Buying an investment or rental property is a big step for anyone. It is also one of the largest assets that you can buy to earn a good amount of passive income. However, you need to understand the requirements before making an investment.
A lot of first-time investment property buyers make hasty decisions and end up in financial trouble because of it. Following a more secure and planned approach will help you keep things in your favor during and after your property investment.
Should You Buy an Investment Property?
Dealing in property investment is not for everyone. There are several things that you need to consider including the operating costs, the mortgage, and the hassle of filtering through hundreds of potential tenants. Investing in the real estate market can sometimes have more risk than the stock market.
For example, if you have tenants that do not pay their rent, your return on investment (ROI) not only drops down but may even vanish. However, the opportunities in the real estate industry are also much higher. With a good plan and proper management, your investment property will yield higher returns and profits.
There is an average annual return of 10.2%, whereas stocks have a rate of only 4% to 5%. Therefore, making small changes and upgrades to your investment property is a good idea.
There are also several technical matters that you need to take care of. For example, screening for tenants, knowing the ideal property to buy, documenting the property and lease papers etc. Let us have a look at some of the basic steps to know before buying your first investment property.
Buying your First Investment Property
Following are the steps to cover before buying your first investment property.
Getting a Mortgage for an Investment Property
Getting a mortgage for an investment property is one of the biggest challenges that you will face as a real estate investor. You should keep your mortgage affordable when making this decision.
The easiest way to do this is to get a preapproval. The most common mistake that most rental property owners make is waiting too long for their mortgage clearance.
For example, you could spend months looking for the perfect investment property, but by the time you finalize the mortgage, the property may no longer be for sale. It is best to get pre-approved so that you can close a good deal as soon as you see one.
In addition, you should consider what you qualify for. Imagine putting all your efforts into a property mortgage, only to find that you qualify for less and cannot get the right amount of money. However, the preapproval can help you get a clearer idea of how much property you can afford, allowing you to make an informed decision while buying a property.
Choosing a Mortgage Lender
You may need to go for an agency loan for your investment property. However, this does not apply to home buyers that have VA or FHA-approved loans. This applies especially to investors who are looking for a multi-unit investment, to live in one and rent out the remaining.
However, it is a must to discuss things with a home loan expert before you step into such a big investment. Experts can help you better understand the requirements and technicalities of such large-scale investments for your business.
Requirements for Purchasing an Investment Property
Most agency loans you find in the open market are either Fixed-rate Mortgages or Adjustable-Rate Mortgages, and each of these mortgages has its specifications or requirements that you need to fulfill before you move ahead with your investment property.
Credit Score and Down payment
The minimum credit score requirement for a fixed-rate mortgage on a single unit investment is around 620 with a 20% down payment. However, for individuals with a credit score above 720, you can pay as low as 15% as a down payment on a single unit property investment.
On the other hand, if you are going for an adjustable-rate mortgage, you need a minimum credit score of 620 to qualify. In addition, you will pay a 15% down payment on single-family property investment.
Other Requirements to Keep in Mind
Rental property requirements are quite similar to primary residence mortgages. Therefore, start by following the 2/2/2 rule. This means you need to provide 2 years of tax returns, as well as 2 years of W’s, coupled with two years of bank statements to your mortgage provider. In addition, you need to verify all your assets and confirm your worth.
Some mortgage providers may also ask you to present six months’ worth of mortgage installment payments. This amount helps you out in case you face a rough patch and cannot pay the mortgage installments on time.
Determining the ROI for your Rental Property
Another common question that most first-time investment property buyers have is the ROI they could receive on their property. You need to consider if you can make profits out of this investment or not. You can find the ROI by determining the property’s annual net income. This is the amount you get after you pay the following expenses.
- Property management fees
- Expected repairs
- Potential vacancy periods
- HOA fees
- Utilities that you have to pay
The amount you get after excluding all these potential expenses is the amount you get as your annual income. This is the actual profit that you make out of all your investment in the rental property. Now you should calculate the ROI of your property.
You should take the annual income and divide it by the total amount you spend on buying the property. For example, if a property you bought for $100,000 produces an annual income of $7500, you get an ROI of 7.5%.
You can use this simple method to determine ROIs for each property and choose the most fruitful investment opportunities.
Buying your first investment property requires research, choosing the right option, and following a systematic approach to keep things smooth. You should consider the mortgage and the kind of mortgage you wish to choose. Also, it would also help to keep the credit score and down payments in mind when choosing these mortgages as it could cost you a lot in the long run.
Next, you should consider the annual income of your investment property and divide it with the total cost of your property to get the return on the investment amount. Once you have this amount, you can determine the best investment properties and earn good profits.
Need Help Finding the Right Investment Property for You?
We specialize in investment real estate and can help you find the right deals while guiding you through the process to make it super easy and stress free. Finding solid investment properties on the North Shore, Greater Boston and in the City can be exhausting. We can do the hard work for you and have you touring potential properties fast.