Risky Business Part II: How to Minimize Property Risks

Editor’s Note: This article is the second of a three-part series. For more information on minimizing real-estate risks, check out Risky Business Part I: How to Minimize Tenant-Related Risks and Risky Business Part III: How to Minimize Economic Risks.

The saying, “The bigger the risks, the bigger the rewards,” certainly applies to real estate investments. The bigger you’d like your business to become, the more risks you encounter.

Virtually all homes need some TLC before closing a deal.

With that said, you don’t have to risk life and limb on every property, especially when you understand how much maintenance your property will—or hopefully, won’t—require. Below you’ll find the knowledge, strategies, and tools you need to make informed decisions on property risks.

A little bit of research can go a long way. These four steps in particular will help you avoid classic maintenance pitfalls:

Step 1: Get a quality home inspection before you acquire the property. It will show you any red flags, like existing cracks in the foundation or other damage.

A punch list is a document prepared by a seller indicating what the seller intends to fix after a buyer or third-party inspection.

Step 2: Ask the seller to take care of any concerns on the Punch List. This document outlines any features of the home that doesn’t live up to contract specifications so you know exactly what to expect. The seller is responsible for anything on the list.

Step 3: Get a complete list of everything the owner has done to the home, especially if you’re buying a turnkey property. If you’re buying a home from an owner/occupant, on the other hand, you’ll want a seller’s property disclosure report.

The property disclosure report can be an investor’s best friend.  The seller has to explain everything they know about existing property damage in the document, and you’ll find the information you’ll need there.

Step 4: Look at maintenance records. A reputable property management company will keep a detailed list of everything that’s happened to the house.

All of that knowledge is great, but it only helps if you’re prepared to put those tips to good use. Here are some tactics that will minimize your risks:

Get a home warranty that will cover appliances, furnaces, roofs, etc. for as little as $300 a year.

Find a financial vehicle like an indexed universal life policy (IUL), which will allow you to have all the advantages of uninterrupted compounding interest without having to take money out of your pocket for emergency repairs.

Get smart about 1031 exchanges. Section 1031 of the United States Internal Revenue Code allows real estate investors to sell properties and roll that money into new properties without facing tax penalties for doing so.

Avoid buying properties that are significantly older than the average home in your market.

Avoid structural obsolescence. Many homes, especially those built in the early 1900s, don’t have floor plans that most people desire today. Back then, people were used to living in smaller living spaces with low ceilings and little storage space. In other words, those properties are structurally obsolete, and for you, that means higher vacancy and property risks without much reward.

Look at the housing stock to see where your target properties fall. Is your price range and preferred size steering you into the older, more obsolete properties? If so, you might want to consider other markets.

Though there are several tools out there, the US census will tell you everything you need to know. It will tell you how many properties are still operating from a certain decade—and more importantly, when a certain city’s housing boom occurred.

In Philadelphia, for example, many houses are from the 1800s, so buying old properties isn’t as worrisome there as it would be in, say, the suburbs of Ohio.