In the upper Midwest we’re hopeful spring is near. With that change in season comes a renewed sense of purpose, goal-setting, and other grand visions. Also, spring provides new opportunity in real estate. Maybe you’re one of the many that has a spring-filled list of goals that includes crossing “buy a rental property” off your list. You know the one – it’s been on the list for years. Will this finally be the year? Foreclosures were down almost 6% over the last two years, including a 3.1% drop in 2015. Even though that portion of the market’s “deals” have recessed, 2016 provides plenty of hope for residential investing. If you’re new to residential investing, this may help you get started.
Know Your Goals
Residential investing is a get rich slow plan. Beginning investors must understand that. It’s hard work; it takes time; there will be frustration; cash flow is tough. It also can be a fantastic long term investment. The advice here is to be clear on your goals. If you have some down payment money, and are prepared to look at your first rental as an investment in your future, that’s a good starting point. If you think rental real estate will make you rich quickly, or won’t cost money through the process, you need to step back.
Know Your Market
If becoming a real estate investor were easy, it would already be off your to-do list, right? So don’t make it more complicated than it already is: look to buy an investment property in an area you know well. Likely, this is the community where you currently live and work, or at least within a short drive. You know all the subtleties of your market without any research. You know traffic patterns because you drive them daily. You know the “desirable” schools and neighborhoods. You know where people like to eat and shop. You know your community. Investing there becomes easier because of that. Not only do you avoid having to research all kinds of data about a community, but you also make your investment life easier by keeping your property close to your home. You can get there if there’s ever a problem, a showing, or just to check-in via drive-by.
Know Your Time
We’re all different when it comes to the amount of time we can offer a real estate investment. The question to answer: Do you want to self-manage your rental property? If the answer is ‘yes’, you’ll save some monthly expense and be a hands-on owner. You’ll get to stay on top of property maintenance and find the perfect tenant for your situation. You’ll have the opportunity to build a relationship with your tenants and monitor everything about your property, ultimately offering the best protection of that investment. If your answer is ‘no’, you’ll need to interview and hire someone to do it for you. Generally, a property management company will charge 10% of the gross monthly rent to do it for you. For that price you should receive monthly or quarterly financial reports, tenant screening, and quarterly property condition reports. Also, you won’t deal with any day-to-day phone calls from tenants – your name and contact information can stay relatively anonymous to your renters. As your portfolio grows, that management fee should come down to as low as 6% depending on how many properties you have.
Know Your Expenses, Know Your Return
There are many numbers related to residential investing that you must organize. The first step is to identify what amount of money you can invest into your future property. With that information in hand, interview several commercial lenders. We prefer credit unions and more regional banks, rather than national lenders. Not always, but often, they can offer you better relationships, lending programs, and education. Make sure they work for you, not the other way around. You are giving them business and should feel comfortable with your lender and what they can offer you. Don’t settle for the first person you talk to; make several appointments. After you’ve got your investment money identified, and have found out how much other people’s money will cost you (the money your bank will give you), you’re ready to start analyzing deals.
We list several items on a spreadsheet to organize our numbers beginning with the address of a property we’re discussing and, according to a realtor, what the market value of that property is. Additionally, your real estate agent can tell you how much you’ll have to pay. Rarely what you pay is the same as the list price in residential investing – at least in the upper Midwest, outside of the huge markets like Chicago. Here’s an example of four deals we’ve recently analyzed on a simple spreadsheet. Keep in mind, this is for beginning your journey as an investor. There are several other items we could add, but this is a good analysis spreadsheet to see if a property is worth looking into further:
We generally figure 10% of gross rent for management and 10% of gross rent for maintenance each month as expenses as you see in the spreadsheet. Your ‘NOI’ refers to Net Operating Income, both monthly and annually. Looking at the spreadsheet, it may be tempting to go for the highest NOI property; however, considering other factors such as neighborhood and property condition may change that feeling. Our tenants pay utilities, so that’s not a cost to us, but it may be for you. Your commercial lender or real estate agent can help connect you with an insurance provider to estimate those costs. Also, at the end of this post you’ll find links to a couple of useful calculators. One other item to discuss with a home inspector and your real estate agent is deferred maintenance, which is not included on the small spreadsheet. Identifying big-ticket remodeling items such as a roof, siding, furnace, and kitchen is not only important, but needs to be addressed by your agent during the offer process. Buying property at the right price is essential for your investment. You have a better chance to make money in the long run when you buy it right.
Know Your Agent
There are two schools of thought when it comes to partnering with an agent to help in your search for a rental unit. One side says to stay away from agents that invest in real estate themselves because they’ve “filtered” all the “good deals.” This has never made sense to me. First of all, nobody is investing in “all” of the deals that come across their desks. There are always deals out there. I analyze dozens per day as do many other agents and investors. Secondly, there are two kinds of income that licensed investors seek: their J-O-B monthly income generated from working with real estate buyers and sellers and their investment income accumulated over time. Agents are extremely interested in working with investors to fuel their J-O-B income. Lastly, and most importantly, you want the real estate agent you hire to know a lot about residential investing. The quirks, failures, challenges, and celebrations of owning real estate are not easily defined by those who have never done it. Investing in real estate is a lot of work. Partnering with licensed real estate agents that invest themselves is a huge advantage as you not only look to invest in your first deal, but look to grow your portfolio in the years to come. The bottom line: interview several licensed agents; narrow that group down to those that also invest; choose the person with whom you can build a relationship. Your gut will guide you at that point.
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Brian Lawton is a licensed Wisconsin REALTOR®, real estate investor, industry blogger, entrepreneur, and Director of Property Revival’s Janesville, Wisconsin offices, where he lives with his family. Connect with him on LinkedIn.