Understanding The Financial Side Of Real Estate
Running a business means staying on top of every aspect of it. Not only do you need to be the lead negotiator and head marketer but you are also in charge of the finances. Whether you like it or not the finances can make or break your business. It is not enough to simply close deals. You need to constantly take actions that improve your bottom line. This is often the biggest adjustment for new investors. The idea of understanding numbers and finances can be very overwhelming. However, the better you master your finances the stronger your business will be. Here are four ways to help you understand and improve the financial side of the real estate business.
- Separate Business And Personal Finances. It is important that you separate your business and personal finances. It is hard enough having to focus on one of them. When you mix them up it can be difficult, if not impossible. Whatever capital you start your business with should be placed in a dedicated account. Any expenses you make and income you receive should be done from this account. Even if you think you can figure things out at the end of the month it will prove to be time consuming and harder than you thought. It is also a good idea to set up your business entity as you establish your accounts. Most investors opt for the flexibility and security that an LLC offers but talk with your accountant before making a decision. Speaking of an accountant you should find one you can work with before closing your first deal. Many investors wait until they have an established business to search for an accountant. What they often find is that by having an accountant in place first they would have saved time and money. In the beginning of any business it is best to keep things as simple as possible. Always separate your business and personal finances.
- Understand Expenses/Bottom Line. Like most businesses real estate investing is a bottom line business. You may be busy, have a steady pipeline and closed a few deals but are you profitable? One of the biggest surprises for new investors is in the amount of expenses associated with every deal. You may have heard about the importance of keeping numbers tight but until you are actually involved in a deal it doesn’t sink in. As obvious as it may seem you need to stay on top of every dollar that comes in and out of your business. You can’t simply keep some recipients in an envelope in your car and think you have a full grasp of what’s going on. You need to pour through your monthly statements and constantly look for ways to keep costs down. On the flip side you also need to know which areas provide the best return on your money. Even if you think you have a good idea of your bottom line it usually takes a handful of deals before you fully understand it. Closing deals is obviously great but it doesn’t make a difference if your expenses are too high. The real estate investing business is all about your bottom line.
- Protect Your Credit Score. Finances and credit scores typically go hand in hand. Even if you don’t currently use credit to fund deals you never know when you will need to. In addition to lender financing good credit can be used to help pay for a big ticket appliance or something significant in a rehab. There is more to good credit scores than simply paying everything on time. Timely payments are always important but not enough to get the score you desire. You need to keep low balances on your accounts and have a good mix of installment and revolving debts. Every business should review their credit on a monthly basis. All it takes is one old account or one case of fraud to send your credit score for a loop. It is always much easier dealing with these things as soon as they happen than trying to fix them months down the road. With good credit you always have the ability to utilize short term financing to help get you through a rough patch in your business. Whether you know it know or not your credit score is one of the most important aspects of financing in your business.
- Understand Tax Ramifications. The check you collect at a closing is not the money you make on a deal. Forgetting about Uncle Sam is an easy way to find yourself with a giant tax bill at the end of the year. How businesses and sole proprietors pay their taxes is different than at W2 employee. Depending on how you file you may have to pay taxes quarterly. On every deal you close you need to allocate funds to prepare for this. Obviously your accountant will help but this needs to be factored into your thought process on every deal. There are also tax ramifications when you sell a property. If the money is not reinvested within a year you will have to pay a capital gains tax. There are things you can do to avoid this tax but you need to have an understanding of your taxes before your business gets too far. Like any other business taxes make up a large amount of your expenses.
You don’t need to be a financial wizard to understand your business finances. In many ways they are the same as your household finances but on a bigger scale. The better you understand the finances the better you will be at improving your bottom line.