Equipment is a tangible assets that your organization invests in to enhance its productivity. Typical equipment includes computers, photocopying and printing machines, trucks, and other machinery used for manufacturing processes. They are non-current assets, and as a business owner, you need to do proper planning before investing in them to avoid compromising the liquidity of your business.
So, what are some of the costs you should consider before purchasing equipment? The two costs associated with equipment are capital and equipment expenses. So, what is the difference between these two? This article discusses them in depth to help you understand their effect on the profitability and liquidity of the business. Please read through to get a grasp of these concepts.
What is a Capital Expense?
Capital expense of equipment refers to all costs of acquiring or upgrading a piece of equipment. For example, the capital expense for manufacturing equipment includes the cost of purchasing the equipment, any attachments and modifications, accessories, and auxiliary items required to make it operational. Some of the auxiliary charges include taxes, duty, insurance, shipping, and installation costs.
Capital Expenditure Types
Usually, there are two capital expenditure forms. These are expenses of maintaining the present operation levels within an organization and expenses that enable future increase and growth. Capital expenses are either tangible or intangible, with both variants taken as assets because it is possible to sell them when needed.
Capital Expenditure Characteristics
Choices on the amount to go into capital expenditure are usually among the essential decisions organizations need to make. They are critical because:
Capital expenditure decisions have effects that are often experienced in the future. For example, the current manufacturing or production activities primarily result from past capital expenditures. Likewise, the current capital expenditure decisions will significantly influence future company activities.
Decisions on capital expenditure determine the direction the organization will take. Long-term strategic goals and the company’s budgeting process must also be in place before capital expenditure authorization.
Usually, reversing capital expenditure is challenging without the organization incurring losses. In addition, many capital equipment forms are tailored to meet company needs and requirements. As a result, the used capital equipment market is typically relatively poor.
Capital expenditure is typically costly for organizations in the industries of telecom, production, manufacturing, oil exploration, and utilities. On the other hand, physical assets and capital investments such as equipment, property, or buildings present the chance of offering advantages in the future. However, they will require a significant initial monetary investment. Furthermore, capital costs usually increase as technology advances.
Capital expenditure initially increases in organizations’ asset accounts. Nonetheless, upon capital assets starting to get in service, depreciation sets in, and there is a value reduction throughout their entire lifetime.
The Meaning of Operating Expense?
Before getting to what an equipment expense is, you must first understand what an operating expense is.
Operating expenses are expenses that a business might incur during its normal operations. It is usually abbreviated as OPEX and includes equipment, rent, inventory costs, payroll, marketing, step costs, insurance, and funds set aside for development and research.
The IRS (Internal Revenue Service) permits businesses to abstract operating expenses where the business operation aims to make profits. Contrastingly, non-operating expenses are expenses incurred by businesses that have no relation to the business’s core operations. Now we focus on equipment expenses as one of the operating expenses. But before that;
CAPEX vs. OPEX
Capital expenses, abbreviated as CAPEX, are the investment purchases made by a business. CAPEX includes costs incurred in upgrading and acquiring tangible or intangible assets. Tangible assets in a business range from factory equipment, real estate, office furniture, and computers. Copyrights, intellectual property, trademarks, and patents are Intangible items
The Internal Revenue Service takes capital expenses to be different from operating expenses. Per the IRS, operating expenses need to be ordinary, necessary (appropriate and helpful in the business field), and (accepted and shared in the business field). Generally, a business is permitted to disregard operating expenses for the year during which the expenses were incurred; otherwise, the business must capitalize on capital costs/expenses.
For instance, if a business expenditure on payroll is $100,000, it could disregard the entire year’s expense. However, if the business uses $100,000 to purchase a vehicle or a piece of extensive factory equipment, it will need to capitalize or write off the expense over time. There are IRS guidelines on how a business must capitalize its assets, and different asset types are categorized into different classes.
What are Equipment Expenses?
Equipment expenses on the other hand refer to all costs associated with operating and maintaining equipment. Ideally, you start incurring these costs once your equipment becomes operational. Some of the equipment expenses for a printer or a photocopier include the the cost of replacing ream papers, ink, power, replacement of high-wear parts, and cleaning and repair.
Difference Between Equipment and Capital Expenses for Equipment
So, what is the difference between equipment expenses and capital expenses? As discussed, capital expenses refer to all costs associated with acquiring and installation of equipment whereas equipment expenses refer to costs associated with the operation of office equipment. Capital costs are typically one-time costs that end once the equipment has been purchased or upgraded. On the other hand, equipment expenses are recurring and are dependent on the frequency of use of the equipment.
The balance sheet records capital expenses as the cost of acquiring or upgrading office equipment as a non-current asset. Operational expenses include things like operator costs and fuel costs.
Repair and Maintenance Costs as an Equipment Expense
Repair and maintenance costs refer to costs incurred in repairing and replacing worn-out parts of equipment. The costs incurred to bring equipment to its initial condition are tagged equipment expenses. The repair and maintenance account will keep track of all expenses for paying technicians and buying replacement parts. The income statement records them as an expense. A good example of repair and maintenance that will fall under expense is the cost you incur in replacing a broken-down engine to restore the operation of a machine.
