example of a typical phone conversation I would have with a real estate agent, to accomplish this basic pre-qualification stage. I’d be taking notes on my phone listing pre-qualification form as I speak.
John: Good morning. My name is John Fitzgerald, and I’m inquiring about the house you’ve got for sale in Rio Vista Boulevard on the waterfront.
Agent: Yes, sir. How can I help you?
John: Do you mind if I ask you a few questions about the property and the listing?
Agent: No, by all means.
John: First of all, did you list the property, did somebody else in the office list it, or is it in conjunction with another agent?
Here, I’m trying to determine if the person I’m dealing with has the relationship with the vendor, or if he is only an intermediary. This is very important because if you’re dealing with an agent who is not directly linked to the vendor, you have little chance of getting a deal on terms and conditions to suit you. You really need to deal with the agent who listed the property and who therefore has a relationship with the vendor.
Agent: No, I listed the property. The vendor is someone I’ve known for a long time. I actually sold him the property seven years ago.
John: That’s great. Why is the vendor selling?
Agent: He’s old, his wife died about a year ago and he can’t care for himself anymore so he’s looking to move into a nursing home.
John: I see. Has he made a commitment to a nursing home yet, do you know, or does he need to sell his house prior to doing so?
Agent: No, he has made a commitment and he will be moving into the nursing home in the next 2–3 weeks, which is when the property will become vacant.
John: I see. And how old is the property?
Agent: Around 50-years-old.
John: What price is he asking for it?
John: Is the property in need of maintenance and upkeep?
Agent: Yes, it could probably do with a new kitchen or maybe some new floor coverings. But there are no structural faults in it.
John: How much would you anticipate you would need to spend on the property to bring it up-to-date?
Agent: Oh, no more than $10,000–15,000.
John: What would you estimate the property would rent for?
Agent: Around $250 per week.
John: And would it be easily rentable in its current condition?
Agent: Well, no, I reckon it would need some money spent on it.
John: Is the vendor aware it needs some money spent on it?
Agent: Yes, I have made him aware of that.
Here, I’ve laid the groundwork for suggesting that the vendor may need to be flexible with price and terms. I’ve also given the agent a good argument to use with the vendor when he recommends it.
John: If I was to contract to purchase the property, would the vendor give me a longer term settlement in order to get in and do the renovation prior to settling?
Agent: He may be amenable to that. He doesn’t need the money urgently, as he’s already settled on his retirement home.
John: What about price: is he flexible with regard to the price?
Agent: He may not give you a price discount and terms but he may do one or the other.
By this time, I’ve firmly planted the seed in the agent’s mind that there’s room for negotiation here. He should be willing to recommend certain terms and conditions to the vendor.
John: What aspect to the waterfront is it?
Agent: East to water.
John: Is it a deep water frontage? What’s the width of the property?
Agent: Yes, it’s a good aspect with about 30 meters’ width to the property.
John: And what’s the land area?
Agent: It’s 800 square meters.
John: Hmm. Look, it sounds great! How long has it been on the market for?
Agent: Around six weeks.
John: Have there been any offers so far?
Agent: He’s had a couple of builders look at it for renovation but he hasn’t had any serious offers to date. And until now he hasn’t been overly motivated as he’s only just settled his retirement unit.
John: Well, that’s great. I’d like to come down and have a look through the property and discuss the possibility of making an offer.
I actually had this conversation. I had already done some homework. I knew the area had an established capital benchmark of around $500,000, so I didn’t need to qualify that in the course of this conversation. And since it was a waterfront property, I was aware that the asking price was almost entirely land value. The rental rate, while not great, was acceptable at a touch over five percent. I was also able to determine how much money would need to be spent to bring the property up to rentability. In short, I could gauge for myself the potential short- and long-term upside in the property prior to inspection. I subsequently bought that property, did some minor renovations and within 12 months the property was revalued at over $320,000.