An exit strategy is important because it not only guides an investor’s decisions throughout a given deal, but also dictates how they will maximize the profitability. While speed of implementation is of the utmost importance when attempting to facilitate a transaction, do not attempt to initiate a deal without evaluating potential exit strategies. As an investor, it is critical to evaluate each scenario with the end in mind. That is, have a specific plan for each house before you purchase it. Investors should have a clear understanding of how they intend to profit from every real estate investment before they even meet with a prospective seller.
Familiarizing yourself with each individual real estate exit strategy can save your business thousands of dollars, if not millions over an entire career. It is never wise to consciously enter into negotiations with a seller without knowing how you will be exiting from the deal. Not only will blind ambition increase risks, but it will eviscerate any potential chance to negotiate from a position of power. Essentially, neglecting to consider an exit strategy reduces potential profits while simultaneously increasing risks.
How To Choose The Right Exit Strategy
The decision regarding which real estate investing strategies to use is not as rudimentary as it may appear. There are several key factors to take into consideration when planning an exit strategy. Ultimately, the potential profitability of each deal is correlated to the respective strategy that is chosen. Understanding each plan will help every investor maximize returns on their investment.
Unfortunately, there is no golden rule that differentiates between each strategy for particular scenarios. Therefore, knowing which real estate exit strategy to use is dependent on the investor’s familiarity with the following factors:
Understanding each of these individual factors will essentially determine which of the real estate exit strategies an investor should pursue.
Top 7 Real Estate Strategies
Real estate exit strategies are directly correlated to the individual acting on them. Investors are expected to delineate between each option based on their desired outcome. The exit strategy they choose depends on the amount of cash they want to invest in the project and their level of experience. It is important to note that there is no right or wrong strategy. However, knowing all of the different ways to exit from a deal can increase profitability, as you will know how to navigate even the most marginal of deals. The following is a comprehensive list of real estate exit strategies you need to consider in the future:
Simply put, a wholesale deal will witness the investor act as the middleman between a seller and an end buyer. Essentially, the investor will find and quickly sell a property for a respectable profit margin. There are two methods in which an investor can wholesale: They can either sell or “assign” their purchase contract to an end buyer, or they actually close on the property and immediately resell the property to another investor in the form of a “double close.” Wholesalers typically do not invest personal capital to facilitate deals, and will charge a wholesaling fee. These factors make wholesaling an attractive way to get started in real estate investing.
Rehabbing, also commonly called house flipping, allows for the largest of profit margins, as it allows an investor to sell the target property at full market value. A rehab involves purchasing a house, renovating it and selling it for more than the original investment costs (purchase price and repair costs). The formula for a successful flip deal includes finding a property at under market value in a market where demand is strong, putting together a reliable team of contractors, sticking to the rehab budget and timeline, and then finally, selling the property quickly to the highest offer possible. However, because there are various factors that can go awry, flipping does have some associated risk to consider as an exit strategy. To learn how the pros do it, consult our rehabbing checklist for more information.
Buy And Hold Real Estate
Buy and hold real estate is a similar concept to that of rehabbing. However, instead of selling the renovated property, an investor chooses to rent it out to receive monthly cash flow. This option is different from simply purchasing a property at market value and turning it into a rental property, because of the rehabbing that is added as an extra step. Purchasing a property at a great price, and then boosting its quality and appearance with some repairs and renovation will not only improve the property value (and thus the return on your investment), it will allow you to increase the rental rates. This is a popular real estate exit strategy for those looking to build up equity in an asset. However, make sure that you are ready to take on the responsibilities of property management.
As its name suggests, the seller financing exit strategy involves a creative technique that permits the owner to sell the property to a buyer. Essentially, the owner finances the deal and acts as a bank. However, monthly payments are awarded to the owner. The seller maintains the mortgage loan to cover the sales price. This type of arrangement provides more flexibility for both the buyer and the seller, as opposed to financing through a lender. If you are purchasing property, seller financing can allow you to buy more properties, does not affect your credit report, and provides a swifter closing process. In addition, you may be able to negotiate putting little to no down for a down payment. As the seller, allowing buyers to finance the purchase through you helps your listings stand out in the market. Seller financing can also create a source of monthly income – perhaps at a great interest rate – and spread out tax requirements as well.