Repair and Maintenance Costs as Capital Expense
So, when does repair and maintenance cost become a capital expenditure? Repair and maintenance done to upgrade the equipment in capacity and operational life makes the charges capitalized. A good example is when your company replaces the random access memory of its computer. This is to increase the processing power of the machines or when it upgrades to new software versions. The company includes the cost of these items in its non-current assets.
Effects of Capital Expenditure on Company’s Profitability and Liquidity
Capital expenses of equipment fall under the non-current assets of a company. This means the benefits associated with these items take longer than one year and are hard to convert into cash. Your company will spend a lot of revenue on capital expenses of equipment which will affect the liquidity of the company. However, because of the increased productivity and efficiency associated with capital equipment, your company will enjoy increased profits.
It is advisable to plan and do proper analysis before incurring capital expenses. This is to avoid compromising the day-to-day operation of your organization. Considering its effect on your cash flow and debt ratios, you want to ensure that it does not affect the minimum liquidity required to pay workers, rent, and suppliers. Also, consider upgrading existing equipment, buying used equipment, or leasing to minimize the risks associated with capital expenses.
Effects of Equipment Expenses on Profitability of the Company
While equipment expenses do not involve huge finances as capital expenditure if proper care is not taken it can take a toll on the company’s profitability. First, you want to ensure that the work used for the equipment justifies the operation cost. Utilize the machinery for its intended purpose, and maintain it regularly. This lowers pricey repair expenses.
Training your workers on efficient use of the equipment helps minimize wastage. It also reduces the poor use of machines leading to the increased operating cost of the equipment. A good record of the equipment expenses allows you to come up with ingenious ways of cutting the operating costs linked with particular equipment.
Renting and Leasing an equipment
Sometimes it is wise to rent or lease equipment to avoid associated risks such as huge initial costs and disuse. This is so if you are a small business owner with limited financial ability. So, where does renting and leasing fall under? Are they capitalized or charged as expenses?
When you rent a copier, you make a one-time payment, Thus, you will charge the cost incurred in renting it plus any associated operation costs as equipment expenses. Also, when you lease equipment you commit yourself to payments, thus you will charge the premiums as equipment expenses.
Larger cities have adopted shared or coworking spaces because of the advantages they provide in regards to commercial real estate. When planning on acquiring commercial real estate, it often comes at a premium, so it is logical to consider all your available options when starting a small business.
It can be challenging to find traditional office space for your small business, and combine that with costs of upkeep, overhead, and utilities and you may wind up with unnecessary long-term financial headaches. However, it should be noted that there are potential pitfalls to coworking spaces as well. For starters, you are sharing space with others outside your organization. Secondly, you have a generally reduced sense of privacy, and lastly, you have limited access to conference and meeting rooms.
If you are starting a small business, between having a coworking space and a commercial tenant lease, which option makes more sense? It often depends on your situation, how much money you are willing to spend, and how many available resources your business has. There are pros and cons to both options, and it is up to you which one will work best for your business.
Also known as shared offices, coworking spaces offer versatility and flexibility to small businesses, freelancers or small proprietors who desire to have a professional environment when they operate. A coworking space in commercial real estate functions in a simplistic way. A daily, weekly, or monthly pass may be purchased by a member or guest to access a desk, private office, or quad. There is no upkeep costs attached to a coworking space, unlike a traditional office lease.
A coworking agreement with a landlord is a flexible space agreement, which means the space you acquire is fully furnished right at the start. Helpful perks such as a WiFi internet connection, outfitted kitchens, and amenities like modernized restrooms come with a coworking agreement that normally would not be included in a traditional commercial lease.
Get familiar with the term “common area maintenance costs” if you plan on acquiring a coworking space for your small business because these costs will always be included in a coworking agreement. The common area that you occupy for your business will be the area that you responsible for should repairs be needed.
Consider the Good and the Bad
A pleasant surprise in a coworking agreement is that it won’t have the termination penalties that are common in traditional commercial leases. A not-so-pleasant (and poorly hidden) surprise is that any and all coworking costs are up front for you to see. Amenities and fees can differ between locations and operators. One example of this is the inclusion of free coffee from an onsite coffee shop. Some operators give you this luxury while others make you buy your own coffee. This can also be applied to other perks like conference room time, printing, virtual office services and receptionist services.
One clear benefit of having a coworking space is that it can be collaborative when needed, and it can also be private when necessary. When running a business, you will need great networking opportunities with other individuals or small businesses that are like-minded. This is at the heart of what a coworking space intends to provide. If your business is in a creative field, it comes natural to get in contact with a talented designer, writer or engineer who knows how rewarding specializations are. Another clear benefit of coworking spaces is that they are affordable and flexible. The monthly cost is predictable, but there is no long-term commitment involved. If you want to provide a consistent work environment along with daily and hourly rates for freelancers with alternating schedules, then a coworking space would be a viable option.
