“If you don’t find a way to make money while you sleep, you will work until the day you die.” Those are the prophetic words of billionaire Warren Buffet, who is often celebrated for his practical, low-risk vision of investing. The Oracle of Omaha is also a huge proponent of owning real estate – particularly rental properties – as part of any successful portfolio.
In fact, investing in income-producing properties, or ‘rentals,’ is one of the quickest bridges to long-term financial security – and making money while you sleep. But it also comes with a modicum of risk, hard work, and business savvy to find, purchase, manage, and maintain rental properties – particularly your first one.
Of course, it’s best to do a good deal of research about buying and owning profitable rental properties, but there’s a lot that you won’t find in the books. You’ll also notice that real estate investing advice often contradicts itself since each market is unique. Therefore, an experienced, local Realtor can be your greatest asset, as well as other successful long-time landlords and investors.
Remember, too, that the requirements for financing a rental property purchase are also different than when you buy your own home. So, unless you’re buying all-cash (and even then!), you’ll want to come talk to me. With a simple consultation, I can get you pre-qualified so you’ll understand what loan options are available, what kind of down payment you need to come up with, what your rate and monthly payment will be, and what your cash flow position will look like.
For all of you neophyte landlords out there, today, I’ll cover 20 quick tips to get you started:
1. In most markets, a standard 3-bedroom/2-bathroom house is your best bet for a single-family residence – especially when it comes to appreciation. Usually, a whole family can’t fit into a 2-bedroom house, and four bedrooms and up typically have a higher price tag-to-rent payoff.
2. However, in higher-priced areas, smaller units like halfplexes and townhomes may yield great rental income at a lower price point. Likewise, it’s worth talking about the financing options for multi-unit properties duplexes, triplexes, and even fourplexes, for some added cash flow, all of which still qualify for residential (non-commercial) loans.
3. Be careful with condominiums. Yes, they are usually far more affordable, but people buy condos because they are new, easy, and cheap. After the first wave of ownership the new part and often the easy part go away. However, condos can be great if you can scoop them at bargain prices, and your maintenance and landscaping costs may be nil.
It also can be more difficult to get a mortgage loan on a condo down the line, especially if the renter-to-owner ratio is too low. Difficult HOA rules and restrictions can also prohibit their price appreciation, so just focus on cash flow.
4. Look to buy a simple house with good “bones” in the best neighborhood you can afford. Avoid buying the best home in a marginal neighborhood, where appreciation won’t work in your favor. Working class neighborhoods are great because there are always families who work hard, pay their bills on time, and need a safe, nice place to live.
5. Shy away from luxury and high-end rental properties, as they rarely cash flow since your initial investment and mortgage payment are too high.
6. It’s never wise to purchase a rental property with price appreciation as the main goals. That’s the mistake too many of us made in the past, pre-mortgage bust; we bought homes betting that they’d appreciate quickly, even though they didn’t make money (or break even) in the short term. That’s not investing – that’s gambling! Therefore, only purchase a property that pencils out to cash flow immediately.
7. When factoring all of your income and expenses for the property, make sure you over-estimate all expenses, probably by about 25%. Factor in 3 months vacancy a year, and plan on the water heater blowing, unexpected roof fixes, etc.
8. Finding a property near a good school or a park etc. is an added bonus.
9. But don’t buy on a street that is too busy.
10. Remember that older houses require way more fixing and maintenance than newer structures. For really old homes, you may find nob and tube electrical, rusted pipes, asbestos, etc. Your rental property doesn’t have to be brand new, but post-1978 is a good bet because construction was modern enough and you won’t have issues with lead paint.
11. Make sure you get a great home inspector to check out the property but spend extra attention on the roof, central heat and air systems, foundation, electrical, and plumbing. Review seller disclosures carefully and get roof certifications or warranties when possible.
12. Have the seller pay for a detailed pest inspection (it’s required for most loans, anyways). If there are problems (like termites), request that they pay for a year’s pest control service.
13. When your offer is accepted and you’re still in escrow, ask the buyer (through your Realtor and his or her Realtor) if you can put up a “For Rent” sign in the front yard. Either way, definitely put one up when you close on the property. Even if you still need to paint, clean it, etc., you’ll get a lot of phone calls and inquiries from drive-by traffic and probably can have a renter the first day it’s ready.
14. Find a house in close proximity to large work centers, shopping malls, highways, etc. Don’t buy a house that’s too isolated.
15. Make sure the house you buy is consistent with the neighborhood. For instance, don’t buy a 2-bedroom house when all of your neighbors are at least 3-bedroom homes. Your house appreciates in value only based on closed comparable sales, as done by a licensed appraiser. If there are no similar properties, there are no comparable sales, and the value won’t go up.
16. Try to find a house with an open, standard floor plan, preferably with one level, but nothing too closed or restrictive. Stay away from homes with “funky” rooms. Homeowner additions, converted porches, garage conversions, etc. are all always liabilities, not assets, and never count the square footage to these rooms in your calculations.
17. For a great deal, look for a property that you can improve with easy cosmetic fixes like new paint, tile, landscape, fixtures in the kitchen and bathrooms, etc. Those are easy, cheap, not complicated, and most of the time you won’t need a permit.
18. Learn local rental market by driving around the neighborhood, taking notice of For Rent (or For Sale) signs, going online to search rental prices in that area, and talking to a few property management firms. Only then can you set a realistic rental price and calculate your cash flow.
19. Talk to your CPA or tax preparer early and often when you plan to buy a rental property! Aside from cash flow, investing in real estate has huge tax advantages that you’ll want to take full advantage of.
20. While everyone wants to make a hundred thousand dollars a year with their real estate investments and get rich quick, owning rental property should be considered a steady but long-term endeavor. Plan ahead, look at the big picture, and formulate a plan to weather the highs and lows of the real estate market. You’ll look back in five, ten and twenty years and be ecstatic that you invested when you did, as you’ll be earning money while you sleep!