How To Buy A Rental Property Investment

rental property investment

Owning a real estate rental property investment is one of the most time-tested ways to build wealth and generate income.

Here are three things to consider when buying a rental property investment.

A Rental Property Investment Isn’t Your Home

Many beginning real estate investors make the mistake of buying a rental property investment the same way they would buy a home to live in themselves.

They focus more on the amenities-  lush backyard, high-end fixtures & appliances, and a swimming pool – than looking at the property as a business.    True, items like these will attract tenants.  But they will also be more expensive to maintain, repair, and replace when damaged beyond repair.

Experienced rental property real estate investors prefer to buy a basic home with minimal upgrades and amenities.  Doing this allows for a quicker turn between tenants and less expensive repairs when needed.

Go Where The Renters Are

An easy way to determine where to buy a rental property investment is to buy in areas where there are already apartments or smaller multi family dwellings.

While doing this might sound like common sense, it’s surprising how many beginning investors in real estate don’t do this.

Apartment building developers & property managers have already done the heavy lifting.  They’ve figured out where the renters are and what the market rents are for the area.  Rather than reinventing the wheel, savvy smaller rental real estate investors simply adapt to what the big players have already done.

Treat Your Rental Property Investment Like A Business

As a small real estate investor it’s very easy to get caught up in tenant drama.

Remember, the tenant is your customer and not your friend.  You’re providing a nice place for them to live.  In exchange you expect the monthly rent to be paid in full and on time, each and every month, and the property to be well kept.

Experienced real estate investors know that once they allow a tenant to pay the rent late it will quickly become the norm and not the exception.

How To Buy A Multifamily Property

buy a multifamily property

Many real estate investors decide to buy a multifamily property after owning one or two single family rental houses.

While the asset classes are similar, there are some distinct differences between owning single family rentals and buying a multifamily property.

Before You Buy A Multifamily Property

Here are some general things to consider before you buy a multifamily property.

These are general comments.  They will vary depending on what market and what country your real estate investments are:

Exit StrategyBefore you buy, think about selling

When you invest in a single family home as a rental, selling it is easy.

That’s because you have a bigger buyer pool.  You can sell a rental house to another real estate investor, to the tenant, or to an owner-occupier who is buying the house to live in.

Selling a multifamily property is different.  Yes, you could ‘go condo’ by turning each rental unit into a property for sale.  But often times that’s easier said than done.

When the time comes to sell your multifamily real estate investment, your pool of prospective buyers is going to be other income property investors.

Unit TurnsHow quickly can a vacant unit be made rental ready?

We all know that time is money.  This is especially true when it comes to property managing and leasing multifamily property.

The term ‘unit turn’ refers to how quickly any needed repairs and updating can be done when an old tenant moves out and a new one moves in.

Some of the keys to turning a unit quickly include having the same fixtures, appliances, paint and flooring in each unit of your multifamily property.

Tenant TypesUnderstand who you are renting to and why

Knowing the type of tenant you will be renting to is key to successfully investing in multifamily property.

You will also want to have a firm understanding of the unique characteristics of your specific tenants.

For example, young professionals in an urban area will expect more amenities and stylish decor.  Other renters are just looking for a simple place to live.

Five Ways To Have A Work/Life Balance In Real Estate

work life balance real estate

Achieving a positive work/life balance in real estate is much easier said than done.

It’s true whether you’re a new real estate agent selling real estate full time, or an experienced broker or real estate investor.  It’s true whether you work in residential, commercial real estate, property management, or another real estate niche.

Why Have A Work/Life Balance In Real Estate?

In the real estate business the more you work the more money you make.  If you work in various markets around the world, you can literally work 24/7, seven-days-a-week if you choose to do so.

This works well for a while, and a little bit longer than a while for real estate people who have no family to worry about.  And those that are able to focus 100% on their real estate business.

But after a while, no matter what you do, real estate burnout occurs.

You forget to return phone calls or emails.  You’re not able to hold an intelligent conversation with clients or friends about a topic that doesn’t involve work.  Or you make a mistake on a contract and end up getting sued.

Not good.

Five Ways To Achieve A Positive Work/Life Balance In Real Estate

Here are five tips to balancing your work and life when you work in the real estate business:

  • Email – limit reading, replying, and sending emails to one or two times per day
  • Phone calls – as with emails, limit the times when you will make and receive phone calls
  • Working hours – have set working hours and take at least one full day off each week
  • Choose clients carefully – many prospective real estate clients don’t value your time and actually have no intention of buying anything from you . . . learn to choose the ones the will make money for you and learn to say ‘No’
  • Pick a real estate niche – you can’t be an expert in every field of real estate, and you can’t be all things to all people . . . choose what you’re good at and stick to it

 

How To Calculate A CAP Rate

calculate a cap rate

There are two pieces of information that real estate investors need in order to calculate  a CAP rate or Capitalization Rate:

  1. NOI or net operating income of the asset
  2. Sales price or current market value of the asset

CAP rates are useful for comparing the performance of a real estate investment to similar properties in the market, to calculate what a sales price should be based on the property’s NOI, and determining what the net operating income should be based on the CAP rate of a property that’s for sale.