The potential setbacks with a coworking space start with an abundance of noise and distractions that may creep into the work environment. If your coworking space is very popular and many people regularly arrive there to work, times of deep concentration may be few and far between. In this scenario, the coworking space may not be ideal.
Another potential setback is the costs over a period of time. Covering costs for a coworking space depends on the status of your business. If you have freelancers just starting out and a startup business that does not have a reliable source of income, retaining a coworking space may become too cost-prohibitive.
Additional credits or fees will be part of the charges for getting access to specific amenities. These kinds of costs can quickly add up if you don’t pay attention to them. If saving money is a primary concern of yours, compare your expected out-of-pocket costs in a coworking space to that of a traditional office space when reviewing terms and usage of amenities. These factors can determine the overall costs.
There will also be technical limitations when dealing with coworking spaces. Whatever equipment you bring with you is what you will have. While some operators will offer workstations for a fee, you must have your own computer to do your work. Plus, variables like the age of the building, the type of market, and the amount of people accessing the space’s internet connection, it may not benefit you compared to internet access at home or in a private office.
Traditional Commercial Lease
A traditional commercial lease stays true to its name: you as a business owner sign a lease with a real estate owner or landlord to occupy a commercial space during a designated period of time. Most companies that seek a traditional commercial lease will work with a professional tenant broker to leverage their expertise and navigate through all the twists and turns of lease negotiations.
Traditional lease agreements carry value as landlords often vet several different offers before settling on a tenant. There are specific factors that play into this decision-making process including credit, business history, projected cash flow, and a business plan.
Once you find a commercial space that you and your company workers are happy with, you can begin to map out how to present an enticing proposal to the landlord. This is where the professional tenant broker comes into play. Use the market data available to request a price and the terms on a commercial lease. The owner will then most likely make a counteroffer, and after some back-and-forth discussions, terms that suit both parties will be found.
Positives and Negatives
Traditional commercial leases have their fair share of positives and negatives to consider. When it comes to benefits, you get to have the control, privacy, and access that you prefer for your business. Your office will be private, your access to the facility will be constant, and you will have the freedom to collaborate when necessary. In other words, you get to make the schedule the way you want it to flow for your business.
Another benefit is the fact that you can offer clients, customers, and partners a private, professional space bearing your company’s name. This promotes viability, reliability and confidence that your business will have a strong presence on a daily basis. A long-term benefit of having a traditional commercial lease is that you will keep the door open for more business growth in the future after signing up for a small space in the beginning. Once your company is in a position to add more employees, the cost per capita based on square footage will gradually decrease over time.
The negatives of having a traditional commercial lease go beyond just upfront costs. Monthly rent payments, security deposits, and simply paying by the square foot of the space you acquire altogether can take its toll on your personal and company’s finances. Depending on the type of lease agreement you sign, you may be required to pay part of your utility costs, which will increase as your business expands.
Due to the amount of space that is available in your traditional commercial lease agreement, your company may have limitations when it comes to your rate of growth. While the lack of space does not always guarantee a negative impact on your business, putting employees in conference rooms for extended periods of time eventually becomes a negative morale hit. With the exception of your landlord having extra space to freely give up to you, there will most likely be a genuine sense of your company feeling squeezed and cramped for space.
Lastly, long-term lease agreements can have long-term ramifications on your business if you don’t carefully read the fine print of the terms. Consider the economic factors, business risks, and unforeseen setbacks that can tackle any small business down. Regardless of the kind of office space you choose, you must count the cost of a lease agreement, especially if it contains specific stipulations for breaking the lease. After all, you don’t have to be locked in an agreement if you are not comfortable with its terms.
Counting the Cost
Now that both a coworking space and a traditional commercial lease have been defined, it is important to remember that you need to count the cost of whatever kind of space you acquire for your business. You must research price points in your desired areas using the most recent and most relevant information available before making a decision.
Looking at a few examples, average coworking space costs vary between the different kinds of spaces you are looking at for your business. A Private Office Space per person can cost an average of anywhere from $350 to $800 per month. A Floating Desk for the whole team can cost anywhere from $50 to $350 per month. An Office Suite per person is generally in the range of $350 to $800 per month, very much like a Private Office Space.
When renting commercial real estate space via traditional lease, there are costs to account for as well. Rent is the most obvious expense, though you need to make sure how exactly the landlord is quoting the rate. (Is the landlord going by a Full-Service Lease agreement, or a Triple Net Lease agreement?) How the landlord quotes the fact will greatly affect calculation of the costs.
Common Area Maintenance is typically the landlord’s responsibility, though costs for this are also typically divided equally based on the total square feet of the building you are occupying. These costs are variable and can change depending on what specific common areas need.
Then there are other factors to consider for the cost of a traditional commercial lease, which include the landlord’s property insurance, taxes, your own general liability and property insurance, utilities (think water, electric and sewage), janitorial services, and other miscellaneous costs.
