Buying your first investment property is a big step. You think you’re ready, but maybe you are still a little nervous. Everyone wants to get it right on the first one since this will help build confidence for the future. You want to make sure you have thought of everything, so you don’t get any unwelcome surprises. The best way to do this is to be well-organized throughout the process. If you have read our past blog articles on this topic, you know it’s important to have a clear vision of where you are headed, so you can stay on track. As you get ready to make that first purchase, make sure you can check off these six things from your list.
Before you get too set on a property, do your homework on location. Looking for an investment property is often different from looking for a house for yourself. You need to balance purchase price with how much equity you can expect to gain after you repair it. You also need to know which neighborhoods are “up and coming,” meaning they are going to be increasing in their desirability, and which ones are losing value. Most new investors want to be conservative on their first investment property, preferring to play it safe with a property that is in an area that is selling well. They want a property that needs work, but not necessarily one with extensive damages. Take time to find something you are confident you can handle. There will be more time for riskier ventures down the road.
Your budget will dictate a lot of your decisions in the process. When you are looking at financing the purchase price, you need to have a clear understanding of what you are agreeing to. Sometimes it is easier to start off with determining your monthly lease payment, and then calculating how much house that will get you. Just don’t forget about the other expenses that go along with carrying a mortgage, including:
All of these need to be considered in your budget. These can add up. You do not want to be caught off guard at how much that property is costing you while you are also managing a rehab budget.
Speaking of budget, don’t forget about the down payment. Your lender will work with you to determine how much you need to put down. Generally, you need 20-30% of the purchase price. Keep in mind that the requirements for income properties are not the same as for owner-occupied homes. You need a larger down payment, and you will likely be expected to have six months of living expenses in a savings account. These numbers can add up quickly.
All funds must be in your account 60 days prior to the bank checking your application. Closing costs and escrowed property taxes also need to be ready to go. If you are not sure you have enough cash on hand, work with your lender to confirm you will look good to the bank before the bank reviews your application.
Also on the topic of money: the bank will look at how much money you bring in, and compare that to the amount of debt you currently carry. To make matters a little more complicated, if you are currently self-employed, you are not allowed to declare 100% of your income. Your adjusted gross income (AGI) is great for tax purposes. But if it throws off your debt-to-income ratio too much, you may need to secure additional funds for the down payment. Or, look into paying down any other debt you are carrying.
Speaking of debt, knowing what is on your credit report is another key component of making sure your debt ratios look good to lenders. Your credit score and the details on your credit report make up a large portion of lenders’ decision-making. The good news is you have lots of options to access this information yourself, and you can take steps to correct any errors you find.
Once you are confident your credit report is where it needs to be, you can explore financing options, like traditional lending, hard money loans, and private financial backers. For your first investment property, you will probably want to stick with traditional financing. The interest rates are generally better, and the ease of getting approval is higher than with hard money loans. And until you have a proven track record, you are likely to have difficulty convincing private backers that you are a solid investment. However, you should explore all options and compare the pros and cons.
Understanding your likely closing timeframe on your first investment property is important. This will help you judge how soon your contractors can start rehabbing it, which in turn impacts how soon you will be completing final repairs, listing or renting it out, and closing on a sale or executing a lease. As we have said before, there are a lot of moving parts in this business. Certain things have to happen before other things can happen. Knowing your timeframe for acquiring the property will help you stay on track with the rest of the process.
While this is not an exhaustive checklist, if you have these six areas planned out in advance, you will be in a great position to get through your first investment property purchase without any major surprises. Things may not always go perfectly to plan. But when you know what to expect, you can handle any curveballs you may get along the way. Maintain great lines of communication with your team. They want you to be successful. Before you know it, you will be a full-fledged property investor.