So, you’ve found the house you want to purchase…
The cash flow is positive? Yes!
Your cash on cash return on your investment meets your goals? Of course!
What about your offer price compared to your assessed value? You’re a smart investor, so your offer price is calculated using solid data such as comparables in the area and what rent you can get out of it.
There’s only one problem. If you negotiate poorly and end up paying too much for the property, your whole plan will come crashing down!
There’s a common theme here. Negotiate well in your real estate transactions and you can get the most out of your real estate deal. The goal isn’t to “screw over” the other party, although that’s what goes through most people’s minds when you talk about “negotiating deals.” It’s not the same tactic that your local used car salesman uses. In this case, we are looking for a win-win situation that leaves both the buyer and the seller satisfied. Neither party will get everything they want, but both parties should at least feel that they got a satisfactory deal and had their needs met.
1. Have Your Facts and Figures Straight
Woah there cowboy, before you saddle up to the negotiation with guns ready to blaze, you’d better have your facts straight. Knowledge is power and in this case, you want to be able to justify any offer you make. For an investment property, you want to know what you need in order to get the cap rate that is typical for the market you’re in. Let’s back up a bit and review what cap rate, or capitalization rate, is:
To put it simply, the cap rate is % return you get on your initial investment. Most cities have an average cap rate that can range anywhere from 6-8%. If your market has typical properties getting a 6% cap rate for example, compare all of the properties you search for (and the deals you offer) with the 6% cap rate rule. If your offer price doesn’t give you a cap rate suitable in your area, work backwards and do something like this:
NOW, you can go a tweak the formula to find out what you need the cost of the property to be in order to meet your investing goals. Some properties may never get affordable enough to warrant the high cap rate, but if the seller won’t come down in price, at least the data tells you it’s time to move on. Come into the negotiation armed with knowledge of what your investing goals are. At the very least, the seller will have more respect for your offer knowing it was backed by solid research.
2. Find a Motivated Seller
The motivated seller is under time pressure. This individual often needs to sell quickly for a number of reasons:
- Divorce (liquidate assets fast)
- Retirement (downsize or relocate)
- Foreclosure (the bank will take it if you don’t)
- New home (need to ditch the current house to get financing for the new one)
- Need cash fast (being engulfed by a mountain of debt)
Your goal is to find out why they are selling. Ask them if they would lower their offer if you could pay quickly, or in cash. The seller isn’t always going to come clean with you, but if you investigate and watch for hints, you may get subtle clues. Your Realtor® or the seller’s agent might have some better deals on why the seller wants to part with the home. Your Realtor® can also find out how long the property has been listed and if anyone has placed offers on the property before you.
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Check for small clues when you view the home. Is the fridge full of food or vacant as if the occupant skipped town? Does the living room looked “lived in” and is the garage full of stuff? Did the occupant get engaged and bring in their significant other, or perhaps even married recently? Chances are, this couple is upsizing to a new home or location and starting a new life together. They will need to part with the home quickly.
3. Get Pre-Approved for a Loan First or Have Cash
Many people will tell you that you don’t need to be pre-approved to make an offer on a home. It’s true, however, it’s usually not a good way to be negotiating. Having your finances secured is one of the best ways you can show sellers that you are serious and mean business. If you have cash, you are “king.” If you are borrowing from the bank, it prevents you from getting too far along with a “great real estate deal” that you can’t even afford. Real estate investing is about managing risk and one way to get in trouble (i.e. 2008 financial crisis) is to build a house of cards with debt. There’s creative financing out there, but if too much of your purchase depends on it, the higher interest rates could erode your cash flow or start sending it negative.
4. Don’t Be Afraid to Ask for a Lower Price
If you did your homework and feel it’s justified, make sure to tactfully question the seller’s asking price, but be realistic. The goal isn’t to low-ball them, insult the seller, or bottom feed for the cheapest below market property in town. Find a property that meets your investment targets (i.e. market cap rate or desired cash flow), is priced right, and rents well. From there, you should be negotiating a better deal with data. It’s not a “crazy low ball offer” if you have justification. Although the seller may be disappointed, if you don’t ask, the answer is always no. Make sure the seller knows you are serious.
5. Don’t be Afraid to Walk Away
Walking away is more than just a negotiation tactic used to buy cars, procure trinkets in Tijuana, and close on a business deal. Having the confidence to walk away will immediately boost your negotiating power and will create a “fear of loss” in the seller. Being emotionally attached to a property will sink you and cause you to pay more than you should. If a seller has had a property on the market for a long time, they might fear losing your interest, hence the “walking away” part. Keep your options open and have some other properties in mind when you make your offer. If it doesn’t work out, as the old dating adage goes, there are “plenty of other fish in the sea.”