Buying Your First Investment Properties
One of the things that you want to do as a new investor is plan on doing some research. What you want to be looking at, when you are considering a property is what kind of rents that property is going to bring in your market. You can go to HUD (Housing and Urban Development) http://www.huduser.org/portal/datasets/fmr.html website. They have actually have some good information. You can pick up the brochures and the rental guides at the grocery stores or you can look online. But you want to make sure what the rent is realistically going to be in the market when you are thinking of purchasing an investment property.
The rents are only one part of the equation. The other part of the equation is expenses. Now, in the expenses you are going to have something called PITI (payment-interest-taxes-insurance). If you have purchased a home, you probably heard that term before. The payment obviously consists of not only the interest you have paid on the borrowed money but also a small amount of the principal on the loan each month.
On a thirty year loan, when you start making a payment, the amount that goes to principal is extremely small. The amount of the payment that goes to interest is extremely large and it decreases slowly through your payment period. Over time you start to pay down the principal and you pay a bit less interest each month. However, you are going to pay more on interest than you are going to pay on principal for approximately 22 years of a 30 year warranty.
Some of the other things that you need to consider are taxes and insurance. Taxes generally go one direction i.e. up. In today’s market, property prices have come down in terms of what you pay. However, the government isn’t spending any less money, they simply raise the mill rate or tax rate per thousand in assessed value. You typically don’t get a whole lot of break on taxes.
Insurance prices vary all over. Some parts of the country, like Florida, the insurance premiums quadrupled after one of the hurricanes that came through several years ago. New flood insurance regulations could literally bankrupt those in flood plains so be aware.
Those are the types of things you should expect if you live in a market that has those types of risks. But insurance premiums have been going up throughout the country because insurance companies have taken major losses over the years. So, even in the places like Wisconsin and Nevada, which aren’t vey prone to natural disasters, you still are going to see your premiums going up. You have got to be aware of that.
Also, if you are buying a property where you will be paying the utilities, not the tenant, that can get to be a pretty big number. You can call the utility company and they can give you the monthly average, the high, the low, or what the building is averaging on a yearly basis. My advice is if you are buying a property as a new investor, try buying a property where utilities are divided, so that you can let the tenants pay for their own utilities. You will be a much happier landlord, and the tenants will use much less, when they are footing the bill.
I used to have an old home with one furnace. When I drove by in winter, the lower unit had the heat cranked up and the upper unit was so hot that they have the windows open. So, your tenants are literally dumping your money went right out of the window.
You also got to be aware that there are often municipality permits and license requirements. You need to make sure that the property you are buying is actually licensed for the number of units you have. A lot of times, people will convert their properties illegally, and if you buy it, it will turn out to be your problem.
In addition to that, you need to add in a vacancy factor. The problem is that a lot of people think they are always going to have a tenant, which is not the case. There are going to be months where there is vacancy. I always use 10%, which is pretty safe unless you are in a real soft market. You’re better off to use 10%, find it out its 5%, then to do the opposite and find out that you are losing a lot of money.
But the name of the game in real estate investment is Cash Flow. If you don’t have cash flow, you are going to be in big trouble. When the market was really hot, people were buying and the rents were not covering the expenses. They were relying upon the appreciation and the bigger sucker theory.
We have actually seen appreciation in some areas of the country already. Some areas of Florida, Nevada, Texas and Washington DC have actually started to rise quite nicely. Generally your coasts are among the first to recover but extremely hard hit areas had fallen so much that the cash flow was very strong, helping to bring those markets back.
Cash flow is the name of the game. After all the bills are paid you need money coming in if you want to be successful in investing today.
What it comes down to is mindset. You need to have the right mindset to deal with challenges. A lot of people, when they buy their first property, really don’t want to deal with tenants. They just want to take advantage of the income potential of rental real estate. They also want to take advantage of potential appreciation. But you will need to deal with tenants unless you want to hire management. If you are just starting out, I am going to recommend that you do manage your own properties for the first year or two. If you don’t manage your own properties, you can’t know if somebody is doing a good or a bad job managing them for you.
When you are dealing with tenants, be aware that there are a lot of laws, rules and regulations that you absolutely need to follow if you don’t want to get into trouble. But if you manage your tenants, treat everyone equally and fairly, you are generally going to be just fine.
After you have several properties a lot of people will use a management company to manage it. If you are going to use a management company, you will need to put that in the expenses. If you have a 200 unit apartment complex, you might have to pay 3-4% on a management fee. If you have a single family home that you want somebody to manage, they may charge you 10-12% of gross and they may charge you extra for finding a tenant. Management is nice. A lot of people say that they don’t want to a fix toilet in the middle of the night. Well, if you don’t want to worry about that (and it almost never happens), you can hire a management company.
If you want to be successful in real estate, my advice is you get a coach. We do coaching and we focus primarily on new investors because we can help them out with the process. Coaching is important if you want to get off to a good start because real estate can be a great investment, but if you are making mistakes, buying it wrong with no cash flow, it’s going to be a miserable experience.