Have you considered buying a second home as an income property, but feel overwhelmed by where to start or knowing if this is possible? If you are a beginner investor, you may have questions like:
- How much capital do I need to invest in a second home?
- Should I buy a second home in California or another state?
- How can I determine if the investment is worth the risk and return?
- Should I manage my rental myself or hire a Property Manager?
For beginning investing, this article will focus on buying single-family homes as opposed to commercial real estate. When investing in real estate the goal is to find a property where you will make money by renting it out. In the beginning, you may only make a few hundred dollars of profit a month, but this can increase over time as rents go up. With each year you build more equity in the home which you can eventually refinance and take out equity and buy another property to add to your portfolio. The profit, or return, you make on your investments must be enough to cover the risk you take, taxes you pay, and the other costs of owning the real estate, regular maintenance, and insurance.
To succeed at investing, you buy properties, and generate rent so that you can buy even more properties. For example, we sold our condo in Oakland, CA and we rolled the proceeds via a 1031 exchange to avoid paying Capital Gains taxes. With those proceeds, we doubled our investment by buying in Reno, Nevada, and Fayetteville, Arkansas. Both properties produced a monthly profit after paying property management fees and maintenance fees.
When purchasing an investment property, and if doing so by taking a mortgage loan, the current minimum down payment is 20%-40% depending on the property and type of loan you obtain. Your debt-to-income ratio is 43% to 50% based on qualifying factors, such as your credit score, occupancy, cash reserves, and, the loan-to-value ratio.
The key to real estate investment is finding properties in a location that can generate positive cash flow, build equity and appreciate over time. To do this, you need to perform thorough market research on which locations would be best for this by researching the area’s economic strengths.
I prefer to buy in college towns and I also want to know that the economy is strong and has many factors contributing to its strength. Fayetteville, Arkansas has many strengths that made us feel like it was a good buy. It’s a college town, J.B. Hunt, Walmart, and Tyson Chicken all have their headquarters nearby. When buying in Reno, we liked that it, too, was a college town, and had money coming in from both the casino industry as well as the marijuana industry. Both would create jobs and keep the local economy strong.
Property Manager fees vary depending on where you buy. I have found throughout various states they charge anywhere from 8-11% per month rental amount with a start-up fee of anywhere from $500-$1500. I have found that when I am buying out of California (where I currently reside) it’s best to secure a Property Management company.
They have access to handy persons and tradespeople that can assist when something needs to be fixed or replaced and they are more current with local laws. I find it’s worth dipping into my profit to have the assistance. Not all Property Manager companies are the same, so make sure you properly vet them to find a good match.
In your budget, it’s essential to make sure you have reserves set aside for any maintenance fees or if a tenant can’t pay rent. Evicting a tenant could cost you around $5K so it’s a good idea to have that set aside just in case.
There are many pros to real estate investing. It is lower risk than the stock market and it is not subject to the same level of volatility as the stock market. There is steady cash flow on rental income, and over the long term, your properties will appreciate.
I would be happy to help you find your first portfolio property and get you on your way to becoming an investor. Reach out with any questions!