Updated and reposted from December 2017
To quote Stephen Covey, let's begin with the end in mind… My goal to purchase 2 single family homes (SFH) per year for 3 years and convert them into rental properties for a total of 6 SFH rental properties.
End result, by 2015, I owned 5 single family home rental units, not including my own home.
How did I do that in 3 years as a single mom of 2? Well …
BEFORE the First Purchase
I started budgeting after the divorce. I was ashamed and embarrassed that at 40, I was in debt – by 6 figures. It was a tough time. It didn't take long to decide I didn't want to live buried under a mound of debt and living paycheck to paycheck and so I took matters into my own hands.
I didn't have money to take classes, but I did a ton of reading on budgeting, real estate, how to get out of debt and build a solid net worth. This is when I learned that in order to become financially independent, I needed to build multiple streams of income and settled on rental properties (single family homes) as a starting point. No flipping for me. I also talked to people who already owned rental property to understand the good and the bad.
Research. Research. Research.
Reading books and talking to landlords only took me so far. I needed to get out there and pound the pavement as they say. I drove around all kinds of neighborhoods, looking for accessible bus lines, proximity to the city for jobs, grocery stores, etc… In other words, if I were renting, would I want to live here?
I also went on the city web site to research future development plans. This was especially important since I was looking to hold onto these rentals for years to come.
I also got a realtor that understood my plan and had experience in purchasing rental properties. She was able to pull a list of available homes and walk through them with a renters eye… making a list of repairs I would need to make before the first renter would move in and what kind of rent is reasonable for the area.
Lastly, I went through an exercise to challenge my plan, “What if <insert situation>? Could I still pay my bills?“. Here is a list of my worst case situations to find myself in:
What if I lost my job?
What if I have my job but lost a tenant?
What if I lost my job and had to evict a tenant?
How long can I go without a tenant? without a job?
How long would my emergency money last?
Honest answers to these questions strengthened my plan and gave me a big self confidence boost because I finetuned my plan to cover any one of these scenarios.
Worked the Numbers
Numbers don't lie – so long as you have the right ones. But lets be honest, when it comes to home buying, surprises are always a possibility. That is why an emergency fund is important (and how much to keep in it is a personal decision). Equally important was to secure funding, which for me came in the form of 1) a preapproved loan and 2) a HELOC. Before we get to that, Lets talk basic math and the 1% rule.
The 1% Rule
Each house I looked at had to pass (or come close to) the 1% rule (monthly rental income/purchase price). If that came back 1% or greater then it was potentially a good investment. To be clear, the purchase price included any repairs that needed to be made before the first renter moved in as that would be money out of pocket.
For example, if the purchase price is $60,000 and the rent is $800/month, then (800/60,000)*100 = 1.333. For this property, sight unseen, we already know there is room for up front repairs and worth taking a look at.
Home Equity Line of Credit, or HELOC, is what I opened when I downsized in 2012. Basically, I leveraged the equity in my new primary residence to use as “cash” to make rental property purchases. This gave me a leg up on other bidders, since cash gave us a quicker close, less paperwork and the seller walked away with cash in hand.
This was also critical in my plan to purchasing 2 rental properties per year. Time was of the essence. The first time I applied for a preapproved loan, I was rejected. Since my branch manager knew me and I have excellent credit (built over 3 years), he went to bat for me and resubmitted the paperwork directly to the mortgage manager. Based on my reputation, credit score and his recommendation, I was approved.
Established an LLC
Establishing the LLC before purchasing my first rental property was key. I would recommend this for anyone looking to buy and own more than 2 rentals. The liability falls on the LLC and not you.
Armed with all of this, I was ready to purchase my first property.
READY to Make My First Purchase
The steps were the same each time I put a bid in (and lost many a bid – more than I can remember).
1. Determine if the property is a good buy
I would work my 1% rule, walk through the house making a list of repairs (if any) and work with my realtor on a fair bid based on the condition of the property. Whether or not I purchased the property was based on more than the 1% rule, I also had to take into consideration the long term plan. 10-15 years down the road, will this neighborhood be a good source of rent, etc…
If I liked how all that information came back, we would submit the bid.
