How to buy Your First Rental Property
Consider the risks and rewards of owning investment property
Thinking about purchasing an investment property? Real estate has produced many of the world’s wealthiest people, so there are plenty of reasons to think that it is a sound investment. Experts agree, however, that as with any investment, it’s better to be well-versed before diving in with hundreds of thousands of dollars. Here are the things you should consider and investigate.
Are You Cut out to Be a Landlord?
Do you know your way around a toolbox? How are you at repairing drywall or unclogging a toilet? Sure, you could call somebody to do it for you or you could hire a property manager, but that will eat into your profits. Property owners who have one or two homes often do their own repairs to save money.
Of course, that changes as you add more properties to your portfolio.
Pay Down Personal Debt
Savvy investors might carry debt as part of their portfolio investment strategy, but the average person should avoid it. If you have student loans, unpaid medical bills, or children who will attend college soon, then purchasing a rental property may not be the right move.
Secure a Down payment
Investment properties generally require a larger down payment than owner-occupied properties; they have more stringent approval requirements. The 10% you may have put down on the home where you currently live isn’t going to work for an investment property. You will need at least a 30% downpayment, given that mortgage insurance isn’t available on rental properties. You may be able to obtain the downpayment through bank financing, such as a personal loan.
Find the Right Location
The last thing you want is to be stuck with a rental property in an area that is declining rather than stable or picking up steam. A city or locale where the population is growing and a revitalization plan is underway represents a potential investment opportunity.
When choosing a profitable rental property, look for a location with low property taxes, a decent school district, and plenty of amenities, such as parks, malls, restaurants, and movie theaters. In addition, a neighborhood with low crime rates, access to public transportation, and a growing job market may mean a larger pool of potential renters.
Should You Buy or Finance?
Is it better to buy with cash or to finance your investment property? That depends on your investing goals. Paying cash can help generate positive monthly cash flow. Take a rental property that costs 10,000,000 to buy. With rental income, taxes, depreciation, and income tax, the cash buyer could see a 9.5% annual return on the investment.
Beware of High Interest Rates
The cost of borrowing money might be relatively cheap in 2020, but the interest rate on an investment property is generally higher than a traditional mortgage interest rate. If you do decide to finance your purchase, you need a low mortgage payment that won’t eat into your monthly profits too much.
Factor in Unexpected Costs
It’s not just maintenance and upkeep costs that will eat into your rental income. There’s always the potential for an emergency to crop up—roof damage from a hurricane, for instance, or burst pipes that destroy a kitchen floor. Plan to set aside 20% to 30% of your rental income for these types of costs so you have a fund to pay for timely repairs.
Weigh the Risks vs. the Rewards
In every financial decision, you must determine if the payoff is worth the potential risks involved. Does investing in real estate still make sense for you?