Building passive income is a necessity for those in search for financial independence. Unless you intend on winning the lottery or getting a huge inheritance, you’ll have to think in terms of return on investment. For my husband and I, buying our first rental property last year made perfect sense. While purchasing real estate always takes careful consideration, hopefully learning from our successes and mistakes will help those who are looking to become first time landlords.
About two years ago we were swimming in credit card debt and working all the time to make our payments. Changing our mindset about debt helped us crank up our earnings, cut spending, and pay off the consumer debt. If you are barely getting by, regardless or your income, you shouldn’t be thinking about investment property.
To get a mortgage for an investment property, you will have to put at least 20% down. Many lenders also require that you have cash on hand for six months of mortgage payments in case you can’t find a renter. I actually think this is a great idea. Just because you have a place doesn’t mean people will be lining up to rent it.
When you are buying a house to live in, it’s OK to fall in love with a property. You might love the architecture or how the sun sets out the kitchen window. While it isn’t horrible to look at a rental this way, first and foremost you need to think like a tenant. What did you care about when you were a renter?
Pay attention to the type of tenants you are hoping to attract. In our area, we tend to have blue collar workers. If you are in a college town, it might be students. If you are in an expensive suburb, it might be young professionals.
Don’t buy the cheapest house in the worst neighborhood if you are afraid to drive around in the area after dark. Look for neighborhoods where tenants would like to live. Likewise, if your tenant pool consits of young families, things like a washer/dryer and dishwasher would be more important than the ability to walk to the nearest bar.
In your primary residence, you might choose to buy a fully renovated house to avoid repairs. This is fine for a rental, but it will cost more. We chose to buy a house with a good floor plan that needed major cleaning, painting and mostly cosmetic work. Look past the dated furnishings, grease on the walls, and pink paint throughout. Could you make this a place where someone would want to live? I would set a renovation budget before you start looking and add 10-20% just in case. If renovations will break your budget, move on.
We had a self-imposed month deadline to finish renovations and have the place ready for rental. My husband and I were working full time, so we had to become weekend and evening warriors. It is NOT fun to go from work to spending several more hours at a rental, but you can do anything for a month, at least that was our motto.
We were very cost conscious, but also knew we had to hire an electrician to replace outlets and baseboard heaters and a technician to install the new gas stove. Blowing up the house was not in the budget. We also hired out the majority of the painting. All of the walls and cabinets were covered in years of nicotine stain. It would have taken us weeks to finish.
This is probably the most important question to answer. Can the rent you will receive cover the cost of mortgage, insurance, property tax, and any bills that fall as landlord responsibilities? Some property owners are comfortable with breaking even, but we wanted more of a cushion for future repairs. Our rental currently nets $330 a month in excess of liabilities, which is right where we hoped to be.
This was the hardest part for us during our first rental purchase. We looked at several properties. The one we eventually purchased started out very overpriced with some major plumbing issues. The owner would not budge on the asking price. It sat on the market for months until the seller fixed the plumbing and lowered the price. Suddenly, tons of people were interested. We made an offer within 24 hours and got the place we wanted all along by being patient but ready to go when the right opportunity arose.
We thought potential renters would be able to see past the renovation debris and would be beating the door down to live there, but this was not the case. We had several possible tenants who came to view the property before it was ready, but no one could see past the ugliness of constuction. We were worried that the rent was too high or that we had made a mistake, but after the place was finished, it rented pretty quickly. However, it was still one month later than we hoped. It’s hard to be patient when it’s your money on the line, but sometimes you have no choice. If it’s going to send you to the ER with an anxiety attack every time there is a snag, rental property ownership is probably not for you.
Buying a rental property can be a wonderful way to generate (almost) passive income. (It certainly didn’t seem passive when I was scraping black goo off the refrigerator!) I’m sure we will have many more “adventures” with this property, but it certainly has been worth the effort. If you are hoping to purchase a rental property, hopefully these tips will help so that you can move forward when you find the perfect investment.
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