Steps for Canadians when Buying Below the Border
Article entitled “Buying Below the Border” featured in December 2010 Canadian Real Estate Magazine
If you are like me, you love a great deal. Who doesn’t? Many of us will drive across town to save a few cents on a grocery item or wait in a long line up to fill up when gas is forecast to go up two or three cents per litre. Canadian real estate investors are no different – continuously searching for good deals, which can sometimes be difficult to find. Many are looking to the south: currently the greatest real estate sales since the Great Depression are happening in areas of the U.S. where deals can be had, not just well below their peak prices but, more importantly, well below the price of construction. As Canadian real estate investors, we should be taking full advantage of this unique moment in time as cash on cash returns can be 20 per cent or better and prices of 30 to 70 per cent below cost of construction is typical.
However, while many real estate investors realize the U.S. represents a big opportunity, they may not be aware of the steps required to get involved, specifically as Canadians. I have been asked a lot about this recently and three common questions arise: “where to buy, what to buy and how to buy?” Let’s briefly address these questions.
Where to buy
Our first concern as a Canadian is to understand that the sub-prime mess that caused the initial wave of foreclosures is over. Those properties have gone through the system, gone to foreclosure and have been purchased. We are now dealing with the adjustable rate mortgage (ARM) catastrophe where banks gave 2 or 3 year teaser rates, followed by a rate increase of two or three times, making the payment unaffordable for the owner. Why did the owner engage in such a thing? It’s because property values were going up and the client was encouraged to refinance before the end of the teaser rate term. This was also good for the banks as they get all their fees at the beginning of a mortgage.
National news broadcasts tend to report aggregate statistics or, worse still, highlight the most shocking numbers, which can distort the fact that real estate markets are largely locally driven. Some urban neighbourhoods in certain parts of the country, for instance, remained relatively stable during the sub-prime meltdown and continue to remain quite stable today. The largest swings in price we have seen have been in the sun-belt states, where they’ve experienced higher highs during the boom and lower lows during the “fallout.” In fact, some states have not yet seen their bottom, whereas other areas are already on the other side and trending upward.
Some people say that it is still too early to buy in the U.S., but it really depends on the city, the neighbourhood and the property. Often a good “buy” indicator is to identify cities that have hit their “bottom” and are beginning to edge up in both value and number of sales.
A few cities we have seen currently meet this criteria are Orlando and St. Augustine Fla; Riverside Ca; and Phoenix AZ to name a few. You can use websites such as trulia.com, zillow.com and realtytrac.com to gain current statistics on prices and sales activity; however this should be done carefully and used only as a small piece of your research as you need to be cognizant of a number of other indicators.
We have specific criteria to look for. These cities must have solid statistics such as: steady population growth, good economic and employment fundamentals, a strong rental demand, potential for appreciation, and properties below the cost of construction.
Something we rarely speak about in Canada when crunching numbers for our deals is cost of construction. In some areas of the U.S., both newer and older properties can be purchased for 30 to 70 per cent off the price it cost to build the building today. This can give the investor some indication that the property should appreciate up to and eventually well past the cost of construction.
What to buy
Understanding what type of property to purchase is a key to your investment success. Most of the highly affected areas have markets that are in constant flux. For example, buying a property to flip may have worked six months ago but may not be working now because the margins have been eroded by the rise of prices either at auctions or what banks are accepting at short sale. Also, be cautious of MLS prices as many are projected sales prices on short sales, subject to bank approval and they may not be real.
When you buy a property for a flip, the factors are the same as in Canada. By that I mean that the property must need minimum fix up, have enough margin to make a profit and be in a low middle to middle income neighbourhood…that’s where the largest amount of demand will be. The difference to Canada in this equation is location. Yes location is always important, but in the U.S. it is critical. Crime areas and school districts are key when an American is looking for a place to live. The crime areas are obvious reasons, but in the States, there are good schools and very poor schools in all cities, and good school districts will naturally have a higher demand. The higher demand for the area your flip is in, the quicker you can get in and get out.
The other strategy we are using is buy and hold to build our portfolio. Many people, who were recently foreclosed on were tenants prior to the ARM situation. They could afford to own a home at the bank’s initial teaser rate, but when their property value went down instead of up as expected, they could not refinance nor afford their new payment at the higher rate and consequently mailed the banks their keys, walked away from their homes and are back being tenants again.
The properties we are buying are in low crime areas that are in good school districts. We are able to buy these properties at below year 2000 prices where the cost per square foot is significantly lower than the current cost of construction not only gives us great cash flow, but essentially ensures an eventual and significant appreciation. These are major buy indicators. If you are not able to receive significant net/net cash flow every month with predictable (not speculative) appreciation, then I suggest to continue your search until you do.
How to buy
Doing this due diligence is only step one of the process to becoming comfortable in your investment. Any successful professional investor needs to delegate the myriad of jobs to keep his or her boat floating downstream. Creating a team of experts you can trust for your investments is paramount to your success and peace of mind when investing both locally and, even more importantly, beyond your backyard.
You may want to consider the following experts as you assemble your U.S. team: property managers, real estate attorney, tax attorney/accountant (preferably an expert on both sides of the border), insurance agent, contractors, title company/escrow agent, banker/lender (who will lend to Canadians), private lenders and bookkeeper. I also highly recommend working with professionals who’ve already assembled these teams, have systems in place and are willing to share them with you.
For those more aggressive investors, you may want to compliment your team with bird-dogs, wholesalers, professional auctioneers, mentors/consultants and other investors, which can enable you to create more deals. Of course you should have ongoing lists compiled of local buyers, tenants and rent-to-own candidates.
Having these teams in place can assist you in yielding higher returns because you allow each team member to specialize in their field of expertise with one common goal: they have a vested interest in your success because the more successful you are, the more money they will make.
There are many Canadian real estate investors taking advantage of this incredible U.S. sale, which can create both a regular passive income and great portfolio growth at low cost. Unfortunately, many Canadians are not taking all the necessary steps or working with the right people to ensure both their success and peace of mind, and, as a result, are creating management nightmares, construction issues and tax problems for themselves. It doesn’t have to be this way. As long as you take the essential steps along the way, you can get in on this big sale before it’s over.
As a final word, time is of the essence here as these foreclosures will ultimately go through their various processes and be sold to investors like you and me. They will then be gone and the sale will be over. About half of the adjustable rate mortgages taken out during the boom have already adjusted. By 2013, this unprecedented wave of foreclosures will be over. If the notion of participating in the Big U.S. Real Estate sale in the U.S. is something you’d be interested in, begin laying your groundwork now before it’s too late.
If you would like more information on how to get involved in buying US real estate,
email me at [email protected]
Steps for Canadians when Buying Below the Border