What to Look for When Purchasing a Rental Property
Investing in real estate has always been a sound choice for individuals looking to grow their financial portfolios. For years, the focus on real estate investment was house flipping—purchasing foreclosed or dilapidating properties at a low cost to remodel and sell at a significantly higher price. This process was such a focal point of real estate investment that multiple television reality shows were dedicated to the practice and coaching workshops across the country began to pop up in increasing numbers.
While flipping houses is a solid way to make an investment in the real estate business, it is not the only way to create a substantial financial gain in the industry. In recent years, rental properties have been taking the lead in profits when it comes to real estate investments, especially when purchased in metro areas showing documented high return on investments. With the influx of turnkey properties entering the market lately, rental property investment is often easier and cheaper for first-time investors and lowers the potential for loss in the long-run.
Of course, with any investment, you have to know what to look for in order to truly capitalize your gains and minimize any potential risk factors. When it comes to purchasing rental properties, there are a few key elements that any investor needs to look for before signing a purchase agreement.
When you’re purchasing a property for rental purposes, you need to think like a renter. Is this a quality neighborhood that will attract tenants? It doesn’t matter how beautiful the property is or how low the purchase cost was, if the area is undesirable or inconvenient you’ll have a hard time finding and/or keeping tenants.
What are the ratings of the nearest schools? As school zones are often decided by a parent’s residential address, you’ll want to keep school ratings in mind when purchasing a rental property. To some prospective tenants, poor school ratings and/or reputations will be the deal breaker in signing any lease agreements. Poor school ratings in the area can also affect your final sale price if you opt to sell the property in the future.
Is the crime rate above or below the city average? This speaks for itself. In addition to reputation of the area affecting rental rates and property values, it can alter the quality of the tenants you end up with. Nobody willingly wants to live in a high crime area, so drawing in high-quality long-term tenants will be difficult if the documented crime rate is too high. High crime rates can also have a significant impact on the condition of your rental property, especially if vandalism and breaking and entering is high on the list of frequently reported crimes.
What amenities are nearby? While the majority of Americans these days have their own transportation, it is important to understand that not every tenant will have access to this. Finding rental properties near local transit will expand the list of tenants that will be interested in your property. If the property is within walking distance and/or a short driving distance to frequently used amenities such as parks, grocery stores, and gyms, you’ll have a better shot at keeping the property occupied.
When researching locations, keep in mind each area will have a different property tax rate. It is important to verify current property tax rates before purchasing, as high taxes can eat away into your monthly rental revenue and lower the return on investment you’ll receive.
Overall Investment Cost
Once you find a desirable location, it is important to keep your eye on the ball. When purchasing a rental property, you want to go with the lowest entry cost possible in order to recoup the investment quickly and begin earning a higher return on investment (ROI). Purchasing a rental property at a higher than average cost, or one that will require other significant investments, can be detrimental; setting your property up for failure and creating a dreaded money pit.
To avoid this situation, you’ll want to analyze the costs of the property in the long run. If you’ll be purchasing the property with a mortgage, you’ll want to take current market values into consideration. Will the mortgage payment allow you to keep your rental rates within the neighborhood average and still maintain a healthy cash flow or will you have to increase the rental price to meet your costs? What condition is the property in? If the property will need a new roof shortly or looks as if it may be in need of new appliances or heating/cooling systems, you’ll need to factor these into your overall cost before purchase. Looking for previous mold and/or water damage, structural integrity, and other such factors will also help determine if there will be any upcoming expenses that you wouldn’t have with another property.
You wouldn’t want to overpay for a toaster, so why would you want to overpay for a purchase as large as a house? It is important to make sure that the asking price of the house meets the fair market value. If you are purchasing the property through the use of a traditional mortgage, a bank will require an appraisal to ensure they are not going to lose their end on the property if you are unable to repay the loan. Generally, banks will not grant loans on homes that do not meet fair market price or are in areas that do not show a respectable home appreciation value.
If you are purchasing the property in cash, researching current market values is even more important as you won’t have the real estate experts at the bank deciding whether or not the home will be a money pit. In these cases, you should always hire an appraiser and a home inspector to ensure that you are not only getting a fair price, but you are not walking into any unforeseen expenses. While costly up front, this will prevent you from being stuck with a property you are unable to rent due to high monthly costs or unable to sell due to owing more than the home is worth.
When first stepping into the real estate investment industry, it is always worthwhile to consult and work with experts in the field. In addition to helping you muddle through the murky waters of purchasing a home, they can point you in the right direction in terms of desirable areas and fair market values. Some are even capable of helping to arrange future tenants or locate properties that already have standing lease agreements that can be transferable to a new owner. Regardless of your own experience with the industry, having the aid of a professional will help to minimize any additional risks or hazards, and create a higher ROI in the long run.