Landlords will have their own property insurance for their commercial property and will pass that costs over to the tenants, which are divided equally between all active tenants. Taxes can define whether the costs of your Triple Net Lease will increase or decrease. Sometimes landlords will include utilities in your base rent, and one way to calculate the adjusted costs for utilities is to add $1.50 to $2.00 per square foot per year to any building that does not include specific utilities in the base rent. Miscellaneous costs can potentially include pest control, HVAC maintenance, and plant service.
Whether you seek to acquire a coworking space or a traditional commercial lease, the fact of the matter is that you have to do your homework before you find yourself in a legally binding agreement of any kind with the other party. There are a few options to choose from when considering a coworking space, and there are many different types of commercial leases to review before selecting one. It ultimately depends on the needs of your small business and how much you believe you can get out of the space you acquire for however long you have it.
The current price of a house in the United States is more than it was in 2006 in every single state. Even if prices remain extremely high for the foreseeable future, the market will not be subject to a comparable catastrophic drop. This is because the majority of these prices are the result of an inadequate supply not being able to meet demand.
At this time, we are unable to create a sufficient number of homes to match the demand. The ease with which individuals were able to access credit fostered speculation, which in turn led to an increase in demand, which ultimately resulted in a market that was overvalued.
Although a crisis in the economy brought on by the housing market is not on the immediate horizon, rising property prices will have a significant bearing on the economy throughout the longer period.
Cheap financing was a trademark in the years leading up to the housing crisis; however, in the years following the Great Recession, it became significantly more difficult to obtain a mortgage, particularly for families with low incomes and individuals with less than stellar financial standing. Since the year 2000, there has been a marked reduction in the number of people who have been approved for mortgages despite having credit that is less than ideal. This has led to an increase in the median credit score, particularly at the lower end of the scale. Between January 2000 and April 2018, there was a 43-point increase in the median credit score, and a 67-point increase in the credit score of the lowest 10 percent of borrowers. Both of these increases were seen.
Because of the recent economic downturn, there are currently fewer new building projects underway in addition to a general reduction in the amount of newly built homes that are available for purchase. Although it has increased from its all-time lows, it is still sixty percent lower than it was in the 1960s, which had a total population that was sixty percent bigger than it is now. This improvement has been made, but it is still sixty percent lower.
The contribution of residential real estate to the nation’s gross domestic product ranged from 4.5 percent to 5.3 percent, with a mean of 5.0 percent, during the years 1980 and 2000. In 2005, it reached its highest point of 5.9 percent, and then it gradually declined till it reached 2.5 percent in 2010. Despite a modest increase to 3.3 or 3.4 percent since 2016, this is still far lower than the norm throughout history.
It is estimated that there were 350,000 fewer housing units constructed in 2017 in comparison to the number of new households. In addition, the type of housing that is being created does not match the type of demand that is being expressed by households, which results in an inadequate supply. As a result of rising construction costs, an increasing proportion of new homes are being built at the more expensive end of the market. This is occurring despite the increased demand for housing at more affordable prices.
The lower end of the housing market is experiencing a disproportionately larger increase in property prices due to supply and demand imbalances. Since 2014, there has been a large annual increase in housing prices for individuals in the income groups with the lowest 20 percent of households.
How Does this Translate to the Larger Economy?
Even though we are not as susceptible to a housing collapse as we were in 2006, the high home prices that were caused by a lack of supply will have repercussions in at least four different ways throughout the larger economy.
Rent Responsibilities Have Skyrocketed in Recent Years
When there is less affordable housing available on the market as a result of rising prices at the lower end of the market, it is more challenging for families with lower and middle incomes to purchase their own homes. Based on the results of the decennial census and the American Community Survey, an increase from 39.8 percent in the year 2000 to 49.7 percent in the year 2016 is estimated.
Between the years 2000 and 2016, the percentage of households who were struggling to pay their rent increased from 27.3 percent to 62.3 percent for those with an annual income of $20,000 to $50,000.
Further factors augmented by this are the changes realized in the event of hiked rental prices which include:
The Desire to Purchase by Long-Term Renters
Everyone knows long-term tenants who are now interested in buying a home. When rent rises, sensible renters weigh the commitment and costs of homeownership (maintenance, repairs, property taxes) against the growing percentage of their incomes spent on rent. Renters who want to buy a property should consult a mortgage lender and real estate broker as soon as feasible, preferably months prior to their lease ends.
There are Fewer Options for Low-Cost Rentals
To find an economical location to live, you’ll need to be flexible. Without cheap housing, families may have to share bedrooms. Tenants who can’t locate a place to dwell may rent out rooms to pay rent. Only a few tenants can afford high-end rentals.
More People are Getting into Multi-Family Housing
People who could afford to leave multifamily or apartment housing migrated to single-family houses, increasing the rural population. More people are moving to densely populated cities, driving the demand for multifamily housing. Freddie Mac anticipates multifamily investment to surge in 2021. Additional units won’t totally offset high rates, but they may decrease rent rises over time.
