You’ve located the investment property, negotiated the contract, and now you’re ready to start your due diligence. If you’re like most investors, you run out to hire a competent property inspector to inspect your property before you close to uncover any defects that might adversely affect your property. You set up a date, and because you want to be a great investor, you walk every unit with the inspector to identify any physical defects so that once the inspector puts his 2-inch thick report together on the property, you can go back to the Seller and negotiate a repair credit or lower purchase price. Every seller and broker knows you’re going to do this because they have been through the process themselves, and they are prepared for your report and the negotiations that lie ahead.
If everyone does this, what am I missing that success investors don’t miss?
The truth is, the physical inspection is very important, and is something that you should do on every property you are serious about buying. However, the physical inspection is only part of the story, and most likely not the most important part of the story. You see, anything in the physical property inspection report can be fixed by money and a little work, but there is a whole other side that will determine the success or failure of your investment even more than the physical. Your inspector will never even look for it, and it can’t just be fixed with money.
The most important aspect of your investment business
When you look at the multifamily business, most new investors think they are in the multifamily buildings business because most of residential real estate is focused on physical homes, but you are really in the apartment leasing and tenant business. Just like any other business, you have products (apartments for lease) and customers (tenants), and your customers determine your businesses stability and profitability, but most investors focus only on the product.
What can clear your business out faster than anything else, which an inspector will never look for?
The answer of course, is bad customers. Specifically, tenants with criminal backgrounds, drug users, gang members, obnoxious tenants that disrupt your other tenants, and those who don’t pay their rent on time or at all. With only a few of these types of tenants, not only will your property quickly clear out as your good tenants leave, but your property will quickly get a bad reputation that is hard to recover from.
How can you check for and avoid these problems up front?
You have to remember that you are buying a business and not just a building, and that the strength of your customers is directly correlated to the strength of your business. While you need to do the physical inspections, it is just as important to inspect the business behind the building. You need to spend just as much time checking all of the tenant files to make sure background checks were done, check sex offender databases for your property, make sure they have credit reports on each tenant (so you know they can afford to live there), check the leases against the rent roll, etc. During this inspection, if you find out that 60% of the tenant files have no background checks, no credit reports, or have criminal pasts, you need to seriously consider not buying this property. If the files are a mess and they have been letting in people they know can’t pay the rent, you aren’t going to be buying what you thought you were, and your business will suffer.
You can set yourself apart from the competition.
Knowing what others miss, you will have a big advantage when evaluating potential investments. When a broker tells you that rents can be raised as part of his sales pitch, you will know during the due diligence period if the tenants can afford them or not. And if the property checks out both physically and through your lease audits, then you know you have a property with a lot of potential. This is the type of business you want to buy, and you will succeed while your competition fails because you understand your business and the details that drive success.