As a rental property owner and someone with 10 years of experience as a real estate agent, I can attest that using these guidelines can make or break a good real estate investment.
Finding The Right Home
The right home will provide good cash flow, have minimal maintenance issues, have nominal repair and update costs, and be within a reasonable distance from where you live.
Good cash flow
The rental rate versus your carrying costs should provide some cash flow. For example, if you purchase a $250,000 home with 20% down, tax rate of 2.5% plus insurance, you’ll likely be paying a monthly mortgage (principal, interest, taxes, insurance) of over $1,600 per month. That means the rental rate would need to be well over $1,600 per month.
If you paid cash for this same home, the taxes and insurance would still apply, but your monthly cost would be reduced to $730 per month, so you’d have a cash flow of $870 per month.
The point of this exercise is to show you that it’s extremely important to know your numbers and markets before making an offer on a home. It’s also helpful to avoid neighborhoods with high homeowner’s association dues.
Do your homework on a home before you purchase it, and have a strategy of what kind of home you’d like to purchase. Older homes (and some new ones) have more ongoing maintenance issues, even if they’ve been remodeled.
Repair and Update Costs
Also keep in mind that a smaller/simple home will cost much less when you have to replace flooring, paint walls, replace the roof, etc. because there is less square footage to worry about, and you might not have to use expensive materials compared to other higher-end neighborhoods.
Sometimes a deal is too good to pass up, no matter the location, but as a general rule, it’s good to invest in a property that’s not too far from where you live so that you can check in on it regularly. But at the same time, don’t get something on your street because you don’t want to have to see/talk to the tenants too often. If things get too “friendly,” it becomes awkward if you have to evict them or fine them.
Acquiring The Property
If it’s a seller’s market, or if the home is “just listed,” multiple buyers might be competing for what few homes are available. You must be ready to make an offer at a moment’s notice.
If you’re financing your investment, have your pre-qualification letter on hand from a lender that you’ve already vetted.
If you intend to pay cash for the home, you should have your proof of funds at the ready as well. A proof of funds should be a formal bank statement with your name and a recent date on it.
Be ready to make a competitive offer if the home is new to the market.
Up Front Costs
It’s important to know ALL of these potential costs in order to make a fully informed decision. Two of the biggest factors are the price of the home, and whether you pay cash for the home or get a mortgage.
Potential Closing costs and other up front costs:
Cash for the loan deposit or the full purchase price
Prorated real estate taxes
Prorated homeowner’s association fees
Other Initial Expenses:
Immediate repairs or updates that might be needed once you take possession of the home
Marketing of your rental property and potential real estate agent commissions
Here are the usual items to consider when making cash flow and net yearly income estimates:
Estimated rental income
Marketing costs and real estate agent commissions
Mortgage payments with interest (if not paying cash)
Real estate taxes
Homeowner’s Association Dues (if applicable)
Property management fees (or automotive/gas expenses if you manage it yourself)
Accountant/Attorney (if applicable)
How often will the home be sitting empty? (utility costs, lack of rental income)
Keep in mind that interest rates and homeowner’s insurance are slightly higher for investment properties than they are for personal residences, but the key to a successful investment simply comes down to doing your homework. Stay organized, be ready to research a home quickly at a moment’s notice, and you’ll be a successful real estate investor.