Losing Money In Real Estate: A True Story
BATTLECALL GUEST EXPERT: Steve Gillman, Real Estate Investor And Author Of Houses Under Fifty Thousand
(PLEASE NOTE: THE LOCATION WHERE THIS STORY TAKES PLACE IS IN A VERY VERY RURAL PART OF MONTANA WHERE PROPERTIES COST LESS THAN CARS. IT'S TRUE AND JUST GOES TO SHOW THAT THERE NEVER WAS A REAL ESTATE BUBBLE OR BOOM IN THESE EMPTY PARTS OF THE COUNTRY!!!)
What if you were able to buy a decent two bedroom home for about $30,000, fix it up a little and put it on the market for $80,000? Do you think you could make some money that way? This is the story of a man who lost it all that way, followed by a few lessons to be learned from his sad tale.
The story takes place in 2002, in a mountain town in Montana, where the last of the good jobs had left town twenty-two years earlier when the copper smelter closed. It is a beautiful town, but the resulting economic decline caused a population decline of more than 30%, down to about 7,000 or 8,000 people. My wife and I bought a great little house there for $17,500, so home prices had obviously tumbled along with the population.
A neighbor, at eighty-years-old, decided to become a real estate investor. He bought the house next to us for around $30,000, and borrowed more from the bank to fix the place up. Given the price of our own home and the fact that this other house wasn't nearly as nice, I wondered if he had overpaid. He seemed sure that he had a good deal, though and could make some money.
As the weeks went by, he did get the place looking better. He put in an incredible fireplace, and new carpeting. The electricians worked on the old wiring on and off for a long time, always finding something else that needed to be done, and then taking their time doing it. The old guy was paying by the hour, with no contract, of course. The heating system needed replacing, at which point our neighbor mentioned, "I didn't know the house had so many problems." At some point his enthusiasm started to fail.
His bank account started to fail too. Eventually he admitted to me that he had over $65,000 into the place, but still seemed certain he could sell the home for $80,000. I politely nodded. It was too late to say anything anyhow. He didn't even have money to fix up the rusty iron fence around the house. In fact, from the outside, the appearance had hardly changed at all, since all his money went into the interior.
The sign went up, though I am not sure why the real estate agent wanted such a listing. Perhaps it was with the hope that he would maintain the listing when the bank took the house and dropped the price. In the end, that is exactly what happened. "I gave the house back to the bank," the old guy told me one day.
A Few Real Estate Lessons
I like this story because my old neighbor did so many things wrong. This makes it a great teaching story. Often real estate success consists as much in avoiding common mistakes as knowing intricate techniques. Here, then are some of the mistakes he made.
1. He had no plan. He had only a vague idea about what he would do and how much the home would sell for.
2. He had no idea of how to value a house. If he had compared the home to recent sales (like our $17,500 purchase next door) he would have realized that the most he would get for the home was probably around $30,000, if that.
3. He had no concept of his market. This was a two bedroom starter home. Buyers for these homes are not looking for a fancy fireplace.
4. He had no contracts or firm quotes from contractors. He let them find as much as they wanted to do and charge him by the hour.
5. He didn't get an inspection. Had he gotten the home inspected, he might have had some idea of how many problems it had, and how much it would take to correct them.
6. He didn't understand the concept of return on investment. Even if buyers liked the fireplace and other features he put into the home, these features probably increased the value less than what they cost.
7. He didn't have enough money or financing lined up. This was a fortunate mistake, perhaps. Since the project was doomed to fail, it may have been good that he ran out of money.
Why not learn from the mistakes of others? As a side note, we selectively put $1,900 into our home there for a total investment (with purchase price and closing costs) of $19,800, and sold it for $28,000 four months after we bought it. We might have been lucky, but we also avoided some common real estate investing mistakes.
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