So, the idea of investing in real estate long term intrigues you. You aren’t looking to get rich by next Wednesday with no money or credit like that guy holding the huge check in the infomercials. Instead, long term real estate investing makes rational sense. All it promises is that if you invest your hard saved capital into quality properties leased to great tenants you can pay them off over time and create a retirement income stream. And that income stream can give you the freedom to pursue the life you want – whatever that entails.
But that’s easier said than done. There are so many moving pieces to the long term real estate investing puzzle and putting them together can become overwhelming for an investor that’s just getting started. So overwhelming that it can keep that investor from getting started at all.
If only there was a step-by-step guide to start investing in real estate long term…
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Step 1: Evaluate Resources
The first step to reaching any destination is figuring out where you are. In your real estate investing journey that means you must take honest inventory of your resources.
Capital – I will be straightforward with you: Investing in real estate long term requires substantial capital. You don’t need to have all the capital you are going to need available at the beginning of your journey. But you will need sufficient capital to get you started on the first one. After which you can save more capital for the next by using your job income and by recycling some of your positive cash flow into capital. Buying real estate with no money can be done but it’s a suckers bet 99% of the time. There are exceptions of course, but usually it’s a path reserved for newbies who don’t know any better. Don’t let the sales pitch fool you: The costs of buying investment real estate with no money far outweigh the pain of saving the capital to buy properties the right way.
Credit – Same goes for credit. Any plan that involves the acquisition of multiple single family investment properties by default requires excellent credit if you want the best financing terms. Guidelines are a bit looser for the first three properties so you may get away with slightly less than perfect credit. But after that, it has to be above a 720 score. If you’re not quite there at the moment, this would be a good time to pull a credit report and start addressing and settling problematic accounts so your score can rise to that level. Any money spent towards this goal will be money well spent down the road.
Financing – At this stage, it would be greatly beneficial for you to speak to a Lender (bank, credit union, mortgage bank) and get per-approved. The time to find out about potential roadblocks is before you make a move on an actual property. If your Lender spots those roadblocks during the pre-approval process, you can do something to eliminate them now rather than have them cost you a property (or money) later.
Related: The BiggerPockets Mortgage Center
Income – A strong income is the foundation that supports your ability to acquire and finance multiple properties. When lending guidelines are tightened, they usually involve requiring the investor to qualify for the loan on the standalone strength of their income without counting on future or expected rental income. Most importantly, some investors make the mistake of quitting their jobs before they’ve completed all their acquisitions and find themselves unable to finance anymore properties.
Time – At first glance, time may seem like it doesn’t belong in this list of resources as most of us think we have plenty of it. But time is a huge resource. An investor that gets started in their early to late 20s has a substantial advantage over another who starts investing in their 50s. So don’t discount time because it’s a precious resource.
Knowledge – Finally, when you invest in real estate long term you should run it like a business. And to run a business properly you need knowledge of what determines success in that business. Likewise, you must come to the table with a sufficient body of knowledge about long term investing. Often, I see investors who completely defer the knowledge aspect to the “expert” they are working with and get burned in the process. Know the business before you step in.
Step 2: Build Your Plan
Zig Ziglar had a great quote which I love: If you aim at nothing, you will hit it every time. I know that sometimes it feels like you just want to go out there and get started. But if you build a plan before you hit the pavement you could save yourself years you might spend going in the wrong direction. Your plan needs to provide important answers to these questions:
What’s the income goal at retirement?
How much time do you have to get there?
How many assets must you acquire to get there?
How much capital will be required to make these acquisitions?
How long will it take you to make these acquisitions?
How long will it take you to pay them off using cashflow alone?
Some of those answers must come from you at the beginning. For instance, the income goal at retirement is unique to each investors situation. This goal can be fluid over time but it must be specific at the onset. Other answers will depend on the market you will be investing in and the typical properties in that market
Step 3: Identify Target Market and Properties
We have come to the moment of truth. Take an honest look at your local market. Does it really offer good opportunities for long term investing? Or let me ask you the same question a different way: If you lived in another state, would you invest in real estate in your local market? If the answer is yes, you happen to live in a location that offers great opportunities. Be thankful for this and take full advantage of it.
If the answer is no, you should explore the possibility of investing out of state and look at all vital market characteristics to make sure that market is suitable for long term investing.
Once you’ve determined the market you will be investing in, it’s time to figure out what properties you should focus on. The best advice I have for you on this topic is: buy the properties that your desired tenants want to rent. Most investors do this backwards. They find a cheap house in a mediocre location then they try to figure out how to attract great tenants to that home. Guess what? Your desired tenants don’t want to live there. A great investment property resides at the intersection of what great tenants want and what the investor needs in terms of return and cash flow.
Step 4: Execute Your Acquisitions
The first deal you do will be like a university course: You will learn so much! At the same time you will be very skeptical and will be second guessing yourself a lot. And you should be. At this point, investing in real estate makes sense to you in an intellectual level but you still require verification that the idea you have in your mind about how things will happen, actually materializes in real life. So three pieces of advice here.
- First, run conservative numbers. Don’t try to make yourself feel better about the deal by artificially sweetening the numbers. Err on the conservative side if you must.
- Second, ask lots of questions. Knowledge is the only way to gain the required confidence to execute subsequent deals with the coldness of a killer. So leverage the knowledge of people in your team that have seen your movie before.
- Third, go slow at first. Buy a property, stabilize it, verify that proforma fits reality than buy again.
A note of caution as well: Whatever you do, try to avoid one of the most common mistakes made by investors – bbsessing over price. Realize that when you make leveraged acquisitions price is only one side of the coin. Cost of capital is the other. If you buy a property for $160,000 with financing at 4% and another at 145,000 with financing at 5%, the first is cheaper than the second as far as your cash flow is concerned.
Once you’ve gotten past the jitters of the start and you’ve seen your strategy come to life in the first couple of properties then execute with focus and with purpose. Complete your acquisitions as fast as your comfort zone will permit.
Step 5: Build Your Capital Base
Once you complete your acquisitions, use the positive cashflow to fund an aggressive campaign to pay off mortgages and build your capital base in the process – one property at a time. If your portfolio contains many properties you might have properties being paid off at a rate of one every 18-36 months. Each time another property is paid off, you are receiving live confirmation that your investing strategy is working.
And, if you need to move the needle faster, invest monthly from your job income to pay them off quicker and reach retirement sooner.
Step 6: Enjoy your Max Cashflow
Once all your properties are paid off, you can take your victory lap and enjoy the fruits of your discipline and your focused intensity. You know you’ve earned it. You set a goal that seemed so unattainable years ago, you built a plan and executed. So now you get to reap the rewards. You’re free to do as you please.
Step 6a: Exchange/Exit and Explore New Options
As an alternative path, you may look at your much larger capital base and decide you want to explore the new options that level of capital can offer. Assets and strategies that were completely out of reach when you got started are now at your disposal. So, if something looks enticing, you can exchange/exit some (or all) your assets and make another move.