My husband and I bought our first property at the ages of 23 and 25, on October 25, 2011 after our 3rd move in 18 months. I had just graduated from grad school and was unemployed and without a job.
We bought a home based on one income and used my husband’s VA loan. Fast forward four years to today; we own seven houses, with two more expected to close by Christmas. We have a net worth of over $400,000 and make almost $2,000/month on our REI rentals.
All of this was courtesy of investing in rental property and thinking outside of the box using the little resources we had. Of those four years, I only worked in a professional capacity for less three of those years, due to relocation for my husband’s job (military pilot).
I share this as inspiration; not as a brag. You can do anything you set your mind to in real estate. In real estate, no beginning is too small, no investment is too large.
Real estate is an awesome investment. It is adaptable to your goals, and your pool of resources. The benefits of owning rental properties are as vast as your goals and desires. Don’t let analysis paralysis or the fear of failure stop you from getting started!
You will make tons of mistakes. Trust me — I did!! Still, I am so thankful for our real estate investments. Most importantly, I’m glad I started.
Real estate comes in many forms — multi-family, shopping centers, storage units, industrial office buildings, residential housing — all of which come with different sizes and price tags.
There are lots of financing and management strategies. This unique melting pot of options means that anyone can gets started with a little bit of wisdom and a lot of out of the box thinking no matter their financial planning.
For this guide we are going to focus on residential single family homes and how to buy rental property in this category.
While we’re focusing on single family homes, with some minor adjustments, this plan could work for many other types of rental property.
The key is to have a model that works, and to use that model to guide your plan. A great plan allows you to get to your goal with minimal mistakes.
Here are 10 things to evaluate before you buy your first income property:
What type of property do you want to get started?While there are tons of property types; we are going to focus on single family. Even within this niche you can get started with a personal property meaning you live in it first and rent it out when you move or you can buy a rental property. This means that it is a rental property from day one.
Do you want to be a local investor or are you willing to buy long distance in the best real estate markets?Being a local investor allows you to be able to check on your properties easily if there is ever an emergency. It also makes it easier to self-manage or supervise a property manager.
Long distance allows you to invest where the market make the most sense for cashflow; not just your local market (i.e. Kentucky versus New York City). You can live and work in California and invest in the Midwest where your money goes a lot further with higher returns.
Do you want cash flow or cash flow and appreciation?Some markets such as California, DC, or New York City, see large amounts of appreciation that a landlord can anticipate. Other areas such as small town Texas, Wisconsin or upstate New York are cheaper and return large cash returns but the house will never go up in value. When you sell the house it will be worth the same amount you paid for it.
Do you want to handle the 3 a.m. flooded toilet or do you want to hire someone to handle all of it for you?As a self-managing landlord who has 3 houses across the country from her location, I am proof it is possible to self manage from afar.
While it has had a lot of headaches and moments, the savings of one month’s rent, 10% monthly fee along with no middle manager ie rental property management has made it worth it.
On the other hand, I am doing the follow up before and after a big storm. I do try to fly out to do the changeover to new tenants.
If you do not want to do the day to day management, you would need to hire a property manager. In this case your key to success is to find a trusted team member.
You need to be able to trust their judgment on choice of contractors and trust how they handle tenant matters. They are going to be your day to day person on the front who represents not only you but also your money.
Do you want to invest in areas where you can walk around at night or are you okay with a rougher crowd?Are you looking for young couples without kids or young families? Is there are large quantity of these types of applicants all the time?
The key when buying rental property is to make sure your demographics all match up. You want your proposed rent to match up to your demographic along with your area.
For example, an awful school district is is not going to appeal to the “young family with kids” group. Just like a great school neighborhood is not going to appeal to 4 single dudes who are looking for a party crash pad. So it is important that your house, demographics, and price point all match up.
Do you want to pay cash or finance?Under today’s financing you can put 20% down on rentals when you own less than 4 and 25% down when you own more than 4.
While paying cash is great because you are debt free; if you finance the rentals you are either able to buy a bigger property or more of them as your financing dollar goes further. You are also able to take advantage of the low interest rates of today.
Leverage can be an asset or a liability. Leveraging your property means that you can buy more property with less capital, it can also mean you have risk.
For the purpose of illustrating lets pretend you have $100,000 to invest in Real Estate. For ease of numbers lets assume you have no other variable except the ones listed all the houses are all exactly the same on condition, location, etc.
The first house you purchased with cash so it took your entire investment. Therefore you were only able to buy one house.
House 1 – Purchase With Cash
Purchase Price – 100k
Rent – $1000
Escrow (Taxes (1%) and Insurance (.5%)) – $1500 a year ($125 a month)
Monthly Cash Flow – $875
House 2 – Investment 20% Down ( These numbers were from mlcalc.com)
Purchase Price – 100,000
Downpayment – $20,000
Rent – $100
Escrow (Taxes (1%) and Insurance (.5%)) – $1500 a year ($125 a month)
Interest Rate – 4.5%
Mortgage (Includes Escrow) – $506
Principle – $131
Cash Flow – $506. 69
With leverage you are now able to buy five houses for the same 100k which would provide you with $2,533.45 in cash flow and $655 towards your principle pay down. Your principle pay down would increase over time to eventually the loans being paid off at year 30.
