What To Know About Buying an Rental Property Before First Your Home
Published on Jul 31, 2023Landlords
The traditional path for a “mom-and-pop” landlord is to buy a starter home, then convert it into a rental home after purchasing a second home. Or purchase your primary residence, then use the equity to purchase a rental property. Just because this is the more traditional path to becoming a landlord doesn’t mean it is the only option. You can buy a rental property even if you’re still renting. With rent increasing rapidly across the country and the potential to generate rental income, many people are considering buying rental properties before buying their first home. Let’s explore these investment strategies and all that they entail.
Key Reasons to Consider Rental Property Investment First
Investing in a rental home and purchasing a primary residence are two distinctly different types of investment for homeowners. For example, if homebuyer buys a primary residence, they are required to pay the mortgage, property taxes, repairs and any other cost associated with homeownership. All these payments are negatives on your own balance sheet. A rental home on the other hand, only has to pay for itself by collecting rent. So long as you have the start-up money, you can afford the costs you may otherwise be unable to afford for a primary residence. Investing in a rental property first can be a path to owning your own home down the road.
Currently the interest rates are high which may lead to fewer new investors, but that doesn’t mean it is a bad time to invest in a rental property.
Higher interest rates can drive down the home value and there is always the possibility of refinancing later if the interest rates go down. Unfortunately, it isn’t likely the interest rates go back to the extremely low rates that came during the great recession. However, if they do go back down, it will only increase the property value.
Advantages of Buying a Rental Property Before a Home
There are the obvious financial benefits to buying a rental property before buying your first home. It has the potential for passive income. It has the potential to build equity and give you access to more money from banks and private lenders, and other real estate investors. One major advantage of buying a rental home before your own home is that you might need to live in it one day. It may be your first home after you get married and have kids. It may be your retirement home after the kids move out and you need to downsize. This is a long term investment and as your own housing needs change, it allows you more flexibility. On top of that, if you need the cash to buy your own home, you can always sell it down the road and use the profits to buy your own home. When people think of buying a rental home, they often think of single-family homes but it is possible to make your first rental home a studio, or a one-bedroom condominium. One downside to purchasing a multifamily unit is the potential for HOA fees which can increase your operating costs. Whatever you decide to invest in could serve your own housing needs at different points in your life.
Potential Financial Benefits
Owning a rental property can be expensive and is a high-risk investment. You’re putting a lot of money up front for the down payment as well as any money required to bring the property up to market standards. You’re also on the hook for any other costs associated with homeownership, but collecting monthly rent can offset your mortgage payment, operartional costs as as well as fund any necessary repairs. If you’re patient, and well versed in the local housing market, it’s possible to buy a rental property that won’t just offset operational costs, but also create a positive cashflow that can be used to grow your business or as a passive income.
Learning the Real Estate Market
Like the stock market, value of homes increase over the long run. That doesn’t tell you about the story of each individual stock or guarantee that every investment will increase overtime. There are a lot of do’s and don’ts when it comes to purchasing a home and investing in a rental property first is one way to learn valuable lessons about real estate without putting your primary residence at risk. Buying and managing a rental home will give you valuable insight into all the nuances of homeownership without the added stress of maintaining your personal living space.
Risks and Challenges Involved
Buying a home can be overwhelming for even the most experienced investors. Buying your first investment property can be especially daunting. There is a steep learning curve with the potential for catastrophic errors and missteps. The learning curve itself may be the biggest challenge and there are only so many ways to accelerate that learning curve. One way to do that is seek out advice from those who have invested in rental properties before. Most people are more than willing to talk about their field of expertise and work. It’s possible you already know some people are landlords.
They can talk to you about all the risks and challenges of buying and managing a rental home. There are a number of things that can go wrong, especially with the internal workings of the property. Inspectors can only see so much and homes to degrade over time. Anyone who has invested in properties can tell you what they look for and how to mitigate any risks involved in purchasing a rental home.