The CAP rate calculation can be used for residential and multifamily property, commercial investments, and even land.

Formula To Calculate A CAP Rate

The formula used in a CAP rate calculation is pretty straightforward:

CAP Rate = NOI / Sales Price

Let’s say we have a small multi family rental property investment that is generating $100,000 in net operating income each year.  The owner decides to sell and lists the apartment building for sale for $2 million.

The CAP rate is: $100,000 NOI / $2,000,000 Sales price = 5% CAP rate

Why Is A CAP Rate Used?

In addition to comparing alternative real estate investments in the same market, the CAP rate formula can also be used for calculating what a sales price should be and in determining what a property’s net operating income should be based on CAP rates for similar properties.

For example, if our apartment building above is listed for sale with an asking price of $2.5 million and market CAP rates for similar properties are 5%, then the property’s NOI should be:

$2.5 million x 5% = $125,000 per year

Based on the capitalization rate calculation the property is over priced compared to its peers.  Now, maybe there’s a good reason for this or maybe not.  That’s up to the buyer and seller to determine.

What Is A Good CAP Rate?

CAP rates for specific asset classes vary from market to market and sometimes even from neighborhood to neighborhood.

A good CAP rate for one investor will be a not so good CAP rate for another investor.  That’s one reason why it’s dangerous to call a CAP rate good or bad in and of itself.

But capitalization rates are useful for quickly comparing one real estate investment to another, and also return on investment for specific asset classes from one market to another.

How To Analyze The Cost Of A Condo

analyze the cost of a condo

Many first time buyers and even some real estate agents misunderstand how to analyze the cost of a condo.

Here are a few things to consider when analyzing the cost of buying a condominium.

Analyze The Cost Of A Condo – Balance Sheet Reserves

The financial strength of a condominium association or strata has a big impact on the actual cost of buying a rental property such as a condo.

Condo buyers make the mistake of looking only at the profit and loss statement of the association.  They almost never look at the balance sheet showing the reserve budget.

The profit and loss statement can show a positive cash flow.  But the condo association may have very little money in the bank for an unexpected common area repair.

Budget Reserves Are A Big Deal

When a condo association needs money and doesn’t have it, the condo owner gets billed for a special assessment.

While the phrase sounds innocent enough, what it really means is that the association didn’t plan properly by saving money for a rainy day.  And the owners are the ones who will have to pay.

That’s why looking at the amount of reserves are so important when a buyer wants to analyze the cost of a condo they’re thinking about purchasing.

Imagine if you’re the owner of a condo and all of a sudden you have to pay $1,000 extra per month for the next 12 months to cover your share of an un-budgeted expense.

When Does Seller Financing Make Sense?

seller financing

It’s certainly true that cash can be king.  But there are also instances when seller financing can be a better option for real estate sales.

Seller financing is a good option in a down market, or in a real estate market where home prices keep rising.

Seller Financing Can Make Sense

Seller financing – also known as a seller carryback or a deed of trust note – offers advantages to both buyers and sellers of any type of real estate.

#1 Easy Sale In A Tough Market

In a down real estate market there are more sellers than buyers of real estate.  Offering seller financing can help entice a buyer to purchase your property instead of the competition’s.

#2 Reduce Capital Gains

If the seller owns the real estate free and clear, or has a substantial amount of equity built up, seller financing can help reduce the upfront tax on capital gains.

That’s because rather than getting all of the profit at one time, seller financing allows the seller to spread out the profit over a longer period of time.   The monthly payment received from the borrower will be part principle payment and part interest income to the note holder.

#3 Seller Can Sell The Note

Seasoned deed of trust notes are easy to sell on the secondary market.

Seasoning is a term used in mortgage finance that simply means the debtor or the borrower has made its payments in full and on time.  Usually after 12 months of consistent payments a deed of trust note is considered to be seasoned.

Many times sellers agree to seller finance in order to defer capital gains tax and earn interest income.  But then their situation changes.

Sometimes they want to raise cash for another real estate deal for example.  To do this they simply sell the seasoned deed of trust note to another investor and invest their cash in something else.

A lease purchase of real estate is similar to seller financing and has pros and cons for both the buyer and seller.

How To Spot A Problem Property Owner

problem property owner

If there’s one thing that real estate property managers try to avoid at all costs it is a problem property owner.

A problem real estate property owner is one who says one thing but does another.  They’re the type of owner where nothing is every their fault.

Real estate property managers can only do so much.  That’s why it’s always a good idea to avoid problem property owners right from the start.

Here are three ways to spot problem real estate property owners:

Contract Cancellation Clause

Make sure that your property management agreement has a cancellation clause that either party may use for any reason.

Good property managers will never have a property owner terminate their agreement.  But good property managers should always reserve the right to get rid of a problem property owner unilaterally.

Cash Poor Property Owners

One of the biggest red flags to look for is a property owner’s unwillingness to provide working capital, or to maintain a minimum reserve in a trust account.

Sometimes property owners are actually cash poor.  Other time they simply think that the cash flow from their property should cover any needed improvements or repairs.

Unbelievably, many problem property owners think this even though their rental property has a high vacancy level due to the poor condition of their property.

