I’m always shocked at how many people are thinking about going into real estate investing or want to invest in rental properties compared to how many actually pull the trigger.
I don’t claim to be an expert, but as of now, I have a portfolio of five units and I’m looking for my next deal. The more deals I finish, books I read and investors I talk with, the more I realize how much I’ve learned and why people keep coming to me for advice.
I want to share my story in hopes of answering questions and giving you a real example of how to get started.
Started from the …
My start was as simple as it comes … I just needed a place to live.
After finishing my undergraduate degree, I moved back home with my parents to start my new job as a consultant in the Washington, D.C., area. It was going to be a way for me to save a lot of money, afford the new car I had purchased (such a mistake), and still be close enough to work. I had an above-average salary at the time, making almost $70k right out of undergrad (all those hours in the computer lab and economics library paid off), so I could afford to get a nice apartment with a view, but I hated the idea of spending the money.
A year later, I was ready to get the f*** out! I love my parents and I don’t regret the experience, but it was starting to get awkward telling women I still lived with my parents. It was even more awkward when they came to spend the night. But I saved so much money and knowing everything it allowed me to do in life (keep my house during the recession, afford my Master’s at MIT, invest in more properties), I’m so happy I did it.
But, as I was ready to move out, the idea of renting felt like wasting money. This was also a very different time. Right before the 2008 housing crash and recession, everyone could get a loan for 0% down, a low APR, and no out-of-pocket expenses for closing. At the time, all the 23-year-olds were buying homes, so why not me?
It was 2007 and I was living in Mitchellville, MD, a beautiful black suburb of Washington, DC. The real estate crash was just starting. Houses were losing value and prices were dropping. Foreclosures and short sales were picking up. And the truth behind subprime lending was being unearthed. Real estate was starting to enter a very dark period.
Sounded like an opportunity to me!
Rental Properties Ran in my Blood
Real estate investing runs in my family. After leaving our first home, my parents decided to keep it and rent it. Even with all its issues and bad tenants, that house helped put both my brother and me through college. This example of wealth creation with rental properties, coupled with my lifelong obsession with generating wealth and financial freedom, gave me an investor’s perspective on finding my new home.
While there are many reasons to buy a home, I wanted to make sure I was making a sound financial investment. First thing I did was read “Investing In Real Estate” by Gary Eldred, a great book for the time, but now I would recommend The Book on Rental Property Investing by Brandon Turner of Bigger Pockets. This armed me with a ton of basic knowledge about finding neighborhoods, projecting rental income, and the nuances of financing the purchase of my future rental property.
A pivotal moment was deciding what type of real estate investor I wanted to become. A lot of people think of flipping houses when they hear real estate investing. I knew I wanted passive income, like my parents, and wanted to buy and hold. Buy & Hold investing is buying rental properties for long-term cash-flow and appreciation. This worked for me because I wanted long-term wealth and I didn’t want the added stress of constantly finding properties and renovating them.
The most important thing it did was help me construct basic criteria to follow when looking for a home since I knew my home would become a rental property someday. The most important things I look for are the following:
- Priced Under Market
- Paying the right price for your home is how you guarantee your profit. Buying at the right price gives you room for surprises or hidden costs. It locks in your profit so you have options. If you pay the wrong price for a deal, it can be impossible to recover and make money.
- For me, this meant looking at short sales, foreclosures and houses that needed a little updating. I knew the savings would help ensure I was generating wealth with the purchase.
- Solid Rental Income
- Neighborhoods that are good for investment rental properties have a strong rental market. The area should be desirable and a great place to live. This helps ensure you can constantly find good tenants and keep your property rented.
- Everywhere I looked, I made sure to check the rental market for activity and high rents to be collected. I wanted to make sure that when I rented my home I would make a profit every month.
- Within my Budget
- Buying a house that is too expensive for a person’s income was one of the core reasons for the real estate crash of the 2000’s. People were being convinced to buy houses they couldn’t afford and then … everything exploded.
- I had a budget and I stuck to it. I had some money saved for a down payment (which I ended up not using), a solid job and a good grasp of what I could afford.
Back then I used Zip Realty (but prefer Redfin and Zillow now) because their realtors would pay you part of their fee as a refund. They also had a great online search tool (by 2007 standards). I looked for multi-units, condos, and single-family houses. I searched DC and Maryland trying to find a future rental property.
I learned a lot just visiting houses and talking to realtors. You start to understand what determines prices: things like floorplans, square footage, neighborhoods, renovations needed, etc. I saw triplexes missing a ceiling, duplexes in the hood, and condos with insane H.O.A. (Homeowners Association) fees. Each taught me something and helped hone my search.
Eventually I found my home: a two bed / two bath condo on short sale (house is selling for less than is owed to the bank…a sign of “distress”) in Largo, MD, three miles from my parents’ home. It needed a little work, but was walking distance to the subway and was next to several apartment buildings with good and high rents. It was selling for $30k under other condos in the same complex and it was nearby to family, in case I needed help once I eventually moved out.
I ran a lot of numbers. I wanted to make sure I was making a good investment.
- What will it rent for and will it cover my mortgage?
- How much money should I put down?
- If I go to grad school next year and need to rent, will I be OK?
- How long before I can sell and make a profit?
I wanted to know for certain that I was making a good decision. This was the most expensive purchase in my life.
Two years later, an opportunity to move to Atlanta would make me a landlord. This would officially start my real journey in real estate investing. However, making the transition wasn’t hard because I picked a property I knew could work.
After having had this condo for almost a decade now, I can look back to my younger self and say:
The economy changed (aka a recession), which lowered rents and increased vacancy. Property values (which I thought had stopped dropping) continued to drop much much lower. And I learned all about hiring bad property managers, the process to complete an eviction and how much repairs really cost.
Yet, even with all of those issues it will still make me money in the end. I was able to buy this condo with 0% down. With someone currently paying my mortgage and more, nearby developments (malls, new hospital, bougie grocery store) are raising property values and rents, and with a great tenant in place, I’m happy.
I learned a lot, which made the acquisition of my next investment rental property much smoother. I do believe in learning by doing and I was able to live through it.
There is one critical mistake I made. Heed my warning:
I underestimated the costs of repairs, maintenance and vacancy.
Now, I aim for rents that are 2x the cost of the mortgage. This leaves room for repairs, vacancy and property management fees. There were many other smaller mistakes, but this is the one that cost me. It’s actually the most important factor now when I look at new places to buy, leading me to open my searches for new rental properties to new states and cities.
Ensuring a healthy cushion for costs is the smartest thing you can do in ensuring success. Now I run every potential deal through my custom excel spreadsheet to estimate profit and return before I submit an offer. These basic rules of thumb lead my regular searches for new investment properties. Specifically:
Comparable rents are twice as much as the mortgage payment.
Comparable rents are 1% of the purchase price.
As you are looking at potential investment rental properties, these basic rules can help you filter the hundreds of homes that come up in your city. I use them when searching Redfin or Zillow for properties.
The point of my story is that it didn’t take a lot for me to get started investing in rental properties. And even though there were issues, I learned, survived and now thrive. If you are thinking about adding rental properties to your portfolio of investments, don’t be afraid. There is a lot to like and it’s not as bad as you think to get started.
Are you interested in real estate investing? Already have some properties and have your own story to share? Leave us a comment and join the conversation.
Damien is a Personal Finance Nerd and former Facebook Product Manager who started Wealth Noir to help others find wealth. He actively invests in stocks, robo advisors, and cryptocurrency … but loves real estate investing. He holds an MBA from MIT and a Comp Sci & Econ degrees from Unv. of MD. He’s a proud dad, which is his biggest accomplishment.