How To Buy an Investment Property To Rent? (First Time Buyer`s 101)
Buy an Investment Property To Rent is not as difficult as it seems to most first time investors. There are various ins and outs, an investor has to consider while buying an investment property. But buying your first rental property, you can have the most profitable venture of your lifetime. Starting into Rental Property Business has the power by which an individual can build wealth and achieve his or her financial objectives.
If you are in the market to buy an investment property to rent for the first time. You need to learn to analyze which type of property will suit your investment goal. And whether the investment property you are considering to buy can give you profitable returns or not? Remember, only 2 out of 100 properties qualify for a good investment property.
Buying an Investment Property To Rent
To make it easier for a first-time buyer, I have prepared an exact 101 Guide to buy an investment property to rent. With this guide, we will take you from qualifying the best investment property to buying your first investment property with confidence. By the end of this article, you will be ready to go into the market, secure your first rental property, and start the rental business.
1. Defining the Objective of Investment
It is very important to clearly define your objective of the investment. You are about to buy an investment property. What is the actual goal you want to achieve with this rental property? You should be clear why you are buying an investment property?
- Do you need an extra income where Rental Business will be a side hustle for you?
- Will this investment property be a retirement savings account?
- Whether you want to start the Rental Business as your primary business and wish to build an empire of cash flowing investment properties?
Having a clear predefined objective, you can buy the right investment property that will help you achieve your goal.
2. Determining The Budget for Buying an Investment Property To Rent?
The entry barrier to buying an investment property is always a bit on a higher side. Though, one can start in the property investment business with as low as $10,000. But that is subject to various conditions and not everyone qualifies for the criteria. So it is important to first determine your budget and find out how much money you have to invest in rental properties?
An Investment Property like a condo starts from about $100,000 and can go up to millions of dollars depending upon the type of investment property you want to purchase. You can either use all cash or obtain a mortgage to purchase a rental property.
If you have all the cash sitting with you, you can save yourself a lot of money and hassle while securing a good deal. But if you don’t have enough money, you have to obtain some kind of financing to buy the investment property.
To Purchase a $200,000 investment property, you will need anywhere between $10,000 to $40,000. How much money you exactly need will depend on your financials and individual credit health. In general, if you have a FICO Credit Score above 580, you can acquire a $200,000 investment property by simply putting $10,000 down.
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3. What Type of Investment Property To Buy To Rent?
Certainly, it depends upon your budget on which investment property you want to buy. But with the budget, you should also look for what type of investment property you buy to rent. Not every property makes a good investment property. There are three types of properties that make the most sense to first time or beginner investors.
- Buy a Condo To Rent
- A Single Family Unit To Rent
- Multi-Family Property To Rent
The above three types of properties provide the most bang for your buck. Generally, if you are a first-time investor, you look for an investment property that is affordable and can provide good returns on your money.
A Condominium or a Condo starts at about $100,000 and pretty much the most affordable option for first-time buyers. Though I feel condos make the worst investment and personally never advise to buy a condo to a first-time buyer at least. The reason is pretty obvious. You can’t have 100% control over your condo property. Though If you wish to know more about investing in Condos, you can read Why I don`t Invest in Condo?
Then the only options left with first-time buyers are a Single Family Property and a Multi-Family Property. A Single Family Investment Property starts somewhere about $200,000 whereas a Multifamily unit starts at about $260,000. Both these types of investment property make a good rental property. Depending upon your situation, you can buy any of these investment properties to rent.
Read: Should You Buy A Single Family or A Multi-Family Property To Rent?
4. Finding The Right Location For Buying an Investment Property To Rent
Choosing the Right Location for your investment property is one of the most important aspects. Buying the investment property in the right location comes with advantages and can really benefit you from Day one of starting your rental business.
- High Demand for your Rental Property.
- Fewer Turnover Rates
- Better Tenants
You must account for these factors while deciding the location for buying an investment property to rent. These below factors are a good indicator of whether you are buying in a prime location or not? Ensure your investment property and its location are on par with these factors.
- Steady or Improving Employment Rate
- Good Rent Index
- Not a Lot of Property Listings (Indicates a lot of Vacancies)
- How many days does the Property stay on a Listing Before getting Rented?
- The location should not come under Rent Control Regulations.
The best location to buy an investment property is always the one that is near to your current residence. But with the current market trends and high real estate prices, it is not always ideal to buy near your current residence.
