Allocating Profits After A Successful Deal
By Paul Esajian on August 25, 2014
There are certain scenarios in which having choices is a good problem. As a real estate investor, it may be difficult to determine what to do with your profits. There is a natural temptation to treat yourself for all your hard work, but that is probably the worst thing you can do. A small reward is fine, but if you spend everything you just made you will end up right back at square one. What you do with your profits and how you spend your money will go a long way in defining the strength of your business for years to come.
The very first thing you should do is make sure your profits really are your bottom line. Just because you walk away from a closing with a check doesn’t mean all the money is yours. Between taxes and other miscellaneous costs and expenses that check can often get knocked down quite a bit. Before you know how much your net profit is you have, you need to review all of your expenses and consult your attorney on the tax ramifications. Uncle Sam will get their money whether you have spent all of the money received at closing or not.
Assuming you have your net profits calculated, you can begin to think about how you will allocate it. The most common options you will have are paying down debt, property improvements, building your business, savings and buying other properties. In order to figure out which option is best, you should do some self-examination of your business and your goals. If you have a rental portfolio you need ample assets in the event of a vacancy or an unforeseen emergency cost. In this case you should put some in a savings account dedicated to that specific property. If you are an active investor, you should continue to look for other properties to reinvest, but you need to gauge where your business is and how deals are coming in. Your long term goals and what you want out of your business will go a long way in determining where your money should go.
One of the most common arguments among investors and financial professionals is whether or pay down debt or to increase savings. While there is really no right or wrong answer it comes down to how you do your business. The best allocation would offer a mix of paying down some of your debt while still finding room to put something in savings. If your business is suffocating in debt you need to look at the interest rates and balances of every account and examine which are hurting you the most. Even if you are current with these accounts by increasing the balances on each card you are lowering your credit score which may come back to bite you down the road. By closing out or paying down high interest cards you can improve your financial position down the road. One deal may not be enough to completely rid you of all your debt but you have to start somewhere.
If you put the money in a savings account or another interest bearing vehicle you should know that you will certainly not grow rich off the interest. The main reason you would park your money in one of these accounts is the security that having cash readily available provides. There is a reason they say that cash is king and you never know when you will come across a deal that you can this asset.
If you are looking to grow your business the best way to do this is either by buying other assets or using the money to build your business. By buying other properties you can keep using your profits to make further profits and expanding your portfolio. If you opt to grow your business there are a multitude of ways in which you can do this. The first is by marketing and lead generation aimed at keeping your pipeline filled and deals coming in. Before you do this you should examine how you got the deal in the first place and if it makes sense to repeat this method. Throwing money blindly to generate leads will not guarantee results. You may be riding high after recently closing a deal but if you spend money foolishly on lead generation you could be essentially wasting it.
The final way you can spend your profits is by using it to enhance existing properties. If you have a rental portfolio the money spent should be used for long term items that retain their value. Roofs, furnaces and windows carry a big price tag but they will also last you many years. If your property is a long term hold this can help keep rents coming in for the foreseeable future. It will also lower the amount of reserves you need to carry for the property and lessen the chance that you will get hit with an unexpected big ticket expense.
Deciding what to do with profits is a good problem to have. How you decide to allocate those funds is a very important part of any investors business. Long before you close you should have a plan in place and the discipline to carry it out. If you spend the money foolishly you will end up having nothing to show for all your hard work.