After last week’s “To rent or not to rent” post, I figured I should consider the other side of the equation, researching to buy a prospective investment property. In short, “To buy or not to buy?” Let’s discuss a few factors when considering to buy a property as a rental investment:

• Motivation. Am I buying this for equity or cash flow? Obviously we all would like to have both, cash flow and appreciation, however, most investments tend to lean one way more than the other. I personally prefer focusing on cash flow so when I am looking at rental homes to potentially acquire, I am considering the potential rents versus the price of the house (known as Cap Rate in the industry). However, if my motivation were to capture equity, I am looking at the home’s potential for future appreciation. In my opinion, this approach takes more focus and timing – you need to be in the right place at the right time to “buy it right.” The point here is that it’s important to match your motivations to the property you are looking to acquire.
• The market. Knowing the market is critical. I don’t mean the national macroeconomic market; I mean the nuances of the market at the street level. This is tough for most people because it sometimes requires feet on the street talking with people, understanding past trends and future directions. How can you scale this? Scaling is very difficult. I only have time to pay attention to a couple of markets at any given time. I look at census data for the immediate area and like to look at historical trends: area rental units, area rental rates (per bedroom), home prices, demographics, local schools, and more.
• The work. I have a real estate friend that always reminds me, “Landlording is a young man’s game.” I don’t really agree with him, but I acknowledge it requires a lot of work, often dirty work. When evaluating a house for investment, I recommend you find a trusted home inspector who will take time to walk you through his findings rather than simply slapping together a report. When an inspector personally walks you through his findings, you can get an honest sense of the required work and how much it might cost to repair issues…..and trust me, inspectors find issues. The parts I pay the most attention to are structural, mold or water issues, roofs, electrical, plumbing, and HVAC. These issues are costly and can help you understand what your total initial investment really looks like.
• The financials. While in college I took a RE Investment Strategy course (circa 1996) and developed a spreadsheet for investment analysis. Needless to say, the spreadsheet has evolved but it remains my gold standard. I try to dig deep into my estimates for potential vacancies, operating expenses, replacement reserves, and more. All these values help me picture before tax cash flows, after tax cash flows, internal rate of return, net present value, and more. All of this helps me determine if a given property might be worth my time and money. I recommend you develop something similar when considering an investment, even if your first analysis starts on a napkin. The devil is in the details! If you care to get into the nuts and bolts of financial analysis, click HERE.
• The financing. It doesn’t matter what you think about the property’s investment potential if you cannot afford to buy it or get financing to buy it. Institutional money or private money, there are a multitude of ways to structure a deal and it sometimes takes a bit of creativity; in my opinion, this is the most challenging part because so many factors are beyond your control. My best advice is to have a local banker that understands the market as well as you – if they understand your motivations and believe in the property’s potential, they might be willing to work with you even if others say no. I found a nice, simple blog post on financing rental properties on Zillow HERE.

There are too many considerations to fully document them in a single blog post, but I think this hits on the five main points to consider. What am I missing? What do you consider when evaluating investment properties?