A Beginners Guide to Buying Your First Rental Property


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The Big Picture On Buying Your First Rental Property:

    • Rental properties can provide a steady passive income stream and have historically outperformed other asset classes over the long term.
    • Financing options for rental properties include house hacking with owner-occupied loans or using investment property loans with higher down payments.
    • Effective landlords must be disciplined in enforcing lease agreements, conducting property inspections, and managing expenses to maximize rental property returns.

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money hacks & cheat codes

Ever thought about buying a rental property?

Whether “rental property” means a sprawling apartment building or a cozy little townhouse for rent, the goal is the same: passive income.

Don’t get me wrong, I love equities. They’re a great source of appreciation and growth over time. However, as a source of passive income, nothing beats rental properties, and they can be an excellent alternative investment.

In fact, a recent joint study between several U.S. and German universities found that rental properties had the best returns of any asset class over the last 145 years.

Ready to start investing in rental properties? Read on.

Financing Part I: Down Payments

First, how much cash do you need to buy a rental property?

Like most questions worth asking, the answer is “It depends.”

If you’re considering using owner-occupied financing and house hacking, you won’t need nearly as much down payment. The traditional house hacking strategy is to buy a small multifamily like a duplex, move into one of the units, and lease out the other(s).

One great benefit of owner-occupied financing is the lower down payment than investment property loans. For example, with FHA financing, borrowers need only put 3.5% down and have a credit score of 500 or higher. It’s tough to beat that!

Other classic financing options include partnerships, hard money loans, private money loans, and seller financing. If you’re interested, you could also try crowdfunding platforms. 

Investment property loans require a much larger down payment. When you use them to buy a rental property, expect to put down at least 20-25%.

Financing Part II: Rental Property Loans

Have you decided that house hacking is not for you? No sweat—there are plenty of affordable options for rental property loans.

One advantage to home rental property loans is that they are generally more collateral-based than borrower-based. That means the lender will primarily look at the rental property itself and how good the deal is rather than scrutinizing you as a buyer.

Many investment property loans don’t even require you to document income!

As for credit requirements, most rental property loans have minimum credit requirements. Expect minimum credit requirements to be between 620-660.

Interest rates for investment property loans will also be higher by around 0.50% to 0.75% than those for a homeowner mortgage. You will likely pay between 5-10% in interest per year to investment property lenders.

When you’re ready, we’ve compiled a simple page where you can compare rental property loans side by side. We break down credit requirements, down payments, interest rates, and other rental property loan terms.

Starting Your Rental Business: Do Landlords Need an LLC to Buy Rental Properties?

It’s about this time that I should disclose that I’m not an attorney, and you should speak to one about asset protection for landlords before getting too involved in the legal side.

If there’s one thing I’ve learned about asset protection for landlords, you should go all or nothing. Half measures will simply cost you money without actually offering protection: the worst of both worlds.

Is it worth creating an LLC for rental properties? Yes – but only if you are committed to keeping your LLC rental property income and expenses separate from your personal accounts. If you commingle funds, you forfeit any protections the rental property LLC offers.

For full asset protection as a landlord, consider putting your assets (including your LLC for rental properties) into a trust. (Want a free 45-60 minute strategy session with an asset protection attorney? It’s included with our Snap Landlord course, all about helping you build a portfolio of cashflowing rental properties.)

And yes, the rental property loans outlined on our comparison page do lend to LLCs!

The Factors of A Good Investment Property?

Before you can say it is a good investment, many factors must be considered. Below are some of them.

What Aspect To Look For How to Choose
Potential For Return On Investment (ROI) Look for a good ROI. Consider net annual income (rental income minus property taxes, insurance, management fees, repairs, HOA fees, utilities) and divide by the property price.
No Fixer-Uppers Avoid fixer-uppers unless you have repair skills or know someone who does. Opt for a house in workable condition.
No Tenant Vacancy Find great tenants to maximize income. Advertise, hold open houses, use rental websites and social media. Vet tenants with background/credit checks and reference checks.
The 1% Rule (Optional) Use the 1% rule as a guideline: monthly rent should be at least 1% of the property’s purchase price. Consider rental estimates for comparable properties in the area.


