The allure of real estate investing is easy to grasp: it offers residual income, price appreciation, and the safety of owning a hard asset. As long as I can remember, I watched my Dad work very hard for long hours, always realizing he was doing this to provide a home for his family. I always considered my parents smart, they both worked hard and saved to keep us in a home they purchased. This was at a time when interest rates were 17%+ I consider myself lucky, most of my friends growing up did not realize this same luxury.
I learned growing up that owning assets — and real estate in particular — can be very difficult. The problem is that it’s very capital intensive, particularly for those who don’t already have assets. Tightening lending standards, which are arguably a good thing for the safety of the whole economy, further prevent normal people from acquiring rental property. Down payments can be as high as 40% for income property, which is a ton of money for 99% of Americans.
FHA is a great option, but may require that you live in the home, which puts you in an ethical tight spot if you want to rent it out. There is also a dearth of property available in many of the desirable markets around the country. I used to feel that the very idea of owning rental property was a sham — only rich people were able to afford it! The reality is that buying a good rental property is difficult but possible, which has since sprung me onto larger, more profitable deals.
I can only speak from experience, but I’m confident that anyone who is persistent enough can buy property using the steps below.
Step 1: Learn About Real Estate
In a lot of ways, this is the hardest part. You— yes, you — need to learn a ton about how real estate actually works. Be weary of the “How to” books, expensive weekend boot camps, local investors associations and especially personalized coaching from self proclaimed experts in (?) real estate investing. All you are really doing is paying an exorbitant fee for a book and the “charismatic speaker” of the week, whose expertise consists of spewing recycled information and overexciting otherwise mundane people at the local Holiday-Inn……. Don’t fall for any of it, I’ve read books like Real Estate Finance & Investments: Risks and Opportunities by Peter Linneman. The first time I read the book, I probably only understood about 25% of what was in there, but I kept working through it, and eventually I understood most of it. If I didn’t know a term, then I would look it up on Investopedia or some other site. You can figure anything out with Google.
I would also talk about real estate to anyone I could. I was fortunate, I was 25 years old, people were eager to “impart knowledge” on me; it was socially acceptable for me to be ignorant. I looked very stupid for a while, but I was fine with it. In one of my first conversations, I asked a good family friend to explain what a “cap rate” was, a term that any basic real estate person should know. I was a little embarrassed that I didn’t know the term, but I was glad that I wouldn’t make the same mistake again. (Look up “cap rate” right now if you don’t know what it is… like, now! Go!)
The most important part of conversations is to ask questions. This is not a time to regurgitate every page of the real estate textbook you just read. This is a time to learn how someone else made their money. The beautiful thing about real estate is that there are a ton of ways to make a buck (investing, brokering, research, tech, appraisals, renovations, etc.). There is a reason that real estate is a huge driver for the US and global economy — it touches every aspect of life.
Take a pay cut to learn. It may be by shadowing a friend, spending your weekends doing an open house for someone or taking an internship that doesn’t begin to pay off your student debt. It is really hard for someone to say no to an offer to work for free. I should know — I offered myself to just about every real estate person I knew after college. It is humbling, but it is worth it.
The last point to be made in this step is to really learn about real estate. I’m a huge fan of practical know how. If you know someone who is exactly where you want to be, then go and ask them exactly how they got there. It may be different for you, but you might as well get their story and learn what worked for them.
Step 2: Commit to Owning Real Estate
This is a crucial aspect of the process. I didn’t come from large piles of family money, and it took me years to be able to buy properties, but I knew that I was going to do it. No matter what it took, I was committed.
It’s becoming increasingly difficult for people to buy investment property for the first time. In many ways real estate is a game of rejection. I look at about 100 flip deals for every one that I’ve bought. That is a clean 1% success rate. I look at whether I got the task done or not. Embrace the struggle, and use it as motivation. If you are committed, then you will get it done – period.
Step 3: Develop a Strategy
I’m going to give you a strategy that I think is attainable for most people: Buy a single-family house with an investor, and rent it out for income and price appreciation. Focus on this strategy and this one alone. Don’t try and do flips, don’t try and buy apartments, don’t try and reinvent the wheel — just find an investor, and buy one single-family home…to start.
This step could also be called “focus”. You need to focus on achievable goals, and this is it. Trust me. Flips have a small margin for error, apartments require a ton of capital, and reinventing wheels is for fools.
Your strategy is to buy a property that will cash flow positively. This means that at the end of the year, your outlay must be less than the property brings back to you.
First, you must find a property:
- Go to Redfin or Zillow or some other listing site and look at what is on the market in an area that is less than two hours’ drive away.
- Click around until you find a house that may be a good fit.
- Once you find a house you think may work, you should then locate the agent’s phone number and other contact info. Redfin and Zillow will usually have the listing agent’s name. A quick Google search should produce their contact info — agents want to be found.
- Call the agent. Yes, on the phone. No, don’t email them unless they don’t answer your call. Human interaction is important in real estate because most people don’t do it.
Tell the agent you are interested in the property and that you would consider having them represent you. There is some ethical dilemma for agents who double-end deals (represent both the buyer and seller), but in my experience it is an effective way to get a leg up on a deal.
- View the property in person.
- Do this process until you find a deal that you like.
- Once you find a deal you like, make an offer. For our purposes, let’s say it ends up being $100,000.
