You’ve done your research, you’re ready to become a real estate investor, you’ve decided rental properties are the way you want to go, and now it’s time to buy one. But what are you looking for when you shop for your dream investment property? Maybe you know, maybe you kinda sorta know, or maybe you are clueless. Either way, I have you covered.
Here is a checklist guide of things you need to make sure you have checked out before you sign on the dotted line.
But first, to clarify, different investors have different criteria when they are shopping for a rental property. In any one of these checklist items, you may be looking for something different from what I mention or suggest. That’s OK. The way this list works is not to tell you specifically what you should or shouldn’t look for with each item (although I will make suggestions), but more so it is to remind you that you need to have at least addressed the item before making a final buying decision.
For example, when I talk about knowing the market you are buying in, there are all sorts of market variations, and investors prefer to invest in all sorts of different markets for all sorts of different reasons. The point is not to tell you exactly where to buy, but it is to make sure that you at least address the market in which you are shopping and you have researched particular factors about it. As long as you are educated on the different factors of a market and understand the risks associated with each, what you decide to do or where you decide to buy is up to you. Again, the point is to just make sure you researched the market and know what you are getting into.
Understand? The key to remember is to always understand what you are getting into.
Here we go — checklist time.
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Rental Property Shopper’s Ultimate Checklist
What are the trends of the market you are considering buying in? We are looking more big picture here (we will get to the specific neighborhoods later).
- Is the market growing or declining?
- Are there a lot of jobs and diverse industry options?
- What is the general population like?
- Do people like the area?
All of these things contribute to two major factors — long-term rentability and exit strategy. For example, with rentability, if the market declines, eventually you are either going to have a harder time finding tenants for your property (increased vacancy periods, which are expensive), the tenant quality may decrease (bad tenants are arguably the most costly thing to a rental property), and/or you may have to lower the rental amount (which cuts into your cash flow).
For exit strategy, if the market declines, your property may lose a lot of its value (which cuts into your sales price), you may have a hard time selling the property if need be, or back to the lowered rents — if you either hold onto the property or were planning to hold onto it long-term, your numbers may be totally thrown off (in a bad way).
So find some solid evidence of growth. The population trends over the past 1, 5, 10, and 20 years is a good place to start. Look for a solid increase in population and not a decrease. Look up jobs stats. Make sure people are moving to that city, have work once they get there, and have reason to believe they will continue to have work there for a decently long time.
Now, however, on the flip side (not supposed to be a pun), some investors do very successfully invest in markets that most would not consider to be growth markets. Some of them are drastically declining. Well? Well then, what you have to do at that point, if you are choosing to invest in a declining market or unsafe market, is know what you are getting into. There are ways to make those markets work, but they can take a dramatic amount of extra care.
You are always taking on extra risk, so know exactly what those risks are. If you know them, and you understand how to help mitigate them, investing there isn’t necessarily bad. But don’t ever invest in a risky market having no idea the implications. See what I mean about what I said before about this checklist? It’s not to tell you what to do or where to buy, but it’s to help point out what you need to be up on and aware of as you go into it.
I talked about the market, but now it’s time to focus on the more specific location of the property. How are the neighborhood and surrounding neighborhoods? Even great markets have some bad sections. A neighborhood with a lot of vacant houses is risky, and a neighborhood with a lot of crime is obviously risky. If you want to get really fancy in your analysis, see how many of the houses in that neighborhood are rentals. While a whole neighborhood full of rentals isn’t by any means a deal-breaker, it can be suggestive of less desirable exit strategies than neighborhoods that have owner-occupied houses in them in addition to the rentals — mostly from a value standpoint. Again, not a deal-breaker, but look at things like that.
Also, is there a homeowner’s association? Not a deal-breaker either, but always take into account quality considerations. A neighborhood full of rentals with no homeowner’s association is typically riskier than a neighborhood that has a lot of owner-occupied houses and the neighborhood has rules that are enforced. Now, just as I said with the markets, the same thing about risky neighborhoods applies — some people are able to make it work, and if you want to buy in a riskier neighborhood, that is fine, but don’t do it without knowing exactly what the risks are and exactly what to deal with them. Also, one other note about neighborhoods — go visit them! Don’t trust a listing from the MLS to tell you jack about the neighborhood.
