The Beginner’s Guide to Buying Rental Properties
One of the primary objectives of my real estate business is to acquire income-producing rental properties that ROCK.
What makes a rental property “rock” you might ask?
It doesn’t necessarily need to pump millions into my bank account each month, and it doesn’t need to be a “no money down” deal either (although either of these things would certainly sweeten the pot).
To put it simply, a great rental property is one that makes every one of my invested dollars work hard. I want every penny to work overtime, producing as much revenue as possible while simultaneously paying off any debt associated with the property. When you buy properties with this goal in mind, there is basically no limit (mathematically speaking) to how far you can grow your net worth and personal income.
When I first got started as an investor, I spent a lot of time trying to find these types of properties. I remember spending hours upon hours scanning my local MLS listings, desperately trying to find a deal that would make financial sense.
After running the numbers on dozens of properties, I was shocked at how difficult it was to find just one single property that would justify my investment.
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At the time, it was 2005 and housing prices were through the roof – which made this a very difficult task (especially when I limited myself to ONLY the properties that were “listed”, with a realtor sign in the front yard). Needless to say, it was an extremely discouraging time in my journey.
I eventually realized I was dealing with two fundamental problems:
1. I didn’t have an effective way to find motivated sellers and get them calling me. I was relying ONLY on unmotivated sellers who were holding out for top dollar. This was a losing strategy that wasn’t going to cut it.
2. I didn’t have an effective way to analyze properties or determine their potential profitability. I needed a basic, but highly reliable method so I could calculate exactly what I was getting into.
After a lot of research and learning, I was able to find some very effective ways to solve BOTH of these problems.
Both issues are equally important to deal with but for obvious reasons, problem #2 cannot be addressed until problem #1 has been dealt with. In other words, you can’t start working on your analysis until you have something to analyze. This may seem obvious, but it’s important to reiterate this so you can prioritize correctly and deal with first things first.
The Reason For This Case Study
The purpose of this guide is to show you exactly how I handle Problem #2 (above). If you haven’t figured out how to find motivated sellers yet, go and read this or this first and THEN come back to this case study.
I often find myself evaluating rental properties and consulting with other investors on how to find, evaluate and buy their own deals – so the purpose of this blog post is to explain exactly how I do this. This article is intended to provide a brief education, where I will show you the entire process that I go through when buying a rental property, which includes some of the following steps:
First Contact with the Seller
Quick Property Evaluation
Running the Numbers
Step 1: Determine the Revenue
Step 2: Purchase Price & Financing Options
Step 3: Factoring in All Expenses
Step 4: Taxes & Depreciation
Step 5: Executive Summary
Deal or No Deal?
Offer and Acceptance
What to Expect
A Look Back (One Year Later)
If you’re reading this, you may very well fall into one of these categories:
– You don’t know how to find a legitimate, profitable rental property.
– You understand the theory, but have never actually purchased a rental property before.
– You don’t understand how to analyze and evaluate a rental property the right way.
– You need a better understanding of how the entire process works, from start to finish.
– You don’t have a proper set of expectations about what a rental property should produce, and why investors buy them in the first place.
This blog post is intended to show you exactly what steps I go through, what my expectations are, and how I ensure my (or my client’s) return on investment is something they can be proud of.
I’m a pretty big fan of “on-the-job training”, so I figured the most practical way to show you this process would be to use a real life example I dealt with just a few short years ago.
Quick Property Evaluation
Once I got this message and learned the basic details about this property (i.e. – the owner’s full name and property address – which were edited out of the above audio clip), I went to work.
I was fortunate in some respects, because I was very familiar with this neighborhood. I had sold a similar house a few blocks away for $88,900 in late-2009 (by which time, the market had already taken a dive), so I had some perspective on what a house like this would legitimately be worth.
Before I called the prospect back, I went through my quick property research process and learned most of the pertinent details about this property. It was a single-family home with 2 bedrooms & 1 bathroom. According to the seller, it generated approximately $750 per month in rent. Using AgentPro247, I learned that the seller had purchased this property eight years earlier for $55,000 – which gave me some perspective on where he was coming from.
Armed with this basic information, I called the prospect back.
After roughly 4 minutes on the phone with the property owner, I asked him (point-blank) if he would sell his property for $30,000 – $40,000.
He replied very quickly with, “Yes, I would consider that.”
Later in the week, I called the seller back and told them that our offer would likely be for $25,000. He said that he would think about it.
A few days later (after hearing nothing from him), I called him again to see what he was thinking. He said that he was hoping for something more in the $30K – $40K like I initially stated (*kicking self*). I realized pretty quickly I should have suggested an even lower number to begin with. Setting his expectation in the $30K – $40K range right out of the gate probably wasn’t smart (it’s generally easier to start low and negotiate up, than to start high and negotiate down). Lesson learned.
Eventually (after a few more discussions) we settled verbally on a price of $27,500 cash, with all closing costs paid by the buyer. In other words, the buyer (aka – me) would have to cough up another couple thousand dollars in order to close the deal (this includes things like title insurance, closing fees, property insurance, pro-rated property taxes, etc).
Show Me The Money
Now, most people don’t have $27,500 sitting in their checking account at any given time and at the time, I was no exception. Luckily, I knew some other investors who did.
I called one of my cash buyers and gave them a quick overview of the deal. They were very interested in finding out more. Like most people, they were stuck with Problem #1 (above). They had plenty of money to invest, but they didn’t know how to find good deals. These are excellent people to have on your buyers list because in their minds, any property at 70% or less of market value is an AMAZING deal that will get them very excited.
Luckily, I had mastered the art of finding cheap real estate in my area (FAR below 70% of market value) so when I told them about this property, I had their attention very quickly. I gave them a general overview of the property (“a 2 bedroom, 1 bathroom house on the southeast side of town, a 1.5 stall garage close to the local public school, etc.”). I also prepared a Rental Property Analysis to show them exactly what kind of ROI they could expect from this property as a rental unit (more details on that below).
After seeing my property prospectus report, my buyers said they were ready to go with cash in hand, contingent on an acceptable home inspection and verification of all of all my assumptions.