Property risk definition
Any novice property investor is prone to make rookie mistakes when investing in property– and being unaware of the basic pitfalls that investment property can present is chief among them. After all, investing in real estate is a time consuming, largely capital-intensive way of making money. In addition, even if you are choosing to own shares in real estate funds like Real Estate Investment Trusts (REITs), the basic underlying problems remain. Here are some of the key risks involved in any real estate investment – be they investing in houses, commercial real estate, foreign investments or time shares for that matter.
Some sage property investment advice
Novice investors should be wary of any real estate project that involves negative cash flows. Second homes and land speculation are prime examples, however even simple “fixer-uppers” can become disastrous for throwing off large sums of negative cash flow (also known as “negative gearing”). Unless you’ve had experience with land development, steer clear of this form of property investment. In general, be as conservative as possible when numbers crunching for fixer-uppers. Obtain several contractor estimates for the scope of work to be done prior to even making an offer on a rehab project. Without a doubt, investing in negative cash flow real estate should be attempted only by those with deep pockets, looking to shelter other forms of income from the tax man. The losses thrown off by negative cash flows will aid in reducing the bite of their overall tax bill. So, in effect, negative gearing makes sense for them…but not so for the novice investor actively looking for profits from the outset.
What is investment property?
Investment property is any real estate designed to earn a profit for the investor. And this means it can be located anywhere in the world. However, if you’re considering foreign property investment, think again. The novice property investor should be aware that buying foreign real estate is fraught with inherent risks. (Are you an expert in the politics of the country involved? Are they stable? How many trips abroad are you considering making to watch over your property? And what are the costs involved with those trips? Who do you call when a problem arises with the property in an emergency? Other major risks that can be found in in foreign real estate buys include fluctuating currencies, different real estate laws by country, as well as the singular lack of real estate protections afforded property here in the U.S. compared with other countries. These are all concerns – and inherent risks – only the well-experienced should address. In addition, I have always advocated buying close to home. You know your home area better than any other, and you won’t be considered an absentee owner. Too many tenants like to take advantage of the property and its landlord when they know the owner lives far away…
Owning property – sort of…the risks of time shares
Another important risky real estate area are time shares. They represent some of the highest levels of property investment risk. Time shares are very risky because it’s difficult to predict what, if any, value will accrue over time, the longer you hold onto them. They are very sensitive to market fluctuations, and can drop in value quite suddenly as well. In addition, time shares are very hard to predict with any degree of certainty their future positive cash flows based on prior years performance levels. Finally, these time shares can be difficult to sell when you need to, which can create an ugly financial situation for you when you are most exposed.
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