A deal is glamorous; due diligence is not,
as the Harvard Business Review writes. But once you get excited about a new project, due diligence is an important counterweight to your optimism—revealing red flags that make it better to walk away.
Knowing when to say no to a deal can save countless hours, along with lost income and stress. It’s important to know when a deal is worth re-negotiating, and when it’s best to wash your hands of it.
Here are tips on when to pass on a deal, sparing yourself buyer’s remorse:
When to Walk Away in a Hopping Market
- Due diligence is most needed in a hot market. There’s a temptation to get into bidding wars and seal the deal fast. Instead, pause and do some penciling out. Will the investment still be a good one if the market nosedives? Pass on a deal if your budget doesn’t allow for downturns in the market. Then, insist on making time for due diligence research. It may uncover homeowner’s fees or improvement projects that are attached to the flip. There may be pre-existing contracts with maintenance or landscaping vendors that don’t fit your budget.
- Title issues can make you fall out of love with a property. A long-simmering easement dispute with a neighbor can sour the whole deal. If there are outstanding property taxes, bankruptcies, divorce settlements or contractor liens, it can delay closing for months. Some might be easily cleared up (a debt was paid but not recorded) and others can drag on indefinitely. Creditor disputes can hang over the deal like a threatening cloud, making you want to abandon it completely.
Deal-Killing Home Inspections
Don’t ignore major issues on the inspection report. What is major? Issues like sagging floors, roof or drainage issues, or cracks in the walls or foundation. You may be inclined to re-negotiate price if you’ve invested a lot of time and energy into the process. But major structural issues are a slippery slope and often lead to more repairs than expected:
- Major foundation cracks can be very expensive to repair, even requiring excavation of the soil to shore up the walls. Then, the landscaping needs a re-do. It’s safer to hire a structural engineer to evaluate the problem before making an offer. Sometimes, structural problems turn out to be cosmetic. Other times, they end up costing more than the house in the long run.
- Water damage can mean anything from a leaking roof to a faulty plumbing system. Maybe it’s just some shingles or flashing, but the whole roof could be past its prime or the plumbing outdated. This calls for more investigation, including capturing drone video of the roof, as it could put serious dents in your ROI.
- Widespread mold issues require specialized contractors to do pricey remediation. And that’s just the beginning—structural problems with the house may have caused the mold, and they’ll need to be fixed, too.
Risk Management in Multi-Unit Investing
An apartment complex or duplex might seem like an alluring diamond in the rough. The market’s in a slump, so the selling price is low. There are times, though, when it’s wiser to look for a more polished diamond:
- Do your math carefully in light of a new California law, the Tenant Protection Act of 2019, which sets rent caps statewide and implements “just cause” eviction rules, The law, effective Jan. 1, 2020, caps annual rent increases at 5 percent plus the inflation rate for about 2.4 million rental units in California. It also requires landlords to show “just cause” before you can evict tenants in place for a year or more. The law applies to properties with at least two units with no owner living there. Properties less than 15 years old are exempt. Look at the fine print, as there are exclusions allowing property owners to raise rents to pay for some improvements and maintenance.
- Poor cash flow can make the property seem like a good value. But it can also mean there are serious flaws in the investment property, the management, or the quality of tenants. A deeper investigation is in order, including a look at the rent rolls. Find out whether the property has a lack of quality, long-term tenants; if there is a high turnover rate; or if poor management is affecting retention. As Zillow notes, moderately-priced, positive cash-flow investment properties are the best to help you pay the bills and net a profit.
Look here for a breakdown of the California Tenant Protection Act of 2019.