Savings for a Down Payment are Reduced when Rent Increases
Temporary tenants trying to save for a down purchase may have to stay in their current property longer. Many tenants are delaying their house hunt. Rising home values mean renters must save even more for a 15 or 20 percent down payment.
Consumer Goods are Seeing a Drop in Demand
If a bigger portion of a household’s income goes toward housing costs, that household will have less money available for discretionary spending on other things. Likely, decreases in housing costs and an increase in the availability of housing will lead to a rise in demand for other goods and services, which could lead to greater job creation and economic growth in other industries.
There is a Misallocation of Resources
Employees are unable to relocate to locations that offer greater employment opportunities or to remain in such locations because there is an inadequate supply of housing in those locations. Recent research indicates that inadequate housing supply was responsible for a 36% increase in the rate of economic growth from 1964 to 2009.
The Growing Disparity in Levels of Wealth
Low-income renters are experiencing increased rent obligations and difficulty finding an affordable home to own as a result of the tight financial market and rising housing costs caused by supply restrictions in the housing market.
Existing homeowners, on the other hand, may look forward to continuing to watch their worth grow. Because owners typically have incomes and assets that are significantly larger than those of renters, the wealth gap between owners and renters widens as a direct consequence of this disparity. This could result in a further widening of wealth disparities in the future because homeownership is a key factor in the creation of long-term wealth and the fact that children of owners are much more likely to become owners themselves.
Why Does an Increase in the Value of a Residence Cause There to be an Increase in the Price of Products that are Sold?
Pricing always takes into account both the cost of producing an item as well as a markup on that cost. According to this interpretation, all changes made to retail prices always signify either a change in the markup or a change in the expenditures. Even though either route would be exciting, we contend that our empirical relationship is mostly driven by markups. This is even though both channels would be interesting. To establish that this is the case, we must first demonstrate, after controlling for several observable costs such as local salaries, commercial rents, and wholesale costs, that these factors are unable to explain the correlation between rising retail prices and rising housing prices. If the costs are not being accounted for, then the variation in our markups must be. Why should retail establishments hike their pricing whenever the cost of real estate goes up? We are all aware that an increase in the worth of home translates into a bigger wealth for the family that currently resides in it. As homeowners advance in socioeconomic status, they become less interested in the particular prices of the retail goods they purchase. When retailers recognize an opportunity, they often respond by increasing their markups to capitalize on it.
Whatever the cause may be, rising housing prices are putting homeownership more and further out of reach for a growing number of American families. The decision-makers in the United States should give serious consideration to any and all viable options for expanding the housing stock in the country.
As a first-time buyer in the real estate market you had plenty of optimism when reviewing all the potential homes that had great curb appeal. However, monthly housing payments, ongoing plumbing issues, and all the time spent tending to the yard makes you a hardened and experienced homeowner. Now you have that desire to sell your home, but you have no idea where to start.
Whether or not you have regrets as a buyer, there is also the possibility of having regrets as a seller. Asking yourself those dreaded “What if…?” questions after you have completed a sale can happen. Just like with buying property for the first time, selling a property for the first time will be a learning experience that you can take with you for any selling process.
1. Confirm that You Are Ready to Sell
If you truly ready to sell your property, then you must have some form of confirmation. There will be emotional baggage involved if this property happens to be your home, but it is key to remember that in the real estate market there is no place for emotional investments. Just as you bought the home as a financial investment, you will also be selling the home as a financial investment going forward.
Before you officially put your home on the market, walk through your home and discuss old memories. Reflect on how the house has served its purpose for the time you spent living in it, and think about what life after the sale will be. Get the emotional baggage out of the way first before you can begin putting in the actual work.
2. Know the Specific Market
In real estate there is more than one particular market to account for. If you are selling an investment rental property, for example, then that is not in the same market as selling a home. Different markets will have different buyers that will be looking at properties differently. The most experienced buyers don’t care about curb appeal as much as they would like to know the details of current lease agreements and cash flow history.
Knowing the specific real estate market takes more than telling the differences between New York and Los Angeles from Charlotte and Seattle. Are you selling in the investment rental market? Are you selling in the home market? Is it specifically a commercial property you are trying to sell?
3. Review Your Financial Information
If you decide to sell your property, then you have to make sure that you will be in a strong financial position to sell. The proceeds from your sale will need to cover all the fees that are associated with selling it, or else you will have bring money out of pocket right to the table. One of the main objectives in real estate sales is to make a profit.
If you list a property but refuse to carefully go over the numbers, then when you get to escrow, you will realize just how expensive it really is to sell a property. It is better to know financial statistics ahead of time. Start with a general estimation of your home’s value, and then subtract your remaining mortgage balance (which is also known as home equity). Then you will subtract closing costs, which include fees, taxes, agent commissions, and those costs may amount to a range from 6% to 10% of your home’s sale price.
Ultimately, you have to know where you stand financially if you are going to be successful in selling real estate. If you fail to make a profit from your sale, and if many things go wrong during the selling process that involve financial oversights, then you will be left in a more unfavorable financial position.
