| Your Complete Guide to Buying an Investment Property
Buying an investment property is a huge step both financially and emotionally. It can seem overwhelming at times. However, if you break the process down into manageable steps, it will be much easier. Use this guide to help you manage this process.
Step 1: Determine How Much You Can Afford.
Before you start looking through listings in the hope of finding the perfect property, conduct a personal audit of your finances. Taking a serious look at all of your finances will prepare you for this huge step. You will be better able to know how much of a house payment you can afford and if you can cover the ongoing expenses of owning a home. A self-audit of your finances includes these three steps:
- How much savings do you have? Before you consider purchasing a home, you should make sure you have a solid savings plan in place. You also need to have two to four months of living expenses already in savings. These funds can help pay some of the initial expenses like a down payment and closing costs. Lenders will want to see that you are responsible and have a savings plan that works.
- What does your current spending look like? It’s important to know how much you spend every month. You also need to know exactly where your money is going. This step is essential for calculating how much of a mortgage payment you can afford. Make sure to account for all of your expenses, including everything from utilities to groceries and clothes to student loans. Count retirement funds, regular savings, entertainment, and kid’s activities.
- How is your credit? To qualify for a home loan, you will need a good credit score, a solid history of paying bills on time, and a debt-to-income ratio (DTI) of about 43%. Lenders usually consider the ongoing expenses of owning a house to be about 1/3 of your monthly gross income.
Step 2: Find a Real Estate Agent.
Most people work with a real estate agent when purchasing a home. They are your representative and will look out for your best interests. An agent will help you find homes with the features you want, help you get showings, and help you make offers and negotiate. You generally do not have to pay for a Realtor’s assistance. The seller pays them a commission, usually about 3% of the purchase price. Real estate agents know how the process works and offer their help as you work through the steps of making the purchase. Some of the ways a real estate agent can help you when purchasing a home include:
Knowledge of Market Trends: Agents identify home value trends, buyer demand, the overall state of the market, and new developments.
Price and Value: An agent knows what a home is worth and can help you with a reasonable offer price.
Negotiations: They will know when a lower price is appropriate and argue to negotiate prices based on repairs needed or other contingencies.
Insider Tips: An agent is familiar with localities and can offer tips about schools, neighborhoods and how those may influence property value.
Professional Recommendations: If you need a lender, contractor, attorney, or another vendor, an agent will make referrals.
Experience: The agent is familiar with the process and brings their expertise to the table to help handle the process and oversee paperwork to ensure you stay ahead of due dates.
Step 3: Obtain a Pre-approval for a Mortgage.
Getting a pre-approval from a lender removes a lot of the hassles from the home buying process. Your lender will provide a pre-approval letter stating how much you are approved for. This will be based on your credit standing, income, and present assets. The pre-approval letter will help your agent find homes within your budget and proposed loan amount. Having a pre-approval also sets you in a stronger position when it comes to multiple offer situations as well.
Step 4: Conduct an Investment Property Analysis
With the opportunities being endless, most new investors feel overwhelmed in finding what type of decision is best for them. This is where having a professional realtor will help guide you through this journey. Key areas to consider when purchasing an investment property is location, property type (single family vs multi familty, house vs condo), and your ideal tenants (student rental vs family rental vs vacation rental). Understanding these perameters will establish what you are comfortable dealing with and will aid the agent to find you the ideal home.
Investment properties generally have two sources of income, the cash flow on a month to month basis and the capital gain you receive upon selling the property. Your goals on which you value more may have an impact on where you are seeking your property (new build regions vs established communities). The next step is running the numbers, a process where you compute all the revenue streams and expenditures of having this property to see if it is a viable investment. Many find efficiently computing these numbers difficult, so I have created a free investment property calculator on Excel. Fill out the form below and I will happily send you it through email!
INVESTMENT PROPERTY CALCULATOR
Step 5: Start Viewing Homes with Your Real Estate Agent.
The agent will recommend properties that have the features you want and are within your budget. Don’t get discouraged if you don’t find the perfect match right away. You may need to look at several options before finding the one that is right for you. Most of the time, the agent will have a handful of homes for you to preview to see if you like them or not. Be patient; your agent will help you find what you want. You may see several homes so it’s a good idea to take photos or videos so you can remember each one.
Step 6: Make an Offer.
Once you are sure of the home you want to buy, work with your real estate agent. They will help you negotiate an offer based on the fair market value of comparable homes in the same neighborhood. When you and the seller agree on a price, the home goes into escrow while the home buying process gets completed. Don’t get discouraged if the offer doesn’t work out. Sellers have the option of rejecting or accepting offers. Sometimes, several offers are made until successfully closing on a home. Once you make an offer, several things can happen.
The seller may accept the offer, and you’ll begin the process of finalizing the paperwork to complete the purchase.
The seller may reject your offer.
The seller may counter back with another offer. They may not like the price or some other part of your offer. They will request changes and then accept the amended offer.
Step 7: Schedule a Home Inspection.
If you know a home inspector, you can hire them to conduct the inspection. Your real estate agent may also be able to recommend a reputable inspector. Having the home inspected will give you a better idea about the inner workings of the home. After the official inspection, you’ll be given a detailed report with the findings. Discuss these with your agent. If there are issues found that are more than just a cosmetic problem, negotiations can be reopened. The seller can be asked to fix any issues before closing on the house. Sometimes, they will give you credit so you can make the repairs after you have made the purchase.
Step 8: Complete the Financial Paperwork.
Once the seller accepts your offer, you will work with your lender to complete the mortgage paperwork. The lender will usually request an independent appraisal of the property. This step protects both the lender and you. It’s important to ensure that you are getting a fair price for the home. Three things can happen after the appraisal.
The appraisal matches what you offered, and the lender will clear the loan so you can close on the property.
The appraisal is more than what you offered. This will indicate you are getting a good price for the home, and that means you’ll have instant equity.
The appraisal comes in below your offer. In this case the lender will not approve the full amount of the loan. You may need to make up the difference or try to renegotiate with the seller to get a better price.
Once the lender approves your loan, they will arrange for a title company to handle the paperwork. The title company will check to make sure the seller has the right to sell the house. Once the title search has been completed, you will pay your down payment and closing costs. Then you will sign your mortgage and get your move-in date.
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