Don’t Miss Out on These 3 Types of Real Estate Appreciation
Many real estate investors benefit from one or two forms of appreciation. By taking advantage of all three types of appreciation, investors increase their upside potential.
One of the keys to successful investing is to take full advantage of appreciation for each of your properties. This is the increase in the value of an asset over time. When it comes to real estate, there are three types of appreciation: market, instant, and forced appreciation. To maximize your potential returns, it’s important to investigate ways to take advantage of all three forms. Otherwise you’re potentially leaving money on the table.
Learn how to spot different types of appreciation. Then, use your real estate expertise to find creative solutions. This article is here to get you started.
What is market appreciation?
Market appreciation is tied to how the housing market performs. Although you might make decisions on where and what to purchase based on your prediction of where market appreciation is likely to go, it’s largely out of your control. Generally this is due to the law of supply and demand. When demand outpaces supply, prices go up. Inflation also plays a part in market appreciation.
How does market appreciation impact you as an investor?
Market appreciation is not dependent on updates or changes you make to the property. It’s tied to macro and micro factors in the economy as a whole rather than what any one individual can control. With that said, it’s a very powerful tool, especially in bull markets.
Market appreciation can apply to both rental prices and property sale prices. For instance, if you rent a property for $1,500 a month you may eventually be able to raise rents. This is tied to demand for your type of rental and the market for similar rentals nearby. It’s important to note that rent prices typically do not go up simultaneously with home prices.
Likewise, if you purchase a house for $500,000 and a year later market appreciation has gone up 20 percent, that property is now worth $600,000. Not every year will appreciate like 2021, but even 4 percent appreciation compounded adds up over time.
What should an investor know about market appreciation?
The U.S. housing market appreciation in 2021 was a bit of a unicorn. Nationwide home prices, according to CoreLogic’s estimates, increased by a jaw-dropping 18.5 percent or so over the past calendar year.
In comparison, over the past 25 years, real estate has, on average, appreciated at 4.1percent annually. As an investor you have less control over market appreciation over other kinds of appreciation, since it is market dependent and is also tied to the local market in terms of both supply and demand.
How can an investor take advantage of this?
Since there’s no such thing as national real estate, it’s important to note that market appreciation varies by area. Some metro areas have stronger growth expectations than others. Even different parts of the same city can vary depending on the circumstances. It’s important to research your markets as you look for areas with high market appreciation.
As 2022 progresses, market appreciation will likely become more regionalized. This may mean certain cities or states perform better than others. Real estate investors who identify these emerging markets and invest in them will reap the rewards of higher market appreciation. In practical terms, this could mean locating desirable neighborhoods where demand will remain high and continue appreciating and buying there.
What is instant appreciation?
Instant appreciation happens when an investor buys an undervalued deal. In essence you’re paying less than the property could fetch in ideal circumstances. For example, you might buy a property for $500,000, when it’s worth $550,000. You might get this deal because there are no other interested parties at that moment. It could also be because you are willing to move quickly and the seller values speed over price.
To achieve this, flippers have historically kept the 70 percent rule at top of mind. It states that a flipper should not pay more than 70 percent of the After Repair Value (ARV) of a property. The ARV is what the house can be sold for after completing all work and renovations. It’s best to start with the end in mind and work backwards from there to determine if there are opportunities for instant appreciation.
What should investors know about instant appreciation?
To take advantage of instant appreciation, you get a good deal when you buy. That was easier to do a few years ago. Today the rules have changed, but those who adapt will thrive.
Flippers are spending more money on properties now because they see greater upside in certain markets. For example, in Sacramento, the median investor purchase price went from $344,000 in Q4 2020 to $496,000 in Q4 2021. That’s an increase of over 44 percent. Flippers are willing to pay more in areas where there are trends towards growth and demand. In these areas, potential buyers are looking for turnkey solutions with more space.
When prices are higher, the margin gets tight and there can be more risk. It’s important to choose your property carefully and spot value ahead of time. In doing so, you mitigate some of the risk that purchasing at a higher price point comes with. Based on flipper behavior, there is reward within this calculated risk.
How can an investor take advantage of instant appreciation?
To benefit from instant appreciation, you need to buy undervalued properties. That doesn’t mean you’re ripping people off, it just means you need to know where to spot value.
In the current real estate climate, that could be as simple as buying a listing off-market and then re-listing the same deal on the MLS for more money. It could also mean targeting your property buying in areas with strong employment numbers. Or could mean identifying a great neighborhood just as it’s on the rise but right before the market catches up.
What is forced appreciation?
Forced appreciation is when investors add value through rehab. The good news about forced appreciation is that it’s in your control!
Depending on what the property you buy to flip needs, you might rehab the property’s kitchen and bathrooms for example. It could mean changing out carpeting for wood floors or vinyl. Anything you do to a property that adds value falls into this category, and it includes upgrades that range from cosmetic, such as paint, to major renovations, such as converting a property to a duplex or adding an extra bedroom.
What should investors be aware of?
Taking the most advantage of forced appreciation starts with your purchase price, of course (see instant appreciation). If you pay too much up front, you’ll have a hard time recouping your investment no matter how smart your updates are.
From there, you need to plan improvements that are in keeping with what people living in and moving into the neighborhood are looking for. Know what that neighborhood calls for and look carefully at comps. There’s such a thing as over rehabbing just as there is under rehabbing.
You want to match what the area is doing. So an upscale neighborhood needs upscale finishes, whereas a middle class neighborhood with upscale finishes might be out of place. Remodeling magazine’s Cost Versus Value Report is a helpful tool when evaluating what percentage of the money you put into a revocation will be reflected in the sale price. The report breaks down by region and includes breakouts by types of renovation, such as midrange versus upscale.
How can an investor take advantage of forced appreciation?
Buying a fixer-upper gives you room in your budget to improve the property and still make a profit when you flip it. It doesn’t always mean you’ll be doing a gut renovation.
Sometimes you might simply landscape the yard, paint the interior and exterior, and make minor repairs, such as adding more modern lighting and switching out plumbing fixtures. The advantage of those kinds of repairs is that they’re often quick and allow you to turn the house around quickly. That said, doing major renovations, such as adding a bedroom or completely modernizing a kitchen could pay off big time.
Each house offers an opportunity to refine your strategy based on the circumstances. Having multiple exit plans is crucial when analyzing deals. By keeping an open mind, you may find that a certain strategy has the highest ROI for that particular property.
It starts with deals
No matter how you’re planning on taking advantage of appreciation, it all starts with your pipeline of available properties. When you use Sundae’s investor marketplace, you get access to properties ranging from up-and-coming neighborhoods to areas with strong employment opportunities.
Investors who think outside the box can also generate instant appreciation by spotting undervalued properties. Additionally, you can leverage creative ways to force appreciation when you source properties on Sundae. Whether you choose to clean and list, update, or do a full remodel on your new investment property is up to you. Use Sundae to find the deals that make sense for your business.