No successful investor enters the market without forming an efficient business plan – and having an exit strategy in mind before purchasing any investment property is a key part of that plan.
What is an Exit strategy?
As the name suggests, a real estate exit strategy is a plan in which the investor intends to remove themselves from a real estate investment. Essentially, an exit strategy is a plan for how to exit or reduce one situation (or liability) for a better situation (or liability). Investors often fail to realize the importance of an exit strategy which in turn can lead to reduced profits and increased risks.
How to Choose the Right Exit Strategy
There are many elements to consider when planning an exit strategy, all of which can greatly affect the potential profitability of a deal. The following factors are critical for every investor to consider when planning an exit strategy:
- Short and long-term goals
- Experience level
- Time to close
- Purchase price
- Property value
- Condition of property
- Supply and demand
- Location of the property
Understanding each of these factors will help determine which exit strategy an investor should choose, and will ultimately determine how successful their real estate investing career will be.
Top 4 Exit Strategies
There are countless ways to make money in real estate, but below are four main exit strategies most commonly used by investors of real estate to realize capital appreciation and cash flow opportunities:
- Build and Sell
Build and Sell is the most traditional exit strategy for investors looking to acquire land, either a raw or developed lot, contract a building on it, and then sell the completed units. The investor’s goal is to build units on the property which can be sold individually as single-family homes or townhomes, therein maximizing their profits at the time of sale
- Build and Hold
Buy and Hold is a popular exit strategy for investors looking to hold onto a property. While they are interested in raising the net operating income (NOI) from the property as high as possible, they are more interested in generating a steady monthly income over a long period. Investors interested in using this strategy are looking for safe, low-risk properties that will offer a stable NOI. They expect to make a profit over a long timeframe through appreciation and property management.
Flipping, also commonly known as rehabbing, allows for high profit margins as it allows an investor to purchase property below market value, quickly renovate and re-tenant the property. To be successful, they will need to make sure the property is in a market with high demand, have a reliable team of contractors available that can stay at or below the target budget for renovations, and then sell the property quickly.Some investors prefer to find investments that have “easy fixes” such as properties that are undermanaged. Their goal is to increase the net operating income by increasing tenant occupancy, raising the rent, and then selling the property for a lower cap rate , making a profit in the process.
Wholesaling is a great way to get started in real estate investing. Essentially, the real estate investor acts as the middleman between a seller and buyer. Wholesalers never need to have ownership of the property – just the rights to purchase it. They can either sell or “assign” their purchase contract to the buyer, or they can close on the property and immediately resell it to another investor in the form of a “double close.’
A couple of Insider Tips…
- Have three exit strategies in mind. The first strategy should be a “best case scenario” designed to maximize profits, with a back up plan that can be implemented quickly to compensate for expense overruns or other unforeseeable issues. It’s always important to have a “last ditch” plan in mind that is designed to allow an investor to quickly exit a deal with minimal to no loss in profit.
- If a “take-out lender” is involved in the transaction, make sure there is a mutual understanding of their expectations prior to finalizing the deal. Take-out lenders can collect mortgage payments, interest, a portion of the rental profits and at the time of sale, they can receive a percentage of the difference between the sales price and cost of construction.
What’s the best exit strategy? Well, it all depends on your goals. Take time to research all your options so you can ensure you make the right choice for you and your market.