Oh boy, the numbers. Dear golly, make sure you know the financials of what you are buying. Do you know how to calculate cash flow? Even if you are buying a property only for appreciation and no cash flow, you should still calculate the (negative) cash flow. Be aware of how much you are expected to bring in or lose every month on the property you are eye-balling.
If you haven’t a clue what I’m talking about, here’s the short of it — the point of buying a rental property is to make money. Rental properties can bring in money in a few different ways, but the main income streams are monthly cash flow and appreciation/equity gain.
Monthly cash flow refers to how much money you pocket, or don’t pocket, each month after your tenants pay rent and all of your expenses are paid. You should always be aware of what you are projected to bring in or lose each month, regardless of your strategy. For help on running the numbers for monthly cash flow, check out “Rental Property Numbers So Easy You Can Calculate Them on a Napkin.”
In addition to knowing what kind of cash flow to expect, I also mentioned appreciation/equity gain as another stream of income. Some people buy rental properties with appreciation being their only strategy for income. That’s fine if you do that, but if you do that, know that you are doing that. If you are willing to take negative cash flow each month while waiting on appreciation (which is typically the case for appreciation plays), be extremely smart about it. Don’t just dive in and assume a property will appreciate and you’ll be good. Ask the property owners from 2009 how well that worked out for them. At a minimum, understand what you are doing. For more information on buying rental properties for cash flow versus appreciation, check out “Investing for Cash Flow or Appreciation — What’s the Difference?” I’d say the two most important things for this checklist item are 1) Knowing the exact strategy for which you are buying the property and 2) Knowing the projected income.
Are you buying a flip or a rent-ready property? This again goes to knowing your strategy intention and knowing whether the property you are looking at fits into that. You could be straight up flipping a property, you could be BRRRR-ing a property (buy, renovate, rent, refinance, repeat), or you could be buying a property that you don’t want to have to put work into and you just want to rent.
Knowing which of those strategies you are doing is fairly easy, and knowing whether a property fits into your desired strategy is probably pretty easy, but make sure you confirm the condition of the property. Don’t buy a rental property for a BRRRR thinking it only requires minimal upgrades. Similarly, don’t buy a property you are hoping is rent-ready and find out that you have to cough up a tremendous amount for some large repair. Find out the condition of the property via hiring a licensed property inspector.
Know the condition of the property before you buy it! Like, for real. Inspections don’t cost much, so there’s no reason not to. In fact, go crazy and hire two inspectors if you really want to confirm the true condition. Know everything there is to know about that property before you sign the papers. Once you know the exact condition, know as best you can what it will take to overcome whatever the issues are. Don’t go into this blind or you are in for a long road — both for your sanity and for your wallet.
Now you know about the market and the neighborhood you are buying in, the numbers are checking out, and you have detailed inspection reports on the property and solid estimates for how long it will take and how much it will cost to fix it up. After all is said and done, are you sure you can rent the property out? Why couldn’t you? Well, sometimes things just happen. One thing you always want to confirm long before you even get crazy-serious about a property is whether or not it’s in a neighborhood with a homeowner’s association that limits or prohibits renting. You might not even be allowed to rent it out! Whoops!
Past that one, though, you just want to make sure there aren’t any weird reasons why renting out the property might be difficult. I had this happen to me, believe it or not. I say the believe it or not part because I can’t even believe it’s an issue. If you want to read the story, check out “Is There Such Thing as Buying Too Nice of a Rental Property? (Hint — The Answer is Yes).” You couldn’t have paid me enough to have even guessed something like that could be an issue. Since that issue on that property, I now think a good due diligence item for any rental property is to call a couple property managers who work in the area and ask them their opinions on the rentability of that particular property.
- Do they believe it to be fairly easy to find decent tenants?
- Is the projected rent feasible?
- What’s their overall impression of having a rental property right there?
Don’t harass any of them with too much detail without offering to pay them something, but it’s worth a couple calls. Just make sure that all of the rest of the stuff you checked out doesn’t go to waste because of some wild factor you wouldn’t have thought to consider.
That’s all I’ve got for now. I think those are the basic checklist items. Check all of those out — at least be familiar and educated with each factor and know what you are buying for and getting into — and you’ll have some decently solid footing getting started on your rental property investment journey.
Experienced investors — did I leave anything out? Anything else you think is a must-do when considering a rental property?
Leave your comments below!