4. Establish an Offer Due Date
It takes proper positioning of the price that you want for your property so that the right buyers get to see it and think about it. One selling strategy that works is to price a home slightly below its expected value and place the property on the market. However, the catch here is to not accept bids right away. Don’t take any offers for around seven days, group show the property, and then do a couple open houses. If you wait, a successful purchase will not be dependent on who is able to bid first, but rather who is serious about buying the property and able to come up with the most reasonable bid. Such bids can include a flexible timeline or an all-cash offer alongside the right price.
5. Work According to the Current Market
Chances are good that your real estate agent will have a strategic plan in place for the sale of your property based on what is currently working best in your respective market. To achieve that top dollar, you need to have an idea of what is happening in the current market. Depending on the price range for your property, it could mean various things such as hosting multiple open houses and presenting it as a pocket listing. Real estate markets are always changing, and some of these changes are caused by additional inventory or a decrease in the amount of active buyers. These changes make agents and brokerage firms adjust their strategy to fit whatever the demands and buyer preferences are.
6. Don’t Forget Tax Implications
If you become a seller, never put aside any potential tax implications. By selling your property, you will owe a great amount of capital gains taxes on whatever profits you make. If you claimed yearly depreciation against a rental property, then you will have to pay capital gains taxes on that.
Here is one illustration of paying property taxes. You bought a rental property for $180,000, and later you decide to sell that property for $240,000. You will owe capital gains taxes on that $60,000 profit. In terms of claiming depreciation, if you claim $30,000 over the time you owned the property, you subtract that from the original purchase price when assessing capital gains. As a result, the capital gains taxes you owe is on a difference between $150,000 (which is the original buying price minus the $30,000 depreciation) and the sale price of $240,000. Along with depreciation, you owe capital gains on $90,000 instead of $60,000.
If you want to avoid capital gains taxes altogether, then consider what the 1031 exchange can do for you. The 1031 exchange allows you to essentially trade your rental property for a property that is better and more valuable. The 1031 exchange is a tax provision that allows you as an investor to take the proceeds from the sale of a property, and then immediately flip whatever profits you make into the purchase of a new property while also deferring capital gains. However, there are some restrictions; both the initial and replacement properties must be “like-kind”, meaning they must be similar to each other in type. You can’t use the 1031 exchange to trade a commercial office building for a single family home, but you can trade an office for an office or a family home for a family home.
7. Don’t Overprice at the Start
No matter how hot the seller’s market is, if your asking price is set too high, then buyers will most likely stay away from your property, and they won’t even look at it. You may feel confident about the value of your property, but there is a certain line that you can’t cross as a seller. If your property is overpriced in the beginning, then it will cause the property to lose momentum. A property that loses momentum can hinder real estate sales success.
Asking prices that are set too high give buyers reason to hesitate, which is something you don’t want to see happen. Depending on your situation, if you are in urgent need to sell or you are just casually testing the market, the idea of conceding to a lower asking price for your property than the one you wanted may be unsettling. However, by setting the asking price low enough you encourage buyers to at least look at your property for a lengthy review. If there is a chance to raise the asking price later in negotiations, then keep that in consideration, but when starting out, make a reasonable, friendly asking price.
8. Consider Including a Home Warranty
Systems and appliances in a home whenever they need to be repaired or replaced can be covered by a home warranty. Those who don’t have the funds to make expensive repairs to systems and appliances use home warranties all the time. Home warranty companies offer customized home warranty coverage, allowing you to choose which systems and appliances you want to be covered.
Including a home warranty as part of the deal for buying your property can have a positive impact on your sale. Buyers typically find home warranties appealing, so it could help you to sell your property in a shorter period of time. If the homes in your area stay on the market some time longer than you would prefer, then including a home warranty as part of your property’s deal makes even more sense.
Oftentimes it is the home warranty that serves as the tipping point or bridge that helps both the buyer and seller come to agreeable terms for the sale of a home. Knowing that they have some form of protection in a home warranty is what sets buyers at ease. It doesn’t matter whether your home has newer or older appliances as long as you have a home warranty attached to them in the deal. It is often the case that home warranties save you a lot of money, and much like car insurance, there is the hope you never have to use home warranties but you will be relieved when you do.
9. Schedule a Prelisting Inspection
Although this is not a requirement, it is highly recommended for you as a first-time seller to have a prelisting home inspection before putting it on the market. This is done to avoid sudden surprises during the course of a transaction. A wide variety of unknown issues in the house may rise to the surface and sabotage a sale if you don’t discover them and address them.
The typical cost of a prelisting inspection ranges anywhere from $250 to $700, depending on what part of the country you live in and how small or large your home is. What this kind of inspection covers is a general checkup of major systems, mechanicals, windows, and doors and locks along with detection of water damage, mold and cracks. Radon testing, well-water testing, lead paint testing and internal mold testing can also be covered by a prelisting inspection if you so choose.