Signs Of A Problem Property Owner

Real estate property managers can usually discover a problem property owner before the property management agreement is ever signed.

Red flags include:

  • Vacant units that are not move-in ready
  • Obvious deferred maintenance items such as painting, parking, and landscaping
  • Blaming the previous property management company for the condition of the property and the low occupancy level

Two Tips For New Landlords

tips for new landlords

Good tips for landlords are hard to come by, especially if you are new to the business of real estate property management.

Here are two more tips for new landlords that can save a lot of time, money and trouble.

Pictures Don’t Lie

Experienced real estate property managers and landlords leave as little as possible to the tenant’s imagination.

That’s why it’s a good idea to take photos of the appliances.  This includes the model label on the back of the machine.  Then, include this detailed information as part of the written real estate lease contract.

That way if an appliance happens to be missing during the move-out walk through it will be much easier to determine the replacement cost that the tenant is liable for.

Utilities Should Be Turned On

The rental lease that the tenant signs should specify that the utilities will be on when the move-out walk through is done.

Most leases actually call for this, but frequently the tenant doesn’t keep the electric, water, and gas turned on.

The reason for having the utilities on during the walk through is so the landlord or property manager can check for active water leaks and other damage that may have been caused due to tenant neglect.

Other Tips For New Landlords

New landlords are always anxious to get their first rental property rented.

But getting the wrong tenant will be much more expensive than taking the time to find and keep a great tenant.

A few other tips for new landlords include:

  • Don’t negotiate on the rent amount or down payment
  • Always run a tenant income and credit report and background check
  • Put everything in a written contract
  • Be aware of the landlord tenant laws in the market where your rental property is located

Remember, it’s always more expensive to get rid of a bad tenant – and to fix any damage caused by them – than it is to take the time and find and keep a great tenant to rent your property.

 

 

 

Land Loans And Real Estate Financing

land loans

Land loans is a term that frequently comes up when selling real estate.

Despite the name, land loans aren’t just for selling land – although that’s how the term originated.

Other Names For Land Loans

Other names for land loans are deeds of trust, seller financing, or private equity loans.

The term ‘land loans’ comes from a type of seller financing – as opposed to traditional bank or lender financing.  A land loan is when the seller retains title to the ‘land’ until the loan is paid off.

Why Use Land Loans?

There are three ways that land loans are generally used to buy and sell real estate:

  1. An owner has a property that is difficult to sell.  Maybe it’s a buyers market or the seller doesn’t have the money to make repairs.
  2. A buyer can’t qualify for traditional bank or lender financing.  The buyer may have credit issues or wants to use the property for an unconventional use.
  3. A legal technique where a seller can defer payment of capital gains tax

Let’s Make A Deal

Land loans are a creative way to finance real estate.  There are no hard and fast rules to follow, so selling real estate using a land loan can be tailored to the specific needs of every buyer and a seller.

It’s always a good idea to have the sales contract in writing.  Many buyers and sellers using a land loan also like to have an independent third party handle all of the loan payments and disbursements as well.

Last but not least, a seller carrying a note with a land loan should always think of him or herself as a bank.  Especially if they decide they want to sell the deed of trust to an investor before the note becomes due.

Why Home Prices Keep Rising & More People Keep Renting

home prices keep rising

One reason that home prices keep rising can be found in a recent report by the Pew Research Center.  The report notes that more households are renting than anytime over the past 50 years.

Over the last 12 years the number of people who own a home has remained basically the same, while the number of people who rent where they live increased by over 25%.

Everybody Is Renting

This rise in renters is across all demographic groups:

  • All age groups have seen an increase in rental households, with 65% of people younger than 35 renting where they live
  • White, black, and Hispanic ethnic groups have all seen a rise in renters over the last 10 years
  • People of all education levels are renting more, with households holding a bachelor’s degree or higher having the largest increase in renters

The rise in home renters is a pattern that is going to continue for quite some time.  It is also a reason why the costs of condos and single family home prices keep rising.

Why Do Home Prices Keep Rising?

Since 2012 private equity has moved into the home rental market in force.  Large REITs and smaller crowdfunding groups now buy homes in quantity and rent to the people that were foreclosed on and forced into bankruptcy during the last housing crisis.  These mega-home rental organizations continue to buy both new and existing home inventory.

The shortage of skilled labor and zoning laws that constrain the supply of new construction are another reason why home prices will continue to rise.

In 2011 only 13% of the members of the National Association of Home Builders cited labor costs as a concern.  Now 82% of home builders say rising labor costs are their biggest concern.  Both immigration policy and the increase in natural disasters such as Hurricane Harvey in Houston cause labor shortages in the construction sector.

Lumber futures have increased by more than 57% since President Trump imposed tariffs on Canadian lumber.  While that’s good for people in the lumber business, it is a disaster for single- and multi-family home builders who use lumber for framing.

In Summary

An increasing amount of new home construction and existing inventory is being purchased in bulk and turned into rental property.

At the same time the supply of new housing is limited by rising labor and materials costs and well-intentioned NIMBY governmental zoning policies that cause a shortage of buildable land.