Real estate investment can be a great opportunity financially, especially if you know what to look for in an investment property. There are many different types of investments and just as many financial goals to go along with it.
Over the years I have represented many investor clients. The majority of them have long-term goals in mind – purchase a well-maintained property at a great price, rent it out and let the equity build over the years. These are what I call “buy and hold” clients. I have also represented “flippers,” an investment category that has a lot of caveats and will only be profitable if you know what you are doing or have a reliable contractor who can walk you through it.
I am going to focus here on long term residential property investments, or “buy and hold” properties. Here are 5 tips to help you get started:
1. Sort out all the financial information. The first and most important step to investing is to figure out the financials. You need to connect with a mortgage professional (unless you are paying cash, of course) to find out not only what you can afford, but what your monthly payments need to cap out at to keep you in an income flowing position. This number needs to include mortgage principal, interest, HOA payments if any, taxes and insurance, as well as a maintenance budget and a vacancy budget (especially important if you are purchasing a property for vacation rentals).
2. Location first, then property. Not following this tip is a big mistake for first time investors. Keep in mind that it is not just a bargain you are looking for – the AREA is a major consideration as well. You need to look at appreciation and rental information in the areas you are considering for your purchase. Also keep in mind that location of course will determine rental value – this is important if you have the desire/opportunity to get into vacation rentals. You may find a good deal inland somewhere, but the rents will not be as high as what you can get if you purchase closer to the coast or in a desirable location. Pencil out all the numbers so you can see the profitability.
3. Get accurate rental information on potential properties. Find out what rent you can expect for properties in areas you are considering. Engage your real estate agent and find a property manager if necessary.
4. Factor in additional costs. Find out how much the current maintenance costs run annually. You will need to take into consideration the age of the property – is it getting close to needing a new roof, appliances; how about the plumbing and electric systems? Many of my investors like newer condos and townhomes because they do not have to worry about these things for a long time. If you are purchasing in a complex that has and HOA you need to study the financial information for the HOA and see if there are any assessments planned. The big ones are usually roofing, plumbing, exterior painting and maintenance. HOAs will assess property owners to get these items completed. Find out, especially in older complexes, what has been done in the last 5 years and what the budget will sustain moving forward, especially if anything has been identified as needing attention…which leads to the next tip:
5. Create an emergency account. Based on your research, you should plan to have about 2 months of payments for everything set aside, in case a tenant vacates and you cannot find a replacement right away. In today’s rental market, especially here in San Diego County, this is not so much of a concern but it still is smart to have an account for emergencies.
5. Understand the life cycle of your preferred location(s). This is another important factor. You need to know the phases of the areas you selected – are they slowly gentrifying or already there? North Park in San Diego is a great example – it has been transforming over the last 5-10 years and gentrifying. There are a lot of hip restaurants and shops, and many properties have turned over and are attracting a younger crowd. This renewal and regrowth will bring higher rents. The same is true of downtown Oceanside, which has been going through the regrowth and renewal process for about 10 years now. Those who invested 10-15 years ago in that area, when it catered mostly to the military and was not the tourist destination it is today, really made great investments. Rents are property values have soared.
6. Know the tax ramifications. It is important to consult with your accountant or financial advisor prior to purchasing investment properties. New tax laws could affect deductions and write-offs, especially if you are getting a loan for a San Diego property that is over $750,000. Make sure you understand what tax consequences you may face so you can factor them into your bottom line.
7. Buy with your head, not your heart. Most of my clients purchase property for themselves to live in, so the decision can be (and usually is) emotional. With investment properties you need to use your HEAD, not your heart. It is a completely different way of looking at the purchase. It is all about the numbers and not about falling in love with the property – in fact some investments I have sold were awful looking…but a smart investor sees the potential and knows through research that it will be a smart investment with a little TLC. You need to see the property from your future tenants’ perspective so that you can grow your wealth.