If this is your case, you can always buy an investment property out of state. The out of state investment works like a charm and is a good opportunity for you to start your rental business. But, being a first-time buyer, you have to take into account various factors before finalizing the deal.
Read: What you Should look for When Buying an Investment Property Out of State?
5. Which Neighborhood Should You Buy An Investment Property To Rent?
Likewise the location, the Neighborhood also plays an important role in your investing strategy. Buying an investment property in the right neighborhood impacts on the three most crucial factors of the property rental business.
- How well can your Investment Property Appreciate?
- What Type of Renters Your Property Will Attract?
- How well can you keep your Investment Property Intact?
You should avoid buying an investment property to rent in an area where there are chances of lots of crimes. Buying a property in such an area, you will mostly attract criminals as your renters. Also, there are high chances of getting your property harm, and very less likely such property will appreciate in value.
There are three types of Neighborhoods namely Class A, Class B, and Class C.
- Class A: Expensive Neighborhoods Mostly Occupied by Owners
- Class B: Have a ratio of 35:65 Renters and Owners
- Class C: Poor Neighborhoods with mostly Renters and has high cases of crime
If you see from an investment perspective, Class B type neighborhoods will serve you best. This type of neighborhood serves a bigger community. You can find a wide array of individuals ranging from blue-collar workers to some white-collar individuals. And the blue-collar workers make some great renters.
Moreover, you will find lots of investment properties on sale in such areas and can choose the investment property that suits you best. Also, there are very good chances of appreciation on your property as these are emerging neighborhoods.
6. Sorting Out Financing For Buying an Investment To Rent
If you don’t have enough money, you have to obtain finance to make a purchase. Financing is a great tool by which you can build your empire of rental properties. But there are still a few things you should look for while financing an investment property.
- What are the Financing Options available for you?
- What is the Mortgage Term You Should Opt For?
- Understanding The Closing Costs while buying an Investment Property.
Financing Options to Buy an Investment Property
When you are to finance an investment property, there are various options available for investors. In a nutshell, the first and foremost option is obtaining a conventional loan from a bank or some lending institution. However, the problem with the conventional loan is that you have to come up with at least 20% down.
Considering 20%, it is a lot of money and hardly any investors have this much money sitting in their bank accounts to even pay for a down payment especially when you are a beginner investor. In such scenarios, the next alternative comes in the form of FHA Loans. With FHA Loans, you can buy a property by putting as low as 3.5% down. But the catch here is the FHA Loan is only meant for owner-occupied properties and you can`t buy an investment property directly.
Though you can buy a property and convert it into a rental after one year of owner occupancy. Or, you can start with a multi-family property by occupying one unit for yourself and renting out additional units.
But what if you don’t qualify for an FHA loan and don’t have money to put 20% down. Can you still buy an investment property? You can but things become a little tricky after this. Though, still, there are some financing options available for investors by which you can buy an investment property with no money down.
Read: How to Buy an Investment Property with No Money Down?
If you are having trouble securing the mortgage due to a low FICO Credit Score, you can use Experian Boost to boost your Credit Score instantly.
Choosing the Right Mortgage Term To Buy an Investment Property
It is important that you choose the right mortgage term when you obtain financing. A 15-year mortgage can save you a lot of money while a 30 Yr mortgage gives the chance to make a lot of money. Sounds tricky? Then read my article
Read: Why I recommend a 30 Year Mortgage over a 15-year Mortgage To Buy an Investment Property?
Though, your case can be different. And maybe, a shorter duration mortgage will suit you best. But always remember to evaluate all the situations, I have mentioned in the above article. And then only decide what’s best for you.
Closing Costs Associated while Buying an Investment Property
There are certain closing costs that you have to bear while you purchase an investment property. It is important that you also account for these costs while budgeting for the purchase. Generally, the investors don`t factor in the closing costs and later experience a sudden shock. These closing costs are associated with ownership of property and the mortgage you take out to buy the property.
Expect to pay anywhere between 2% to 5% of your property amount in closing costs. Suppose if you buy a $200,000 property, you will easily shell out about $4000 to $10,000 in closing costs. Though 5% is the uppermost limit and hardly goes to this level. But it is important to also factor in these costs and account these early in your budgeting equation.
