There is a lot that goes into a rental property purchase. Too many investors will only look at the rental amount and assume a property is a strong candidate. While generating solid rent is critical, it is far from the only criteria that should be accounted for. Numbers are at the heart of everything you do in real estate. When considering a rental property purchase, there are plenty of numbers that must be examined. One oversight in any of these areas can completely change the way you view the property. Before you buy your next rental property, be sure to look at the following:
1. Acquisition costs: One of the factors that impacts your monthly cash flow amount is the acquisition price. Rental properties don’t follow the same 70 percent rule that rehabs do, but price is still critical. Most investors need to see strong, positive cash flow numbers before they will consider purchasing. If you over pay for the property, it throws the numbers out of line. One of the ways to create cash flow is by putting an increased amount down prior to the payment. This works for properties that you intend to hold for the long term, and if you have available capital. If you are looking to only hold the property for a few years, it will occupy a good amount of your capital to invest in other areas. You may not need to get the huge rehab discounts, but you do need to get the property at the lowest price possible.
2. Rent: The second thing to consider when looking at monthly cash flow is the rental amount. This is an area that requires you to do your homework. You can look at the most recent rents on the property, but they may not always give you a realistic number. On the flip side, you can’t assume that any work you do will instantly increase the asking price. You need to look at what other properties are on the market for and how they stack up to your property. This is what renters will do when they search for properties. They may like certain upgrades and amenities that your property offers, but probably aren’t willing to overpay for them. You should know everything about the rental market. There should be no doubt as to what your rental amount will be. Every decision you make on the property is based on how much rent you generate.
3. Expenses: Most new investors know that, in addition to the mortgage, you also need to budget for property taxes and insurance. This is only the tip of the iceberg, with regards to rental property expenses. As the owner, you also need to pay for the water/sewer, lawn care, snow removal, seasonal maintenance, local application fees and possibly garbage removal. Some of these may not apply to your specific property, but most of them will. It is easy to overlook a water bill that is paid quarterly, but it is still an expense on the property. The same is the case with the lawn maintenance and snow removal. You may think that you will handle these on your own, but after trekking to the house a few times you may quickly consider. These expenses will directly eat away at your bottom line and will tell you just how attractive of a property you are looking at.
4. Unexpected repairs: One of the things that will get landlords in trouble faster than anything else is not having reserves for repairs. Regardless of the property or the tenant, unexpected repairs will come up from time to time. Smaller items like clogged toilets and broken appliances are the norm with most tenants. These items will not break the bank. It is the furnace or leaky roof that can present real issues. Instead of spending a hundred dollars, these can cost you thousands. Without reserves to take care of these items, you will be left scrambling. You will either be forced to borrow money at high interest rates, apply for credit cards or ignore the problem until it gets worse. Doing this leaves you without any income coming in. You need to factor in reserves with every rental purchase you make. If not, you are only asking for trouble.
5. Improvements: Before you can even get tenants into the property, there are often upgrades that need to be made. You don’t need to do as much work as you would on a rehab, but you can’t simply put perfume on a pig either. Renters often judge the property based on the appearance and the amenities. If the property is dated and old, it will not get as much of a return as something fresh and new. This repair budget needs to be addressed even before you make an offer on the property. You will eventually recoup some of this back, but it needs to be in place before you can find a tenant.
Rental properties can be a huge addition to any portfolio. There is a lot of due diligence that needs to be addressed before you even make an offer. In working on these areas, you will have a good idea of exactly what you are buying.