With historically high rents being collected and expected to rise, we have several clients who have asked us to help them with purchasing investment properties. One client is interested in purchasing duplexes and triplexes, another only wants single-family homes, and yet another only wants town homes and condos. Some investors are open to any type of property that will make money, including doing “fix and flips.” Because of the increased demand for purchasing investment properties, I want to highlight some key points about the process of buying rental properties.
Start by answering the question: What is the purpose of the investment property? It could be for immediate cash flow, future appreciation, a place to park capital, balancing your portfolio, or a combination of all. When we start with the “why” question, it is easier to design a search, stay within budget, and achieve clearly defined objectives. We ask our clients to answer many questions to help them define their “why”, and we make it easy to answer this question. Nonetheless, it is mission critical to clearly answer it. One of the ways we help with this question is by using what we call a GROW Analysis. The pneumonic is explained below.
G- stands for “goal”. The more precisely and specifically you define your goal, the easier the rest of the analysis will be.
R- stands for “realities”. You need to list all the realities that affect your goal. What is your budget? What can you afford to borrow? When should you execute this plan?
What other realities affect this situation — there will be many.
O- stands for “options”. What are your options? In this part of the analysis, you want to invite creativity in your thinking, so pretend you have a magic wand and make anything happen. What you would do if time and money were not obstacles? List every option you can conjure.
W- stands for “way forward”. Out of all the options you listed above, and considering all the realities you identified, what is your best way forward? I use this GROW analysis for my business, investment opportunities, and all kinds of planning.
Once we understand the “why” using a GROW analysis, we tackle financing. Some clients pay cash and just watch for the ROI, however, the vast majority borrow the money to make their investments. We like to make sure our clients have an excellent mortgage broker or banker who can help them determine how much they can borrow. The financing piece is critical. Knowing how much to borrow, how much down payment is needed, and how long the loan approval process can take all help define the type of investing you can do. I refer to mortgage brokers as the quarterbacks of a real property purchase. If the money is not ready by the time of closing, it is all for naught.
Next, we are ready to have some fun. We design a search and start seeing properties that suit the stated objectives. Typically, one of the most important objectives is being cash flow positive or, at least cash flow neutral. Running the numbers of amount invested, HOA Dues, average rents and other key factors help determine if the property is a worthwhile investment. There are some great ways of determining how much rent a given property might fetch. In this marketplace, that is an exciting process. You can sometimes face bidding wars because the hot properties go fast.
Finally, once we find the property and get it under contract, the next major hurdle is due diligence. You want to be sure you do not have hidden surprises. We strongly recommend obtaining professional inspections, appraisals, improvement location certificates, among other things to make sure your investment will be a long standing rental.
All steps of this process are important. Each step must be taken in order while avoiding missteps. If you are contemplating buying an investment property, give us a call, or email us, and we will happy to assist you in asking the right questions.
Jon P. Terry, CMAS®, J.D.
Alaris Properties, LLC