Some of the benefits that you will receive from having a prelisting inspection include (but are not limited to) better marketing leverage, valuable advice for improvements, and more negotiating power. As well as discovering the negatives about your property, inspectors can give you great details about the positives, like your old furnace is still sturdy enough, or you have a perfect sewer connection. These positives can give the marketing leverage you need when promoting your listing.
Whatever advice your inspector gives you regarding improvements, take it seriously because such improvements can make or break your listing. By updating the parts of your home that need updating, such as replacing your roof, upgrading your HVAC system or installing new energy-efficient windows, you can put yourself in a better position to sell. If you already know the issues your property has during the inspection, you can price accordingly, which will give you more negotiating power. For example, if you have already factored the need for new gutters around your home into your listing price, and that is made clear upon receiving the initial offer, buyers will be less likely to try to drive the price lower.
As is the case with buying a property for the first time, there is also a learning curve to go through if you are a first-time seller in real estate. You will need to carefully crunch the numbers first before you settle on an asking price, and once you do the selling process will straighten itself out. As a seller in your respective market, you need to make the transaction comfortable not only for yourself, but also for the buyer you are handing the property over to.
Selling property is much like creating works of art. It takes time and patience to paint the picture you want, and then behold the beauty of what you have accomplished. In other words, don’t be in too much of a rush to close on a real estate deal, and see the entire process through.
You are interested in buying a property and you can’t wait to get started with the process of searching for one, which can be both exciting and rewarding. However, it’s important to know that you are also making a major financial commitment and you will potentially have to do a lot of work. Investing in real estate has its benefits as it is a source of passive income. This means that it will never dry up nor mature. Instead, ongoing income is provided with no loss of assets.
1. Know Your Priorities
Before you start the process of buying a property, you need to have a firm understanding of your priorities. What kind of property are you looking for exactly? How long do you intend to use this property? Will you be living on this property?
What should be high on your list of priorities is the level of commitment. Especially if you are married and along with your spouse you buy your first home, you need to make sure you have backup plans and an exit plan in case everything goes south with the purchase. From the start, if your level of commitment to buying a certain house isn’t where it needs to be, then you need to stop before you buy and review your priorities.
2. Have a Plan
Along with having the right priorities, you need to have a plan in place for the property you are buying. Is this property your forever home? Is it just a starter home to build up equity? Your search for a home will have more structure if you can determine what this property’s role will be in your plan. It can help to look exclusively in areas where either resale or rental properties may be easier for you, or you may want to invest in an up-and-coming neighborhood. It is highly recommended to have a real estate agent help you create a plan.
3. Crunch the Numbers Correctly
Miscalculating costs, values and rental prices of properties is one of the most common mistakes you can make as a first time real estate investor. Accurately calculating cash flow and house flipping profits are not intuitive. If you only intend to flip a property or buy a rental property to renovate, first know the costs of repairs. Contractors can sometimes be very difficult to work with, and renovations rarely go according to their initial plans. More often than not, contractors promise too much and end up delivering too little, both in costs and in time.
For your first investment property, keep it to just minor cosmetic repairs. Next, budget a large cost overrun reserve to handle the issues that will inevitably arise. It’s also wise not to tell the contractor about this reserve because otherwise he might find a way to spend it.
There are many costs and expenses to account for if you plan on renovating your first property. In the beginning, you should budget 50% extra as a reserve for any renovation costs, and an additional 50% cushion for estimated carrying costs. There is the After-Repair Value (ARV) to consider, the After-Repair Rent if you keep the property as a rental, and the non-mortgage expenses you will have to factor in. These non-mortgage expenses can include property taxes, property insurance, maintenance, property management costs, and major repairs and capital expenditures, to name a few. Expect these same expenses to average around 50% of the rent.
4. Practice Patience
One critical thing to remember is that the first property you purchase is a financial investment. When it comes to real estate, there is no room for emotional investments. You may find yourself emotionally attached to the first property that catches your interest. On the surface, you may love everything about this property and think that you would love to retire in that location. However, emotional investments lead to bad decision-making and “intuitive investing” such as guessing the time of the market.
Searching for the right property will take much more than reviewing only one property. For instance, if you make offers on 12 properties, it’s probable that 4 of those sellers will negotiate with you, and possibly 2 of them will reach an agreement with you. Finally, one of them will back out of the deal, and the other one will successfully close with you. This is partially how real estate works. Ultimately, you have to practice patience to see deals through, whether they succeed or fail.
5. Freely Negotiate
Negotiating is at the heart of the process of buying properties. Sellers expect you to do it, because otherwise they will second-guess the purchase price and wonder if they should have drove up the price. Knowing how to negotiate real estate begins with research of the seller. Gather as much information on sellers as you can, such as their sense of urgency in selling, why they are selling, and when they want to move if the property is occupied by an owner. A real estate agent can help you learn more about a listing agent. Be thankful to know that listing agents often get talkative.