2. Bid accepted
Once the bid was accepted, I would go to the closing with my checkbook and pay “cash” for the property. Always double check the paperwork before signing to verify the information is correct.
Once I went to a signing and my name was listed instead of my LLC. Make sure everything is correct before signing.
3. Finding a Tenant
From the first property, I hired a property management company. In truth I am too much of a softy and felt this was (and still is) a good investment. For each property, I pay $80/month plus repairs. This is the industry average, from my research.
They immediately put the property up for rent and found a tenant. They handle all the screenings, collect the rent, handle any issues and send me monthly statements with any repairs for the month.
4. Take out a loan
I am already preapproved so there were never any surprises here. The paperwork was quick because I could go right through my branch manager. For each property I took a loan out for 80% of the purchase price. Any upfront repairs would not be part of the loan.
5. Pay off HELOC
Once the loan is completed, I focused on paying off the HELOC in preparation for the next purchase.
On a side note, when I purchased the first 3 properties, according to the bank, I did not have stable income (even though I was working as a temp employee). So the first year I purchased my first rental, I couldn't buy anymore because the bank did not renew the preapproved loan.
I had to wait until my taxes were done the following year to show the additional income and then renew the preapproved loan. Year 2, I was approved to purchase 2 rental properties, then wait until tax season again to show the additional income.
By the time Year 3 came along, I had secured permanent employment and purchased the last 2 rentals.
After 3 years of whirlwind hunting for rental properties, I had purchased 5. You are probably wondering what happened to the 6th one. Well, after I purchased #5, it did not make sense financially to purchase anymore.
That is to say, by the time I purchased #5, I did not take out a loan for 80% and instead opted to go with a consolidated loan. I knew most of the properties would need a new roof and HVAC and #2 would need a lot of work. It was time to shore up and begin looking at long term repairs.
At the end of this adventure, I had 4 separate home loans and the 5th property was on my HELOC.
I did a little research and found a better rate with a smaller bank, refinancing all the loans (including the balance on the HELOC) with a smaller interest rate. Original consolidated loan total in 2015 was $248,000. I opted for a 15 year/7 year term fixed at 4%.
Which means that at 7 years the loan matures and I have a balloon payment for the remaining 50% balance. At this point, I can either refinance the balance or pay the loan off in full. In 2022, I will decide what to do. 🙂
Original numbers before consolidating. :
The first and third properties needed very little, a fresh coat of paint and minor repairs. The second and forth came with renters and no additional money went into those at the time of purchase. The fifth needed some kitchen and bath work before renting out. Eventually all of them needed a new roof and HVAC but I had time to save up for those expenses.
Rental #2 purchased at $52,000, by far needed the most work. But since it came with a renter, I made a list of the work and this year, 2019, I am finally tackling it. Its practically a brand new house with new kitchen, bath, resealed hardwood floors, new carpet in bedrooms, new roof, new blinds for the new windows, new kitchen appliances and stacked washer/dryer. (I normally do not recommend purchasing washer/dryers, but this is an exception due to the space and stackable requirement). Price tag of about $50,000 in repairs. All in, I am bringing this home up to the average property value in the neighborhood, with room to grow.
All of the properties were purchased in up and coming neighborhoods, so maybe not the greatest a few years ago, but making progress as the city grows. For me, this is a long term play.
My advice is to think 10-15 years down the road and what the neighborhood will look like. Are people making major repairs to the homes (i.e. dumpsters out front)? Are the lawns and properties kept up? Are there people out walking the neighborhood? Would you live there? These are the things I think about when shopping for my next rental.
Will I buy more? Maybe, but not this year. Timing is important. This year my focus is on the final major repairs for what I own.
I have had so many people ask my real estate… thought it was high time I gave better details.
As always, please feel free to reach out to me (firstname.lastname@example.org) with questions, or write below with comments. I love hearing from you!!!
To read more about the details and actual mechanics of purchasing rental property click here.
And, no, this is not one of my rental properties, I just liked it.