As always with rewards there is a lot of risk. More houses means more tenants, more expenses, more change for vacancy, etc.
Here is a great article from Biggerpockets talking extensively about leveraging in depth.
Where and what type of house do you want to invest in?The key to a great successful rental is one that rents quickly in a great area and attracts tenants that pay their rent on time. Over the years we have found that there are a few characteristics that help us narrow down these types of properties:
Great schools: Schools have been the key. We tend to buy in the second best elementary school district. High Schools are too large of an area and people tend to have younger children. Middle school at 3 years is too short of a time. Elementary schools, for us, are golden.
Elementary schools are from Kindergarten to fifth or sixth grade. That’s at least 6 years in one location. So we buy in an awesome elementary school even if the other higher up schools aren’t as great.
A lot of people will have moved on by the time the child is out of school, yet they like not having to move by the time the kid needs to enter school. Here are four great places to look for school ratings:
• Great Schools
• School Digger
• K–12 Niche
• Local Newspapers as they list the local scores.
Great neighborhood: I typically look for the worst house in the best neighborhood. I have a lot of people who are perfectly fine with my starter house because location is what is important to them. They want that neighborhood.
Smaller/cheaper houses: Rental Values due to not increase in correlation to the size or price of house. In my experience smaller house will rent per square foot more than a larger house. Our smaller houses rent easier, and quicker than the larger ones. Therefore larger does not necessarily mean better returns. For our markets and us are smaller houses have the best returns.
Not overly updated: You want the house nice but you will not get extra rent because your house has a backsplash in the kitchen or upgraded cabinetry/carpeting, customized closets etc. You want clean and nice but save your money. Things will just break and you won’t get your money back.
Cul de sac/quiet street /fenced-in backyard: If you are appealing to those with animals or kids this is very important. All of our houses that are not in a HOA have fenced in backyards. It has been a great asset in attracting those tenants.
Is the house newer or older?What repairs do you estimate for the lifetime of ownership (AC, water heater)? Do your numbers make sense for your returns.
You must always verify your numbers. In my experience expenses are always greatly underestimated and income over estimated. Always triple check every number and base your decision on conservative not liberal numbers.
As with any other business or endeavor when it rains its pours. So you must always be prepared for the unexpected. On one of our rentals we had no repair expenses for almost 2 years. Than in a 3 months span we have spent $4,000 on a new bathroom and 3,500 on a new AC system.
So always be prepared especially when things are going great. It will make the tough times more tolerable and less stressful.
We buy newer homes or homes that we have already completely renovated in order to keep the renovation budget down. Still, no matter what the house we buy, we do a thorough inspection and have an idea of what it needs.
For example, even our newer homes after 7 years needs a new AC unit. The builder grade units are simply not meant for more than 7 years.
Would you buy an investment that costs you money each month?The key to a successful rental is one that cash flows from the day it enters service. In order to do so, one must buy a house where mortgage and HOA expenses are less than their rental income.
How long do you plan on keeping the home?You should always know your exit plan. Are you planning on keeping the house for 20 years until you are eligible for retirement? Do you want to just keep the home till the next boom, sell paid capital gains and depreciation and then buy in the bust? What is your plan and goal for your homes?
And keep in mind ...
1. Real estate is always a twisting journey.Nothing goes according to plan. Think about the 2008 recession. The key is to be flexible and to continue to look at opportunities around you.
2. You don’t lost money until you sell.
As long as you don’t sell you haven’t lost money if your rent is covering your mortgage.
This is a big advantage of income properties – home buyers who buy cashflow negative properties with leverage and rely on appreciation to generate returns (which is why a lot of investors consider this speculating) can be devastated if the market takes a downturn, but properties that generate a nice cash flow every month aren’t affected.
3. Business; not a charity.
This is a business. You MUST make money to succeed. Do not let anyone make you feel bad about being successful and making a profit. Toyota, Safeway, Target, and McDonald’s all make profit and so should you. Do not let your tenants or anyone else make you feel bad about being successful.
4. There will be ulcer-inducing moments.
Landlording will have its moments. A tenant will leave the house a mess at move out. They will try to break their lease. You will have to stand up for your house. No one care more about your house than you do! Just don’t jump ship during the low moments. Stick will it and wait it out, as it does get better. Ah, but there will be moments.
5. Have a fantastically explicit lease.
If it is not written down it does not count. The more explicit the lease the better protection and reference. I have a 15 page lease.
6. There will be tax advantages.
There are many tax advantages to owning rentals. From deducting all the expenses, claiming depreciation, capital gains, to being able to 1031 the rentals into a like kind exchange—there are many benefits (ie rental property deductions).
Owning rental property, or any kind of real estate, is unpredictable and can have huge volatile swings like any investment market. The key is to have a plan and stick with it.
Remember, you don’t lose money until you sell. As an investor with seven and counting homes, our key has been to be flexible and adaptable. While we have been more successful than I ever imaged, (seven houses by 27), I would have never imagined the path we have walked.
The key to success is to constantly evaluate and adapt while never forgetting your mission or purpose for being in this business.