When negotiating, make the lowest offer you think the seller will take seriously enough to make a counteroffer. If the seller wants to close very urgently, don’t be surprised if the selling price stays low. Build a seller concession into the negotiation so that you can reduce your cash due at settlement. The main thing to do is set a ceiling price before making an opening offer. Put it in writing, and tell someone that ceiling price to lock it in place. After negotiating, if the seller won’t accept a number under that ceiling, then simply prepare to walk away.
Some sellers will call you back a few days later and say they can reconsider your offer, whereas other sellers will bluster and posture. By staying emotionally detached, you can freely walk away from deals you don’t like, which allows you to freely buy better deals. This is why it helps to freely negotiate.
6. Review Turnkey Properties
Contractors, permits, and refinancing for a long-term mortgage can be too stressful for some first-time investors. If you can’t oversee a renovation project right away, then you should consider buying a turnkey property instead. Properties that are already rented to legitimate tenants or properties that are in rent-ready condition can be bought on the market.
You can easily buy turnkey properties anywhere in the country by using various real estate platforms. One such platform is Roofstock, which helps you with large-scale investing and allows you to track and optimize key figures via a cloud network. Each listed property on Roofstock also has an abundance of data that you can use to make an informed decision about whether to buy or not. This data ranges from local market data to both historical and forecasted home value trends. You also get two guarantees from Roofstock: you are first allowed to return the property at no cost within a 30-day period, and you are also allowed to rent the property to a tenant within 45 days of your purchase.
7. Look at Mortgage Options
If you are in the favorable position of being able to pay cash for a house straight up, then you will be just fine. However, if you are like most people who don’t readily have cash available, then you might want to look into the various forms of a mortgage loan.
Calculating your debt-to-income ratio isn’t as easy as it sounds since it factors in specific incomes and debts or expenses. The debt-to-income ratio (DTI) consists of total debt payments divided by your gross income before tax either per month or annually, which is expressed as a percentage. You use the DTI to indicate your debt level. This is key because you have to factor in how much you will have for a down payment.
Look for the best interest rates and features possible in a property. If you can’t make an adequate down payment or have bad credit, spend more time improving your finances before you consider buying a home.
8. Learn the Legal Formalities
Before you buy a property, it is always essential to make sure that it is compatible with all legal documents. The best course of action to take is contacting real estate agents regarding how to obtain legal information. Real estate signage or prints in front of a property serve as a good clue of how legally safe that property is. Analyze the level of professionalism and find information online about these materials. The real estate company associated with the selling process must be reputable or else you will not have an enjoyable purchase.
The legal aspects of real estate include promissory notes, guaranties, mortgage defaults, and the Uniform Commercial Code. Promissory notes live up to their name, documents that declare a promise made by one person to pay a debt that is owed to another person. The writer of this note states their promise to make a payment of a specific amount to the payee.
Parties that sign an agreement is known as a guaranty. These parties accept responsibility of debt payments. With this agreement, lenders are reassured that they will be repaid for the money that was loaned to any borrowers. A mortgage that hasn’t been paid for in a specific time frame is known as a mortgage default. Once a mortgage passes this time frame, it is considered to be in default, which can instantly and negatively impact a person’s credit report and score. Mortgage defaults can also result in losing your property due to an order of foreclosure and sale of that foreclosed property
Lastly, there is the Uniform Commercial Code, which consists of a set of codes that maintain control over any commercial transactions that are done. All 50 states have adopted this code and it has been approved by the American Law Institute and the Uniform Law Commissioners. The Uniform Commercial Code has helped alleviate issues related with commercial transactions, enabling smoother transactions overall.
9. Beware of Appreciation
The belief that real estate always goes up in value is only a myth. Homes typically do increase in value, but if you are banking on this typical occurrence, then you are blindly speculating, and not properly investing. If you enter real estate with the intent of flipping houses, use today’s housing market prices when flipping. Long-term rental investors are encouraged to buy properties based on today’s cash flow.
Home values can and do collapse, but rents remain very resilient in real estate. The best example of this is the Great Recession period from 2007 to 2009 when home values dropped by 27.42%, but rents continuously rose, according to the U.S. Census Bureau.
Facts like these are part of the reason why rental investing works. If you know how to forecast cash flow, you can accurately calculate the returns on any investment property. You can also opt to invest in only high-yield properties, if you prefer. Investing in rental properties based on current rental income allows you to welcome any appreciation that occurs.
Judging from the list above, it may feel like it will take so much time and effort to get the first property purchase right. To a small degree, that is the reality of the real estate business. Investing in real estate is not for everybody. In the cases of many people, there is not enough patience and discipline to see the right deal close.
If you have legitimate interest in buying a property, as well as the patience and discipline, then you will see predictable returns, favorable tax benefits, and high-yield passive income. There are plenty of options for real estate investing, including living in a property via house hacking. This can be done with the help of roommates (think foreign exchange students, for example), renting out rooms on platforms like Airbnb, or renting out an accessory dwelling unit.
If you are generally good with numbers and can cooperate with professional real estate agents, then buying your first property will not be the headache some critics make it out to be.