Buying an investment property can be a smart financial decision. Do it right, and you can get a strong return through passive income, tax breaks, and equity gains. But a big return on your investment is not a guarantee—you need to think strategically when choosing and purchasing your investment property, and to work in line with both market trends and the general guidelines that dictate whether your investment is poised to succeed.
If this is your first time venturing into the world of investment properties, then it’s normal to feel a bit overwhelmed by the process. There is a lot to consider, and a lot on the line, too. Whether you’re planning to buy a vacation rental property, a condo in the city to rent out year-round, a commercial investment property, or some other type of real estate investment, you need to go in with a clear head and a strong understanding of what makes a good purchase
How to Plan Ahead Before You Invest
Before you buy your first investment property it’s important to prepare both financially and mentally. Whether you plan on being an active or passive real estate investor, a fix-and-flipper, or a long-distance owner of turnkey rental property, be sure to keep these important things in mind:
1. Do your research:
No matter your goals, you should do your homework before buying your first investment property. Make sure the potential property’s location is one that will attract the type of clients you are hoping to sell or rent to and that it will bring you the returns you are expecting. If you do your research and use a logic-based approach, instead of simply listing your personal likes and dislikes, you will find the best property for your investment needs.
2. Look at potential profits and expenses:
Before you invest, calculate how much you will need, versus how much you have—which will tell you how much you need to borrow. Then, look at how much it will cost to renovate the property, operate it, and how much you plan to rent or sell it for. These calculations will give you an estimate of how much profit you stand to make or how much you can make each month.
3. Unexpected major repair bills:
When you buy a property from a private seller or off the MLS, you run the risk of facing large and expensive repairs. The air conditioning or furnace could go out, or you could have a major plumbing repair that can only be fixed by a high-priced licensed contractor.
To avoid getting caught off guard, set up a capital reserve account for any emergency repairs, or purchase a turnkey investment property that’s been thoroughly pre-inspected and already occupied by a good tenant.
4. Vacancy rate higher than planned: Sometimes, due to local market conditions, it can take longer than expected to find a qualified tenant. In the meantime, items like landscaping, property taxes, and the mortgage still need to be paid.
When you put together a pro forma financial statement on your first investment property, try ‘stress testing’ it by experimenting with different vacancy rates. Creating different vacancy scenarios will give you a good idea of how much cash you’ll need to hold in reserve if the property sits vacant longer than expected.
5. Seek Help You Can Rely On
Turning a profit from an investment property can at times be a full-time job. A property manager can help ease the burden, doing everything from managing the day-to-day issues to helping you select new tenants, and reviewing rental costs. The best thing is they are usually paid as a percentage of rent collected, so if you’re not making any money they won’t cost you any money.
6. Always Get an Inspection
Never (and I do mean never!) buy a home unseen. Even if I know the neighborhood and can view hundreds of photos online; Even if the price is so low that I know it’ll be scooped up quickly if I don’t act immediately, I don’t make an offer on any property unless I’ve walked inside it personally. A seller isn’t going to post the picture of the standing water in the basement corner.
What Makes a Good Investment Property?
A rule of thumb most investors use when evaluating a property’s rental viability is the “1% rent multiplier rule.” The monthly rental income must be equal to or greater than 1% of your initial investment. So, if your total cost to get the property rent-ready (purchase price, closing costs, renovations) is $150,000, the property should rent for at least $1,500 per month, net of HOA or condo fees.
Of course, real estate markets vary widely across the country. In some metro areas, it’s common to be able to get a rent multiplier well over 1%. But there are many locations where it’s challenging to get anything close to 1%. In such areas, what makes other factors may determine a good investment property.
Finding the Best Rental
When it comes to buying a rental property, working with a real estate agent, or getting advice from other professionals is often in your best interest—especially if this is your first time. This allows you to ask questions that might arise and learn from the mistakes of others. You may still run into challenging situations, but you’ll at least have some guidance on the best way to handle them.
Investing in real estate has its risks, and you can either make a lot of money on the venture or lose it. Make sure to give yourself the best chance for success by knowing what you are getting into.