One of the biggest roadblocks to investing in rental properties is the money required to buy a rental property. I believe buying rental properties is one of the best investments for increasing wealth and creating passive income. I am relying on my rental properties to give me enough income for retirement as well as offer a luxurious life. However, it is not easy saving money to buy rentals. Although there are ways to buy rentals with less money down, this article will focus on how much money you need to buy a rental the traditional way with a bank. I have purchased 20 rental properties since December 2010 and I am seeing at least 15 percent cash-on-cash returns on them.
Rental properties are a great investment, but they require a lot of money in most cases. It is simple to figure the cost on a rental property if you are paying cash, but things get more complicated when dealing with financing. Most banks require 20 percent down when buying a rental property and you have to consider carrying costs and repairs as well.
How much money do you need to buy a rental?
It can be expensive to buy rental properties since most banks require at least 20 percent down. If you are looking to buy many rental properties as I do, it is tough to avoid putting 20 percent down. Many banks start requiring 25 percent down once you have four mortgages in your name. Most banks will stop lending to you all together once you reach ten financed properties. There are ways to finance more than four and more than ten properties with a portfolio lender. Down payments are not the only factor when determining how much money is needed to buy a rental property.
Closing costs
Depending on house values in your area, a 20 percent down payment can be a lot of money. The houses I buyare usually right around $100,000, which isabout $20,000 needed for the down payment. You will also haveclosing costs when purchasing an investment property, which consists of interest, insurance, recording fees, origination fees, tax certificates, appraisals, and more. It is usually safe to assume closing costs will be at least three percentof the purchaseprice, but you can ask the seller to pay all or part of your closing costs. I usuallyask the seller to pay part of my closing costs toreduce the amount of cash I have into a property. You also may have to pay for an inspection, which can cost $250 to $500 and some sellers such asHUDdo not pay for title insurance, whichcan add another $500 to $1,000.
Repairs and carrying costs
Repairs can add a huge chunk to how much money is requiredto buy a rental property andyouhave to wait for the repairs to becompleted before it can be rented. While you are waiting for repairs, you are paying carryingcosts on that property, which also increases the money needed. You will have to pay interest, utilities, taxes, and insurance until the home is rented. In a perfect world, it should only take a week or two to have aprofessional contractor complete most repairs,but it usually takes longer.
As for repairs, they usuallycost more than you think they will. On a house that needsminimal repairs, I still assume that I will need at least $5,000 in work done before it can be rented. On a house that requiresmore repairs and updates, I can easily spend $20,000 or more. It is always the little things that take time and add up to big repair costs. As a general rule of thumb, I always add $5,000 for unknown costs on any rental orfix and flipthat I buy.
Make sure you get bids if you are not an expert at estimating repairs. Estimating repairs can be a very difficult thing to do, even for experienced investors.Repairs always seem to cost more than the investor thinks they should and contractorsalwaysseem to find more things that need to be repaired.
Turnkey rental properties are one way to save money on repairs and put less money into rental properties.
Total amount needed
Here is a breakdown of the costs that I would normally have on a $100,000 rental property.
Down payment: $20,000
Closing costs: $3,000
Repair costs: $10,000
Carrying costs: $1,000
Total investment: $34,000
These figures would be on a home that needs moderate work.I am a real estate agent, which means that if I had purchasedthis house from the MLS, I would get back about $3,000 in real estate commissions. I could also ask the seller to pay $3,000 of my closing costs if I thought it would not jeopardize my chances of getting the deal.
Havingto put 25 percent down on a property would greatly increase the amount of money needed. Repairs costs will affect how much money you would need as well. Another factor to consider is that the bank will want you to have money in reserves when you get an investment property loan.
Can you buy rentals with less money?
There are ways to decrease how much money is required to buy a rental property. You may find a gem that needs no repairs at all, but it is rare to find a home that is a great deal and in good shape. Rental property number ten and rental property number nine were both in decent shape and purchased below market value. You can ask the seller to pay part of your closing costs when making an offer. It is very common for a buyer to ask for two or three percent of closing costs to be paid by the seller. If the seller does not want to budge on price, raise the price of the property to make up for the closing costs. The cash you save upfront will make up for the slightly higher loan and purchase amount.
If you area real estate agent, you can also save a lot of cash on each property you buy. I am a real estate agent and I save thousands on each property I buy because I ampaid a commission for my side of the transaction. This decreases how much money is required to buy rental property tremendously. Here is a much more detailed article onhow becoming a real estate agent will save you money when investing.Here is another article onhow much money real estate agents can make.
What about reserves?
If you find yourself looking to invest and have saved just enough to buy and renovate a property, be careful! There are always unexpected costs and delays associated with repairs. Make sureyou have a cushionin the bank for the worst-case scenario. I suggest at least sixmonths of mortgage payments, taxes, and insurance as reserves for each property you own. This would be money on top of theinitialinvestment used for repairs and carrying costs.
Conclusion
You may need as much as $30,000 to buy a $100,000 house, but that can increase if many repairs are required or if you have to put down more than 20 percent. You need to make sure you have enough reserves if things do not go as planned. Remember, if you are purchasing more expensive homes, that number will increase significantly and it will decrease if you are buying lower-priced homes.