A lease option, otherwise known as rent-to-own, allows the owner to rent the property to a tenant, but with the option to purchase it at a later date. Within this exit strategy, the owner and tenant will agree upon a rental period, after which the tenant will have the option of purchasing the property from the owner. Once the rental period ends, and the tenant decides to move forward with the purchase, their monthly payments will then be made towards the purchase of the property. These payments will not be dissimilar to making mortgage payments, but are made to the owner instead of a lender.
Prehabbing is a hybrid combination of both rehabbing and wholesaling. During a pre-hab, minimal work is done to bring the property up to selling quality, making a great option for investors who are interested in doing a little bit of “DIY,” without the full commitment required in a fix-and-flip property. Examples of ways to prehab include giving a home a new paint job on the interior and exterior, updating the landscaping, and perhaps replacing the carpet. Prehabs need not be excessively expensive or difficult, and are usually limited to activities that can be executed without the help of a professional. However, the amount of time, energy and money invested in a prehab is completely up to the investor. They are often sold to rehabbers who will continue to fix it up.
Bank Owned Homes
A bank owned home, or real estate owned (REO), is a property that is being sold by a lending institution, such as a bank. When a property has been foreclosed upon, the financing entity will seize it back into their possession and will sell it under market value to a new buyer. Because it is expensive for banks to hold and maintain these properties, it is in their best interest to sell them as soon as possible. In order to do so, they will typically remove any outstanding liens and debts from the property. Bank owned homes are sold through real estate auctions, or are otherwise sold through the lender’s special REO listing website. Learning how to navigate the real estate auction process is, while not your standard exit strategy, learning how to navigate real estate auctions can result in some great deals.
A traditional exit strategy simply refers to purchasing a property, and then working with a real estate agent to sell it for a higher price. Investors relying on this strategy will typically finance the property themselves or work with a mortgage lender. A traditional exit strategy is attractive because of its simplicity; however, investors who don’t buy in the right market could be faced with high holding costs and small profit margins. The profitability of a buy and sell deal with depend entirely on the purchase price of the home; without a full rehab investors will only be able to resell the property for so much. Therefore, in order to successfully pull off a traditional exit strategy investors need to ensure they secure the best possible purchase price. Investors interested in buying and selling should do their research on motivated sellers, high performing markets, and negotiation techniques.
While real estate investing is a sound opportunity to make significant amounts of money and achieve the lifestyle you desire, there are risks that every investor must take into consideration. Specifically, certain factors may impede or even ruin a projected real estate exit strategy. According to Ryan Moeller, in association with BiggerPockets, the following factors may ruin any potential real estate exit strategies:
Understanding the factors that may prevent most real estate exit strategies from working is critical to any investor. However, savvy investors counteract potential obstacles with multiple strategies. A backup plan is critical, as things can change at a moments notice. Having multiple real estate exit strategies will proceed to lower impending risks and allow investors to achieve the maximum return on their investment.
Due to their lack of experience, investors relatively new to the industry should stick to projects that incorporate exit strategies they are familiar with. New investors should always start with projects that require minimal work. As they gain more experience, they can begin to take on increasingly larger projects that require more complex, and perhaps more profitable, exit strategies.
But until then, it’s always good to know that you can always jump up to the more advanced strategies, when you have a little experience under you belt. Approach it this way, and you’ll be putting yourself in the most advantageous position possible.
The right real estate exit strategy should guide you through all steps of a real estate deal, from start to finish. An exit strategy will determine which types of properties you work with, how to market them, and the potential profits of a deal. Take time to research the above options to identify the right choice for you (and your market). As you gain experience, you will learn how to use each strategy to your advantage and ultimately find the right ones for your business. Remember, by taking the time to think through your exit strategy you can help minimize overall risk, and maximize your profits.