Understanding the Potential Risks
The list of risks of homeownership is endless. Only so many of the risks are within your control. For example, you can do your best to make sure the home is properly maintained and not at risk of things like electrical fires, but you can’t control the local or national economy. Other risks that are out of your control are things like local population decline. If for some reason, there’s a substantial decline in the population it may impact your ability to find renters willing to pay rent at a price point that will cover your operating costs. Other risks out of your control can come from your actual renters. For example, your tenants could cause an electrical fire by daisy chaining surge protectors and extension cords. There are ways to mitigate many of these risks, but there is no way to eliminate them entirely.
Mitigating Risks and Challenges
The cost of being cautious is far less than the cost of being careless. If you’re maticulous in your investigation and management of your rental property, you will be able to save yourself from financial stress in the future. Before getting started, be sure to find a reliable landlord who understands the market and your needs and isn’t just concerned with turning a quick buck by buying and selling homes. They can help guide you through the process of buying your first rental property. You want to make sure you hire a professional to inspect the home before purchasing the property. This will help you identify any potential risks with the property and negotiate a getting price.
Tools and Resources to Assist Your Journey
There are a number of resources and tools to assist you on your journey of managing a rental property. There are books, courses, and videos that can help you and improve your knowledge of the industry. There is also professional help. First time landlords can put their business at risk by not knowing laws like the Fair Housing Act. One way to protect yourself is to hire a property management company to manage the day to day and decrease your liability. You’ll also want to seek the help of financial and tax experts to make sure you’re not wasting money. If you feel like you can do everything on your own, there are still tools that can help you manage your rental property. There are software companies that build software specifically designed to help landlords manag either rental homes.
Hiring an accountant or tax attorney can be an incredibly helpful tool when it comes to managing your rental property. Remember, it isn’t just a home, it’s a business, and there are numerous ways to write off your business expenses as all was depreciation the depreciation of the home that can help offset some of your operational costs. Not using the tax benefits properly is just leaving money on the table that is legally yours.
Leveraging Real Estate Platforms and Websites
There are mountains of data out there available to landlords that simply didn’t exist before. Prior to the internet, a landlord would need to hire a real estate agent, or go investate other rental units on their own in order to determine market value. Now with sites like Zillow, Craigslist, and Apartments.com, landlords have easy access to not just the asking prices of rental units, but also the condition of the property.
This is an imperfect measurement when it comes to determining what the going rate is for your rental home, but it can at least get you in the ballpark so when you first list it, it won’t take too long to find a tenant. Since there is no way of knowing a rental home was leased at the listing price, it may be best to consult a real estate agent, or use a software company that manages rental properties. These software companies have massive amounts of data when it comes to what people are actually paying in a specific region.
Conclusion and Next Steps
Yes, buying a rental home before you buy your first primary home is unorthodox, but it is an option and a way to build generational wealth and ultimately purchase your own home. You first rental home may even become your primary residence whenever you’re ready! It can be a risky investment, but if you’re careful, and patient, and you make the right investment, it can lead you down a path of financial independence and generational wealth. Sometimes you just have to take that first step, so wone thing to do is contact a local real estate agent, and talk to them about what you want and they can help you figure out what is possible.
1. Can buying a rental property be a good investment before purchasing my own home?
Without a doubt. Buying a rental property can always be a good investment and buying one before your own home can lead you down a path to owning your primary residence as well.
2. What are the risks involved in buying a rental property first?
One major potential risk is if it doesn’t work out and you end up foreclosing on the home or filing for bankruptcy. It can be disastrous for your credit score and hinder your ability to buy a home in the near future.
3. How can a real estate agent assist in my journey?
Like hiring any expert or consultant, hiring a real estate agent can cut the learning curve of real estate investment. If they are knowledgeable and take their jobs seriously, they can give you valuable guidance when it comes to your major decisions.
4. Is it beneficial to hire a property management company?
It can be beneficial to hire a property management company. They know all the housing laws like the Fair Housing Act and they can run the day to day business in a way to that can protect you from liability. They also have knowledge of the local housing market and will likely do a much better job at identifying the market rate for your rental home. While it is possible to manage one or two properties on your own, the value of a propertry management company increases as you own more rental homes.
5. What is an FHA loan, and how can it help me?
FHA loans are useful for buyers with lower income. They aren’t helpful when it comes to purchasing rental properties as it is required to be the primary residence of the owner for at least one year before renting in out. However, if you intend to live in the home for at least a year before renting it out, an FHA loan is an option.