Some Additional Tips Before You Obtain Financing
The less you pay in downpayment, the more you will pay in closing costs. When you pay 20% or more in down payment, your closing costs get reduced significantly and doesn’t hurt your wallet much. So try to come up with a maximum down payment as you can while purchasing an investment property.
Also, remember not to overpay to reduce the closing cost. You must have some savings in an emergency fund if ever something goes wrong in the future. Have at least five times your monthly mortgage amount in the emergency fund.
Furthermore, when you have to obtain a mortgage, it is always a good idea to get pre-approved by your lender. It will let you close the deal with full confidence. Also, with pre-approval, you can take time comparing different lenders and can choose what’s best for you.
7. Keep in mind the Rehabbing Work on an Investment Property
Unless you are buying a turnkey property. You have to keep in mind that you might need some rehabbing on your investment property to get it completely ready to be occupied. Rehabbing requires you to find the right contractor, factor in the rehabbing costs, and buy the supplies required for it. All these things will cost you money. The budget of which should be included in your actual cost of buying an investment property.
Also, one thing to remember while buying an investment property is not to fall for properties that are selling low but require a lot of rehabbing work. You may think you can save money with such properties. But things can go worse unless you are experienced in rehabbing properties.
8. Run Down the Cash Flow Equation on the Investment Property
The Cash Flow Equation helps you understand the profitability of the investment property you are considering to buy to rent. In order to profit from a rental business, your rental property should provide a positive cash flow.
The Cash flow is the amount of cash left after deducting the expenses from the gross rent you can receive from the property. But how can you determine the cash flow before you actually buy the property? You have no idea how much rent you will get and how much expenses you will have?
It is simple that you actually run down the reference numbers from the comparable properties in the neighborhood. Check how much they are renting for and estimate what expenses you will mostly occur when you start a rental business. If you have no idea, here is a checklist for what expenses you mostly occur to before having tenants at your property.
The general rule of thumb says if you can get 1% of your property value in rents every month, you can buy such investment property to rent. Though still there are many factors that affect the profitability of the investment property. Here is an excellent resource for you to understand whether the investment property you are considering to buy will be profitable or not.
Read: How To Rental Cash Flow Math as easy as 123?
9. Ensure the Investment Property Complies by the Housing Codes
Housing Codes determine the minimum safety standards for the individuals living at the property. It is the minimum requirement that your investment property must meet in order to be termed as livable by the concerned authorities.
If the property does not meet these minimum requirements, your property will be uninhabitable and not safe to be occupied by anyone. It is important that you ensure the investment property that you are considering to buy must comply with the housing codes.
For this, you can have a home inspector to inspect the property. The inspector can help you highlight the issues and pinpoint the violations before you actually buy the property. Doing so you will have an edge while making a purchase and can ask for the seller to do the necessary work or can deduct the amount required to make the necessary changes.
Read: A Guide To the Housing Codes
10. Finding the Deal Breakers if any
It is important that you dig a little deeper and find if there is any issue with the property you are considering to purchase. Because if there are any issues, you can encounter a multitude of problems later. The two things you must drill down before finalizing the deal include
- How Well the Property is Maintained by the Seller?
- Is there any Pending Tax Lien on the Property?
When you buy a property that has been maintained well by its seller, you can save yourself a lot of money. Because an unmaintained can give a lot of troubles and severe maintenance issues later after you purchase it. Check the property for any kind of water seepage, leaky faucets, poor tiling, long grass, or faded paints. All these are signs of deferred property maintenance which may be underlying a bigger concern down the line.
Unless you are financing the property by authorized lenders or if making a purchase in cash. It becomes important that you verify for any pending tax lien on the property. A Tax Lien is a legal claim for any kind of Unpaid taxes on the property. Having a tax lien prevents the sale of the property and you can have trouble getting the title of the property in your name.
Also read: Should You Buy an Investment Property that is already Occupied by Tenants?
The Bottom Line
There you have it all on buying an investment property to rent. I hope by now you have exactly understood what it takes to buy your first rental property. So go out in the market and acquire your first investment property today. Take action and don`t forget to see any less than 100 deals before finalizing on your first investment property. Also, look for foreclosure properties if any in your area. They are a solid bargain for your first investment property.
Once you are ready and wish to start the rental business, here is another excellent resource for you to get started in simple 11 Steps.
Ready to Buy Your First Investment Property?
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