Real Estate Investing

More home sellers are turning to the rental market as an alternative to taking a financial hit on their property, according to the Atlanta Journal Constitution. The offers they are receiving are so low, in many cases, that sellers decide they’d rather be landlords. Some prefer the seller financing route, offering buyers a lease-purchase agreement. Either way, this housing market is forcing sellers to get creative.

But this new trend presents difficult scenarios to two different population groups. There are those who are moving long-distance due to a job transfer or other circumstances. A lot of sellers fall into that category now - if they are crazy enough to move in this housing climate, they are doing so involuntarily. Renting and/or lease-purchase could be difficult for this group of sellers because it will be nearly impossible to oversee the maintenance and well-being of the property, as well as enforce rent payment and find new tenants when needed. This group may do well to hire a property manager before moving out of town.

The renters themselves comprise the other group that will be negatively affected by this trend. This group is growing drastically because of the many foreclosures and related bankruptcies and ruined credit records. According to the AJC:

“‘I put more people into rentals last year than all my previous years in real estate combined,’ said Jamie Hook, a realtor with Metro Brokers GMAC Real Estate in East Cobb. ‘I think the rental market is pretty good now. And I think we’ll see the rental market improve.’”

So while the number of renters is growing, the number of rental properties will be shrinking whenever the housing market recovers. All these sellers who are forced to do rental agreements will certainly be putting their houses on the market at the earliest opportunity. This could mean the displacement of countless tenants. Maybe it’s a good time to get into the apartment rental or lease-purchase business.

The idea of owning rental real estate can be appealing. By hiring a property manager — most common in the case of apartments or condos — you can create a line of passive income, though not necessarily a stable one. There are many considerations before delving into the landlord business.

Financial analysis: Ideally, you would be able to pay cash up front for the entire purchase. This could give you more price negotiating power and certainly more peace of mind. However, many people find this is not a possibility without completely depleting the savings that will be so crucial to successful landlording. A substantial downpayment will be required, however, to obtain a loan for investment property. You will want to have a nice cushion of savings for things that may break and for months when you may have a vacant property.

Bargain hunting: This will be important in maximizing your profit potential and can even make it possible for you to purchase the property in cash. Brokers in the know can help you hunt bargains.

Property inspection: It can be tempting to go with a fixer-upper because they are generally cheaper. However, unless you are an expert remodeler, this can turn into a money pit situation. Get the property inspected for possible disaster spots — even if it looks nice at a glance, a little paint can hide a lot of problems. Inspectors will be able to determine any serious problems the property may have.

Research the neighborhood: Investopedia’s Top 10 Features of a Profitable Rental Property details specific characteristics investors should pay attention to when choosing a neighborhood. These include crime levels, schools, property taxes, amenities, amount of listings and vacancies, etc. You should also analyze what comparable properties in the surrounding area are selling and renting for.

So what about the mantra we hear from so many different real estate investing gurus? “To learn how to invest in real estate today with no money down, attend my seminar … or read this book … or listen to this tape … or watch this video …” Is zero-down investing really possible, or is it merely an appealing myth that the gurus cash in on?

For the purposes of this article, we are going to assume your investment plan is long-term renting, not short-term flipping. The short answer is yes, zero-down investing is possible. Even if you have to resort to seller financing, you could eventually own property that you could rent (but probably not until the whole thing is paid off). Banks may be a little tighter these days and you would certainly need to have pristine credit, but there was a time not so long ago when lenders happily handed over full financing. We’re reaping the rewards now with the foreclosure circus, but I digress.

The more complicated answer — and the one most people don’t want to hear — is that zero-down investing is not a practical way to invest. Presumably, with 100% financing, you don’t have a lot of cash flow. You may view real estate as a way to generate cash flow. However, unless you plan on being a slumlord, you’re going to have to fix things. The HVAC unit, roof repairs, broken windows or doors, rotting floors … the list of things that could need replacing is virtually endless. Combine that with monthly obligations like insurance, the mortgage, homeowner’s association dues and the property manager’s paycheck, if applicable, and you’ve got yourself a very small profit margin (if any at all).

Is that worth the headache and responsibility of being a landlord? You are on call virtually around the clock, because emergencies can’t wait. Furthermore, with 100% financing, your interest and monthly mortgage payments are going to be sky-high. Your rental income might be enough to cover the monthly payment, but the loan will be stretched out over so many years that you will simply be treading water. It’s certainly not a profit vehicle for you. In fact, it will probably turn into a money pit and you will rue the day you bought it. The Dough Roller blog has a great post about real-world experiences with money-sucking investment properties.

Investment real estate that is paid for in full, or at least purchased with a significant down payment of around 50% or more, is so much more profitable and practical. Don’t sour yourself on the idea of investing in real estate by ruining your first experience with an impractical strategy. This can be a great money-maker, but zero-down investing is not the way to accomplish that goal. If your cash flow isn’t great, you’re better off investing in mutual funds until your cash flow improves. In most businesses, cash is king, but especially in the unpredictable real estate investment market.