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There’s an investment scam born every minute, and unfortunately, a fool to go with it. The public, as well as professionals, are constantly subjected to information that is intended to convince us to buy real estate investments and debt instruments (such as mortgage loans) offshore. Determining which ones are legitimate and which ones are scams is not always easy. The proliferation of the Internet has also helped scams breed faster. It’s got a nice website, so it’s got to be legitimate. The location, the price, the ease: it’s all so enticing. Two words: due diligence.
Whenever you are considering a new prospect, perform your due diligence. If you cannot get your questions answered to your satisfaction, it may be best to move on. Working with knowledgeable professionals you trust is helpful in weeding out the scams from the good deals. If you know locals who are familiar with the market and how things are done, talk to them. Gather as much information as you can.
But He Seemed So Nice
Some scams are obvious to detect; others are subtler. The subtle scams are those in which the seller is misrepresenting or over-representing a property. For instance, a property may have no cash flow, tenant problems, or a defect such as electrical or plumbing issues that are too expensive to repair. Disclosure requirements vary from country to country, and most countries don’t have sophisticated disclosure rules or laws, so it’s buyer beware.
The best way to see through the subtle scams is to do your own due diligence. To investigate a purported cash flow, get information like rental rates for the area and type of property, vacancy rates, upkeep costs, taxes and fees from independent third parties. The more you know about the local economy, the better.
An example of a subtle scam like this occurred several years ago on a Caribbean island that had been ravaged by a hurricane. Much of the housing had been destroyed, so a lot of new construction was taking place. One of the builders was constructing apartments that could be converted to condominiums. The prospect of having new construction with immediate cash flow as a rental and the potential of converting to a sellable condo can seem quite appealing.
The builder gave optimistic information regarding rental income, tax incentives, and occupancy rates. Because the island was a popular destination, the builder made highly optimistic and convincing claims regarding appreciation. However, on closer examination, it turned out that the builder had overbuilt and had a tremendous cash flow problem. Rather than take a loss, the builder inflated the numbers, hoping to sell some of the property to recover his money.
Many unwary people bought—and continue to buy—these properties. If those buyers had looked into it, they would have discovered that people were in fact not moving into the area, and apartments remained unoccupied for months. Rents were about 30 percent below what was touted, and appreciation was a long way off. By doing due diligence, it was easy to discover that other builders who had hoped to provide good opportunities to renters and investors had fallen on hard times. Some builders would not recover their investment for many years. What started out as a problem for the builder, turned into puffery and subtle scamming of the public and even other investors.
It Sounded Like a Good Deal
Not so subtle scams involve the perpetrator knowing that the foreign investor may be unprepared to learn and comprehend local real estate matters. Language differences often work to the advantage of the scam artist. Many foreign investors make the mistake of thinking that purchasing property works the same way as in their home country.
One of the most common scams is to sell you a property that the “seller” doesn’t own. It’s always important to do a title search and make sure that the legitimate owner is selling the property. Of course, such examples are not limited to other countries; they also occur daily in the United States.
Overbuying is another popular scam. This involves purchasing income property for more than it is worth. The seller convinces you that the beachfront property in an equatorial country is such a good deal that they will guarantee the advertised income on it for the first year after your purchase. The $250,000 sales price sounds like a bargain to you, compared to what you would pay in the U.S., and the persuasive sales agent seems to have all the information.
As an added bonus, the agent will provide property management services at a modest ten percent monthly fee, which includes everything from collecting rents, making repairs, and keeping it occupied. In fact, the property is only worth $125,000. For the next year, you’ll receive the money, which comes from the $125,000 that you overpaid, and remit ten percent back to the agent for the privilege. After a year, the tenant—if there ever was one—supposedly moves or starts paying you less. After all, the guarantee is only for a year. If you try to sell the property back to the sales agent or a third party, you may find out what the true value of the property is. Again, due diligence would have reduced the possibility of this happening to you.
Brush up on due diligence best practices before you decide to invest offshore with our report, What Due Diligence Is, Why It Matters, and How To Do It Well.
Article originally published May 31, 2011.