Risk Mitigation in Real Estate
What is risk mitigation?
The concept of risk mitigation is taught to us from a very early age — we’re told by our parents, teachers and community members how to avoid unnecessary risk in the hopes that it will keep us safe. Risk mitigation is a way of life and avoiding risk should be a part of the process when investing in real estate. There is a certain amount of risk you take when you decide to purchase and manage an investment property. While there's no crystal ball to help us predict what is going to happen in the future, there are a few key things that you can do to protect yourself, your finances and your investment properties.
The Importance of Due Diligence
Before you purchase a property, you want to use the due diligence period to mitigate risk. This is the time to ask all the questions you have, analyze the numbers, and examine the property thoroughly. You should never want a deal so bad that you overlook things like extensive deferred maintenance, undisclosed tenant challenges or the actual property financials that make the property cash flow or not cash flow.
When analyzing a property you should be accounting for vacancy, maintenance, turnovers and capital improvements. All of these items will play a roll somewhere in your ownership so plan ahead to make sure you are buying the right deal. Understanding your finances and buying within your limit is crucial — you will need to spend money after the property is settled.
Insurance is your friend
Get in touch with an insurance advisor — they will advise you on property building coverage as well as liability coverage. Insurance is not just about protecting your property, it’s also about protecting your assets and your personal finances. Be sure to ask your advisor about:
Vacancy coverage — This is used for properties that will be vacant for 30 days or more. It’s important to inform your insurance company of a long-term vacancy because if you do not, and something happens to your property, they will likely deny your claim.
Sewer and drain coverage — Sewer backups and water problems are not something you ever see coming, but it’s likely that within your ownership, you will run into these issues at some point. Whether it’s caused by a tenant or the aging pipes, having coverage for this is imperative to mitigating your risk.
Loss of rent — This coverage supplements rents in instances where you are unable to collect rent due to a covered peril like a fire.
a good property management team is key
For many investors who want to have a truly passive income source, finding a diligent property manager can mitigate a lot of risk after you become a new owner. Why? A few reasons —
Regular property checks help to keep buildings safe and limit the exposure to trip and fall claims or other safety concerns.
Achieving market rates for rent allows you to maximize cash flow and afford improvements when they are needed.
Having a leasing team to quickly fill a vacancy is key to limiting your vacancy exposure.
Maintaining the property adequately and quickly addressing tenants’ concerns will keep everyone happy and paying rent. It also goes a long way in getting the tenant to renew their lease.
Keeping your buildings in compliance will help you avoid fines or penalties from the municipality.
HAVE an iron-clad lease
Doing the research during your DD period, having adequate insurance coverages, and having a hard-working PM team are excellent ways to mitigate risk, but do not forget about leasing time. The lease between you and your tenant is a legally-binding contract that can outline some important points to help you shield yourself, your finances and your property from unnecessary risk.
Does your lease warn tenants about the environmental concerns that they may be exposed to when occupying your property? One of the ways to mitigate risk is to inform people of the dangers of lead based paint. We not only have it in our leases, but we also provide them with full details about how to protect themselves and their children in the homes that potentially have lead based paint.
There are many environmental concerns that could be present in your building. Make sure you disclose the potential hazard and take an active approach to informing your tenants of any dangers.
Another way to mitigate risk in your lease is to put in a Notice to Quit as a way to ensure you can get tenants who are in breach of the lease out of the property in a timely manner.
Diversity is key
You’ve heard it before, but I’ll say it again — diversify your portfolio! Do not invest in only one area. Let’s just say you put all your eggs in one city’s basket and they decide to change regulations that negatively affect you as an investor, everything you own is now affected. Same goes for the type of investing you partake in — don’t just own real estate; look into investing in the stock market and other sources that can generate wealth. Hedge funds are a great investment option that mitigate risk because you do not actually own the property, you own shares of the funds’ acquisitions and you share in the profits of those investments without having the risk of owning the asset yourself.
Finally, think about risk outside of passive income. A life insurance policy does not necessarily generate income for you, but it does help ease your mind to know your family will be taken care of should something happen to you — a worthwhile investment, if you ask me.
To discuss more ways to mitigate risk, reach out to me at growingempires.com and schedule a private consultation today!
This information may not be used as a substitute for legal advice and you should consult your attorney for legal advice if you have any questions relating to this advisor guide.