Choosing a Market for Buying Investment Properties

How do you choose a market to purchase a rental property?

Most investors buy where they know: neighborhoods they’ve lived in or that they frequent. While it’s important to know the neighborhood where you invest, you’re not likely to be familiar with the perfect neighborhood.

Look for towns and neighborhoods within an hour of where you live, where groups of working—and middle-class people live. Cops, teachers, secretaries, skilled laborers, accountants—where do they live? Consider those neighborhoods first.

Your goal: neighborhoods where many people rent rather than own but still have long-term residents and plenty of neighborhood pride.

Expanding Your Horizons

It’s a good place to start, but you don’t have to limit your market research to closer areas, not if you have expansion plans. 

You’ll also have to learn more in-depth stuff, like market analysis. This involves a lot of research into specific neighborhoods, and I mean taking down average property value estimates and getting historical, population, employment, and investment trends in the area. 

You can walk the beat yourself or utilize external resources over the internet. We also have several tools and resources for free

Besides, this is a lengthy topic to which we devote an entire video module in our course on buying rental property. Before choosing a market for investing in rental property, do your homework and ensure you’re comfortable with the neighborhood and its numbers!

Choosing The Type of Investment Property

Deciding on the type of property—a single-family home, multi-unit, condo, or any residential property—is a crucial step in selecting an investment property, as each offers distinct advantages and disadvantages.

Single-family residences often require less upkeep and have better appreciation potential, while multi-family properties benefit from multiple rental incomes. Condominiums may have lower returns due to fees, but they come with less maintenance for the investor to operate.

The place or the location is equally important. You must consider factors like accessibility, demographics, safety, market trends, and rental rates, which all impact your investment.

Don’t forget to factor in local regulations and taxes. Property taxes and rent control laws can vary greatly and directly affect profitability. Also, owning a rental property can lower your taxes through expense deductions, depreciation, capital gains tax deferral, and avoiding FICA taxes.

Nuts and Bolts: How to Buy a Rental Property (Without Losing Your Shirt)

Whew! Another big topic. But let’s condense as much as we can into a few paragraphs, shall we?

In the US, 66% of households own their homes, with 34% renting. This ownership rate has remained stable for the past year. 

You have many options for finding good deals when buying rental properties. You’re probably already familiar with the notion of on-market deals: properties listed for sale on the MLS. Consider trying to be the first offer in the door when a property goes on the market or making lowball offers on deals that have sat on the market for three, four, or five months with no movement.

Then there’s the wild world of off-market deals – properties not listed publicly for sale on the MLS. These can include properties offered by wholesalers, turnkey property sellers, or local rental property lenders’ REO departments before they’ve had a chance to list them.

You can also approach property owners directly and ask if they’re open to selling. Many rental investors send letters to vacant property owners to make low-ish offers.

Finding deals when buying a rental property is part art and part science and requires some work as an investor. The work required is the bad news – the good news is that you can earn excellent returns, and you can actually forecast rental property cash flow quite accurately.

That means never making a bad investment again!

When considering buying a rental property, use this free rental property calculator to forecast its cash flow and returns.

Common Mistakes & What I Wish I Knew Before Buying Rental Property

As a landlord and rental investor, I’ve made almost every mistake in the book.

Back then, one of the worst mistakes was failing to account for all expenses when buying investment properties.

Far too many new investors underestimate expenses when looking to buy a rental property. They think, “Well, the rent is $1,500, and my mortgage is $1,200, so I’ll pocket $300/month!”

Wrong. False. Incorrect.

They’ve forgotten about vacancies, landlord insurance, mortgage payment and interest, repairs and maintenance, property taxes, HOA fees, and property management costs. They’re in for a rude awakening.

Research the vacancy rates you can expect in the rental market you choose, and use the rental property calculator to get a more accurate forecast of your cash flow!

Another common mistake is not lining up your rental property loan before you need it. The last thing you want is to have your offer accepted, but have no idea how you’ll fund your deal.

Speaking of rental property loans, make sure you have several options in reserve in case your first choice for an investment property loan falls through.

Beyond the Obvious: Advantages of Buying Rental Property

Passive income is the dream, right? Achieving financial independence by building enough passive income to cover your expenses.

