I get asked quite a bit what I look for when I’m shopping for a rental property to buy. How do I know what I want or what qualities to be concerned with and which ones not to be? Here is my very basic list of things I think about when buying rentals.
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Considerations for Buying a Rental Property
- Source of the property. I’m immediately suspicious, especially in booming markets, of any property that has been on the MLS for more than a couple days. Inventory for investors is so thin in some markets, such as Atlanta and Houston, I guarantee if a property is listed, and especially if the price has been lowered, something is wrong with it.
- Price. A house’s price says a lot about its condition and value. I don’t buy cheap because I don’t want the problems or risk that are more likely with cheaper properties. If an investment property is listed around market value, I don’t necessarily mind. It depends on what I’m getting for the money. This is more specific to turnkey rental properties.
- Macro-market. What city do I buy in? I go for cities that offer cash flow plus appreciation potential. Cash flow is all that really matters, but if properties are similarly priced I want to go for the market that shows signs of impending growth. The good markets to buy in will always be changing. Phoenix used to be great, but the numbers there typically don’t work anymore. Atlanta took the reins after Phoenix and there are still deals there, but they are finishing out. Houston is taking Atlanta’s place now. Those are cities that are, or were, great for cash flow and appreciation potential. Cities in Ohio, Michigan, and Indiana for example, are great for cash flow but not so likely to appreciate like a lot of others.
- Micro-market. Where within a macro-market do I buy? What neighborhood? First of all, you won’t be able to buy in the nicest areas of a city. For numbers to work, you’ll be looking at the more middle-of-the-road areas. The price-to-rent ratios just won’t work in the fancy neighborhoods. Once in the areas that make sense for numbers, I love to buy in primarily owner-occupied parts of town or neighborhoods, but renter-heavy is fine too. Some people worry about school districts, because being in a good district is good for allowing a property to hold value. However, I would not rule out a property just because it isn’t in a particular school district. Vacancy rates are good to know, as well as average income. I don’t look at crime rates because I’ve never seen a crime statistic that was ever very representative of the actual safety of an area. If I trusted reported crime rates I would never live in Venice Beach where I leave my door open and unlocked when I’m not home.
- Cash flow. I should put this one at the top of the list. Actually I should put it at the top of the list, in the middle of the list, and at the end of the list. If there is no sign of positive cash flow from a property, it’s time to bail. The numbers should be #1, always. There should be solid reason to believe there will be positive cash flow on a property in order for you to buy it. None of this “well the area is anticipated to grow a lot!” No, if there is no cash flow, steer clear. Don’t fall into the trap of the crystal ball of appreciation.
- Cap rate. Similar to cash flow, but now we’re talking a specific rate of return known as a “cap rate.” Understand that cap rates are much lower than they were two years ago. Don’t fool yourself into being fixated on getting a 15% cap rate. It won’t happen unless you have some killer inside contacts. Understand the trends and markets before you scream about what cap rate you require in a property.
- The % “rules”. Use them as a guideline, nothing more. Nothing grinds me more than hearing someone starting their shopping with the strict requirement that a property meets, say, the 2% rule. Requiring that rule be met is ignorant. For one, it may not be realistic in a particular market at all so it shows immediately your lack of research, and two, if you are so focused on meeting one of those rules you are most definitely ignoring other important factors that go into a good rental property.
- Condition of the property. I only buy turnkeys for myself, meaning they are fully rehabbed when I buy them, so I can’t speak for condition considerations very well, but my best advice is to make sure you are as confident as possible about the actual condition of the property before you buy it. You don’t want any surprises. A good home inspector is your best friend.
These are the things I can think of just off the top of my head that I consider when buying rental properties. Obviously I’m leaving out details on a lot of those points, but this list is just to get you started. I’ll probably think of other things once the comments start coming in.
What do you look for when shopping for rental properties?