Don’t Be Fooled By Property Profits Hype

There are a lot of scammers out there.

And not all of them are trying to sell you a bridge.

Some fraudsters bilk unsuspecting investors into handing money over for bogus developments.

But far more common are the legal scams where a seller dupes unseasoned investors by hyping information that doesn’t have any bearing on actual
value.
A prime example of this is using gross cash flow to imply future earnings or arbitrarily fixed capital appreciation projections as a reason to pay more for a property than it’s worth.

These flim-flam artists dazzle you with information that looks appealing on the surface in the hope that this distracts you from what’s actually inside the deal.

When they use gross cash flow projections and financing, these scoundrels can claim rental “yields” of over 40% per year.

This sounds like a stunning return and makes you willing to pay more for the property.

From the developer’s point of view, the beauty of it is in the disclaimer in their paperwork stipulating that the numbers are just gross projections and not a guarantee.

Even deeper in the contract they mention that the projected IRR doesn’t include the construction period… which is often up to two years.

If you only keep the property for six years, this two-year building period would mean a 33% loss in earnings. Ensure you calculate your rental return including any lost construction time over the life of your investment.

These are soft scams… but they are legal because the developers tell you what they are doing, but they do it so smoothly and quietly you forget to ask the right questions.

“Gross” is a dangerous number to take at face value.

It is just the income a property produces and doesn’t consider any expenses at all.

Gross rent yield = (gross income/purchase price of property) 100

Only looking at the income is useless when trying to understand an investment. You have to be aware of the many costs associated with owning an income property, and these vary wildly with location and property type.

A property might produce $50,000 per year in income, but without factoring in mortgage, HOA fees, maintenance, property taxes, rental management, marketing fees, etc., you don’t know if you have made a profit or not.

When I analyze the numbers for rental properties I always talk in terms of “net yields,” which take into account all expenses.

Net rental yield = ((gross income – expenses)/purchase price of property) 100

This gives you an accurate picture of the state of your investment.

Formulaic capital appreciation projections is another common hustle you get from fast-talking realtors trying to charge you more for possible future appreciation.

There is no realistic estimate of “8% per year appreciation for the next 10 years for an 80% profit.”

The truth is, capital appreciation is both hard to estimate and cyclical. There are many ways of making more-informed estimates. You can look at how the country is developing and what locations still offer value and appreciation potential.

You can even look at locations further up the path of progress and see how much they appreciated to put together matrixes of numbers to estimate your property’s possible price trajectory.

However, just picking 8% as a universal capital appreciation figure is both useless and unsustainable in most markets.

Stay diversified,

Lief Simon
Editor, Offshore Living Letter