Second, and once in contract, underwrite the deal:
- Go to rentometer.com and look up the property in question. rentometer is a site that aggregates rental listings on a map from several sites including CraigsList. It’s a convenient way to figure out how much your property will rent for.
Also, ask the agent you are working with how much they think the property will rent for. For our purposes, let’s just say it ends up being $1,000 per month.
- Figure out how much taxes are. Usually, it is a function of the purchase price, but it depends on the state, county and city. I would start out by calling the county assessor’s office.
Is it annoying waiting on hold? Yes, for sure. Do it anyway; you need to know exactly how much the taxes will be. Let’s say it ends up being 1.5% of the purchase price.
- Get an insurance quote. Call up any of the 6,000 insurance agents in your city (State Farm, Farmers, etc.), and ask for a quote. Say that you are an investor looking to buy a lot of real estate and that you want their best quote. Let’s say it ends up being $1,000 per year.
- Call a contractor, and have them give you a bid to fix up the property to a level where you can rent it. I won’t go into extreme detail on this part of it, but my general recommendation is to make sure things are clean and working — they don’t have to be new and swank. Let’s say it ends up being $10,000 total.
- You need to estimate maintenance. You should be conservative, and for that I will say to estimate $200 per month.
- You will need a good property manager, like Real Property Management, this will ensure shorter vacancy times, on-time rent payments and discounted maintenance rates.
- Lastly, let’s assume that you will have one month of vacancy, which would amount to $1,000.
- Enter all of this information into a spreadsheet like below:
|Purchase Price||$ 100,000|
|Initial Renovation||$ 10,000|
|All-In Cost:||$ 110,000|
|Professional Management (year)||$ – 1,700|
|Annual Rent||$ 12,000|
|Annual Taxes||$ -1,500|
|Annual Insurance||$ -1,000|
|Annual Maintenance||$ -2,400|
|Annual Vacancy (One Month)||$ -1,000|
|Total Expenses:||$ 7,600|
|Net Operating Income||$ 4,400|
Note: “All-In Cost” was calculated by adding “Purchase Price” and “Initial Renovation” cells. “Net Operating Income” cell, also known as “NOI,” was calculated by subtracting “Annual Rent” cell by “Total Expenses” cell.
Step 4: Find an Investor
I got lucky with this step. I was, however, also very prepared to lock down my first investor because I had done steps one through three. Here is my advice for finding an investor when you have no marketable experience: Always talk about your goal to buy real estate.
It may seem simple or arrogant or taboo, but it has worked really well for me.
I always talk about my goals in real estate when people ask what I am up to. I found my first investor for a single-family home at a bar after a high school basketball game. It’s a numbers game, and you just never know when you will talk about investing in front of the right person. This is also why it is so important to be educated, committed and to have a strategy. You need to sound smart when you talk about real estate and have a plan that people can see works.
Investors have a language that they like to speak. It includes terms like “ROI,” “Cash on Cash,” “Principal,” “Debt Service” and all other kinds of gumbo-jumbo. Learn the language, and then speak it, and you won’t have a problem finding an investor.
I’m also a big believer that good deals find money. This is why I’m suggesting that you get a deal under contract prior to finding an investor and not vice-verse. The steps could probably be switched, but this is how I went about it.
Step 5: Purchase the Property, and Get it Leased
You will need to create an entity with your investor, set up a bank account and likely file LLC docs in whatever state you are in. In reality, any state will d. Ideally, you will have already had a renovation agreement in place prior to closing. This will take away the uncertainty of the fix up cost.
At this point it’s time to bring in a property manager. Real Property Management offers unmatched service with the most competitive rates in the region and guaranteed service options, what is the “discount” property manager willing to guarantee?
It may cost more than you initially thought, but the reality is that the margin for error in a rental home is pretty high compared to a flip. This is why I recommend doing a rental first. There are differing views on marketing — some people will wait until the property is completely renovated. It really just depends on what market you are in and what your preference is. Real Property Management utilizes 100+ rental based websites to advertise vacancies AND offers a 60 day guarantee.
Final Step: Stay Persistent, and Always Keep Pushing
This is a simplified step-by-step process. There is a lot of intricacy that I simply can’t sufficiently cover in this piece. You will have difficulties, bad tenants, renovation problems and all kinds of other issues. Don’t freak out; work towards a solution, and never quit.
As long as you stay persistent, you will be successful. Owning real estate for the first time can seem a daunting and insurmountable task. I know the feeling all too well. I used to watch the shows on television where people would flip a house in a few weeks and make some enormous sum. Who wouldn’t want to do that?
The reality is that real estate can be a risky business for someone who is just starting out. Buying a single-family home and then renting it out is the safest way, in my opinion, to get experience and also make money. You won’t become rich in a week: this is a gradual process. You want to become wealthy, and that takes time.
The key to building this kind of long-term wealth is having compound interest work for you, not against you. Buying rental property is the most attainable way to do this. Will you implement this 6-step process? What, if anything would you add to my list?? How does your method of obtaining property differ?
As the largest property management brand in the country, Real Property Management is well equipped to maximize your investment, alleviate the daily burdens, and provide you with detailed communication along the way. What can Real Property Management do for you?
Matt Pelton is an Ohio licensed Realtor with 20+ years experience in residential and investment real estate sales, leasing, property management, BPO’s and providing pre-purchase consultations. Currently working as Sales Manger at Real Property Management. You can contact him directly via email or on twitter