We’ve already touched on how rental properties have actually performed better than equities over the last 145 years. One reason for that is the lower volatility among real estate values and rents than stocks.

While some stocks pay dividends, their primary returns come from growth and appreciation. Rental properties can produce significant cash flow and income every month.

Cash flow is predictable because while you may not know exactly when you’ll have a big expense, you know how much to budget for it over the long run. As mentioned above, you can accurately forecast your cash flow and returns using a rental property calculator.

Not something you can boast about stocks!

Stock values can evaporate overnight if the company goes under. Rental properties are physical – the worst is fire or storm damage. This is precisely why real estate investors have rental property insurance.

Taxes, Taxes Taxes

Another potential concern for new real estate investors is taxes. How much should you pay? What deductions are allowed? How can you efficiently plan your taxes? 

As with everything, making a mistake with taxes in real estate investments can be very costly, with up to 44% in interest and yearly penalties.   

The good news is that buying a rental property comes with a wide range of tax advantages. Every conceivable expense is tax deductible, including mortgage interest, maintenance, property management fees, travel, mileage, and even paper expenses like depreciation!

You can even invest in real estate using a self-directed IRA if you want more tax advantages.

Make Your Life Easier With Tools

Aspiring landlords like yourself don’t need to navigate the complexities of real estate management with just your note-keeping app and Google calendar. 

As a better alternative, you can sign up for our free landlord software and access cool features like online rental application requests, mileage tracking, tax reports, and automated payment collections. 

And for the price of a couple of Venti drinks a month, you can access more specialized features like automatic synching to your bank feeds, receipts and document storage, multi-user access, and more. It’ll save you time and calories in the long run.

Is Investing in Rental Properties for Everyone?

No. Absolutely not.

Not everyone has the patience or interest to put in the work to find deals when buying rental property. I know I beat up on stocks above, but buying shares in an index fund takes 15 seconds. Buying rental property can take months of sifting through potential deals and having offers rejected.

Being a landlord also comes with its own work and headaches. Turnovers can be expensive, time-consuming, and stressful. Suppose a tenant doesn’t pay the rent. In that case, landlords have to go through the expensive, time-consuming, and stressful eviction process, which can be a nightmare before even getting to the other headaches involved in a turnover.

And there’s a discipline required to manage rental properties effectively. You have to be willing to enforce the lease agreement rules to the letter. Not everyone is willing to file for eviction as soon as the rent becomes late, but that’s part of being an effective landlord.

Nor does everyone have the discipline to make semi-annual rental property inspections, even when everything seems to be going smoothly.

My Approach

Whenever a friend or prospective student asks me about buying a rental property, I ask them: How interested are you in purchasing an investment property? Are you enthusiastic enough to make it a side hustle, a part-time job? Or are you just looking to diversify your portfolio and aren’t particularly interested in investing in rental property?

Know thyself. Buying rental property is a hands-on form of investing. It can yield high returns and semi-passive solid income, but it requires some work when buying and in ongoing property management.

FAQs About Buying Your First Investment Property

What is The 2% Rule for Investment Property?

The 2% rule is a simple guideline for real estate investors. It suggests that to achieve positive cash flow, the monthly rent should be at least 2% of the purchase price of the investment property.

What Type of Property is Best for The First Investment?

For first-time investors, apartments in good locations can be a good springboard. They often offer easier entry points (lower cost) than houses and can still build your investment portfolio through rental income.

What Age Is Best to Buy an Investment Property?

The early 20s and 30s are excellent times to consider buying an investment property. You’ll benefit from faster cash flow as you pay the mortgage and potentially enjoy greater returns later through refinancing or increased rent.

How to Invest in REITs?

You can invest in REITs in three ways: buying publicly traded ones on exchanges, investing in REIT mutual funds that pool your money with others for diversification, or buying shares of REIT ETFs that trade like stocks but hold a basket of REITs.

What Type of Property is Most Profitable?

Commercial properties can be highly profitable, especially in high-demand prime locations. These properties, like office buildings and warehouses, tend to have long-term leases with businesses, providing stable cash flow.

What are your biggest questions as a new rental investor? If you already own rentals, what was your experience like buying your first one? Share your thoughts below!

This article originally appeared on SparkRental and was syndicated by MediaFeed.

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