5 Property Investment Risks And How To Mitigate Them Building Your Portfolio

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    property-risks-mitigation

    Property investment risks and managing them is little ill thought within the industry at both levels, be it landlords who have not taken their property education or the ones who did.

    Taking risk is good but taking calculated risk is better if you want to secure yourself for a long term future within any investment.

    We only have to look back a decade ago in 2007/2008 when some of the landlords with ill thought investments were on their knees to make the deals work for them.

    The time, when I paid best part of 6% interest on my residential home just before that period when the market was booming.

    However:

    It’s not all bad if you list out the property investment risks and have your mitigation plan to hand, when the risks materialise.

    This post talks about those common risks that an investor will experience without a shadow of doubt however strong their investment skills are.

    1) Interest Rates Increase

    As a general practice, you always consider the best interest rate that a mortgage broker can get you and include that in your deal analysis while purchasing a property.

    However:

    What if the interest rate doubles in a year or few years time?

    Would you still receive the cashflow you expected when you purchased the deal?

    In my time within property, I myself have seen interest rates ranging between 0.5% to 6%.

    Imagine what it would be if you have to actually put money back into the property paying the debt from high interest rate, than earning cashflow.

    Risk Description:

    Increased interest rates over time will impact your cashflow and may actually force you to pay the debt instead of earning cashflow.

    Risk Mitigation:

    Stress Test The Deal:

    The easiest mitigation for this is to stress test your property deal at a higher interest rate when you buy the property.

    Current interest rate is about 3.5% approximately if you purchase on a limited company or less than 2% if you buy on your personal name.

    However, if the interest rate increased to 7% what does that mean to your deal.

    You can easily stress test the deal at 2%, 3%, 4%, 5%, 6% and see what happens to your deal before you purchase.

    Establish a point where you will have to start paying from your pocket than earning money and question yourself if that is a deal for you.

    Long Term Fixed:

    As a practice we at Limitless Monks started to refinance the property post refurbishment for a longer term fixed interest rate, protecting ourselves from potential future interest rate increases.

    We have been doing so opting for mortgage products which are 5 years fixed, given our investment period on a property is 7 years.

    Increase Your Equity:

    The not so easy way if you are in the situation of paying money, is to pay off a bit more of the debt and increase your equity.

    This sure will impact your ROI, however will ensure you don’t have to pay from your pocket each time.

    There are always ways and means to take your money out later when things are right.

    Must Read: Angel Investment – Raising Investment To Grow Your Property Portfolio

    2) Property Valuation Risk

    The valuation of a property is a tricky one and can happen in three instances.

    1. When you buy the property
    2. When you try to refinance the property to take your money out
    3. When you sell the property

    Property is an industry where a lot of your money is at stake should the market conditions change.

    Risk Description:

    The property is purchased at asking or above market price leading to loss of equity resulting from market fluctuation.

    Loss of equity also can result from undervaluation of the property during refinance phase should the investor ignore the numbers game and invest at will.

    Risk Mitigation:

    Buy Below Market Value

    Always, buy the property at a below market value price which will ensure you don’t lose out should the market value of the property fall.

    i.e.

    You either buy a property that is in good condition and is being sold by a motivated seller at below market value, or a property that is not in a good condition where you can add instant value to secure higher market price at later point in time.

    The Differentiators

    Understand the profile and quality of houses within the current street and work out what differentiators can you add to your property to ensure the valuation can meet your expectations.

    A refinance pack to go along with all such differentiators explained in detail can go a long way to secure correct valuation.

    Must Read: 7 Key Things To Include In Your Property Offers System

    3) Growing Debt

    Property investment is a carrot of financial independence at one end but is also a debt business at the other.

    Should you not be careful growing your portfolio, you could end up with spiral debt that will not just be difficult for you to manage but you may end up passing it to your future generations.

    One spot of bother we started having within our earlier days of buying first few properties was the rising debt.

    Risk Description:

    Growing debt due to increased number of properties within your portfolio can result in passing a debt ridden portfolio instead of a legacy to your family.

    Risk Mitigation:

    Set And Monitor Debt To Equity Ratio:

    We started to then check the ratio of debt to equity with purchase of every property.

    The moment we have our loan to value increase beyond 70%, we trigger our mitigation to divert our cashflow into over payments on mortgage.

    Even better, we now started to factor in just 70% loan to value within our remortgage numbers across the portfolio and right before any property purchase.

    Life Insurance:

    You are the only one who can ensure you pass a legacy to your family and not a debt ridden portfolio.

    If an investor need to be able to do that, life insurance is a must which helps to pay off the debt should something unforeseen happen to the investor.

    The setup we have created is a trust within the limited company which will receive the insured amount that can be further used to clear off all the mortgages.

    Note: Review the insurance with purchase of either each property or every year to ensure the insured amount is good enough to pay off the majority of debt.

    Must Read: 8 Buy to Let Questions To Ask Before Investing In Property

    4) Voids And Repairs

    Having a property empty for a longer period of time or continued repairs within your property only means that an investment is a bad apple out of lot.

    Here is the deal:

    Your investment is going to be as strong as the effort you put in due diligence of the area and the property you wish to buy.

    Risk Description:

    Property you purchased remains vacant for number of months or is subject to continuous repairs eating into your cashflow.

    Risk Mitigation:

    Expenses Fund

    Remember the deal analysis where you calculate and take out 10% for lettings fee and 15% as expenses fund?

    That has to be the saviour if you have been diligently moving the expenses fund into a separate account or have been backing it up in your account.

    Rental Demand

    The street you want to purchase your property in has to be analysed for number of properties available to number of properties let in a given period.

    You can easily do this in Rightmove rental section by checking and un-checking the “include let agreed properties” checkbox.

    Before you purchase, ensure you check the demand for 1 bed/2 bed/3 bed/ 4bed properties within the area and look to purchase as per demand.

    You can further read on investment area analysis within below post.

    Must Read: 10 Powerful Checks To Pick The Best Property Investment Area

    5) Rent Arrears

    Buying a property and going through a painful journey of refurbishing the property and then letting it out to find that tenant isn’t paying the rent, is the last thing you want to hear as an investor.

    Risk Description:

    Tenants have not been able to pay rent as per agreed schedule resulting in zero cashflow from the property.

    Risk Mitigation:

    Rent Guarantee Insurance (RGI) 

    Ensure your property insurance has rent guarantee included so you are covered should the tenant not pay a couple of months. This will protect you as an immediate work around while you work with the letting agent or the tenant to get your rent arrears paid.

    Work With The Tenant:

    What we find in our experience is invoking the human aspect and managing the relationship with tenant actually resolves half the problems.

    Try and understand the reason why the tenant has not been able to pay the rent and push towards a rent pay back plan for the arrears.

    This most of the time works.

    However, the issue is too many landlords shy away from speaking to the tenants when there are reported issues.

    You can always give enough notice to tenants via your agents and meet them to discuss the issues and find solutions.

    Must Read: Top 6 Tenant Issues In Rental Properties And Your Response As A Landlord

    Have A Guarantor:

    As a standard practice where we sense that we have a good tenant but have not been able to prove the credit requirements, we do ask for a guarantor who will be responsible to pay in a default scenario.

    This has worked for us and enabled us to take benefits tenants into our portfolio like any others. This has to be worked out with letting agent and included within your lettings process.

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