The Principles Behind The Threshold Theory
Posted on March 9, 2007
In my real estate books and audio CDs, I talk about the Threshold Theory; the concept that the more thresholds you cross, and the more properties you look at and make offers on, the better your next purchase will be. If you take the time to look at 100 properties before making your next purchase, I can almost guarantee it will be a good buy. On the other hand, if you only inspect 10-20 properties, your chances of getting a good deal are substantially reduced. At this point, you’re probably thinking, “Wow, it would take a lot of time and energy to look at 100 properties. Do I really want to invest that much time just to buy an investment property?”
Let me give you an example I frequently use when I present this idea to live audiences. If you’re like most working people, you work 40 hours a week, 50 weeks a year for 40 years and end up with little more to show for it than a monthly Social Security check. If you spent four hours of your spare time each week inspecting and making offers on potential investment properties, and it took you an entire year to buy your first property, chances are good that in 15 years that one property will provide you with more income each month than Social Security that you work your entire life to get. Imagine if you did that each year for 15 years.
How many offers does it take before you can buy a property? Good question, but it doesn’t have a concrete answer. Buying properties to hold as long-term investments is a numbers game. It’s possible that the first offer you make may result in a great deal, but don’t count on it. I once made 50 consecutive offers that were all rejected before the 51st one resulted in a purchase. Then, six of the next ten were accepted. Had I gotten discouraged after 20, 30 or 40 rejected offers and given up because I had convinced myself that I couldn’t buy properties the way I needed to buy them, I would have missed a lot of great deals.
People tell me all the time that they can’t find properties that will produce a positive cash flow. They ask if they should wait for prices to come down before trying to make offers. I tell them to forget about asking prices and make offers that will work for them. I’ve bought several properties for cash at 50-70 percent of the asking price. I’ve also paid more than the asking price when the sellers were willing to finance the purchases at low interest rates. I’ve even asked for and received financing from sellers at zero percent interest.
By far the most effective way for new investors to find deals is to inspect properties and make offers. The Threshold Theory is more than just a theory. The more thresholds you cross and the more offers you make, the more you learn. In the beginning you may feel that you’re just stumbling along, but it’s better to stumble your way to success than to gracefully waltz through life with little accomplishment.
The longer you’re at it, the better you’ll get. Your ability to size up situations, to gather information, to find and meet the seller’s needs and to structure offers that will work for both of you will improve with each offer you make. Building wealth and achieving financial independence is a long term process and you have to stick with it. Approach it as a game that isn’t over until you win.
Don’t beat yourself up over rejected offers. There will be ones you can look back upon and kick yourself for not going ahead and paying a little more in order to have closed the deals. Many times I’ve come within as little as $1,000 of making a purchase and passed because it didn’t meet my standard of having to have a positive cash flow from the beginning. It would be easy to look back on these deals today and become depressed because many of them would be very profitable now. The question is would I have been able to cover the negative cash flow until they started to pay their own way? Instead, I take comfort in the fact that I’ve never lost money on a property I didn’t buy.
Here’s a tip! If you want to become a successful real estate investor, set your own criterion for buying. Some investors set a minimum monthly amount of excess cash flow a property must produce after all expenses including the mortgage payments. Others are comfortable subsidizing a small amount each month in the beginning, especially when the subsidy is no more than the principal portion of the mortgage payment. Wherever your comfort level lies set your standards and then don’t deviate from them.
The better you understand the basic principles behind the Threshold Theory, the more lucrative your real estate investing career will become. If you approach investing with the belief that the more properties you inspect and the more offers you make, the better deals you will get, it will help you view each rejected offer as a step closer to landing that just right deal and it will make it easier to stay committed. By the same token, the more you listen to the naysayer the easier it is to become one.
Set your goals, develop your personal criteria, inspect properties, make offers and watch your success rate improve. Remember that wealth and financial independence are just a commitment away.
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