How To Buy Investment Property
Now that you know a few of the main investment property types, how can you get started buying one? There are a few things you need to consider when financing your first piece of investment real estate, so let’s go over those now.
Secure Financing And An Investment Property Loan
One of the first steps to investing in property is securing financing to purchase it. Depending on the type of property you choose to invest in, the way you go about doing this might look a little different. If you’re investing in residential real estate, you might simply get preapproved by a lender for a mortgage loan. Whereas, if you’re looking to invest in a piece of industrial real estate, crowdfunding the property with a group of investors might make more sense.
Lenders are taking on additional risk when they lend to investors rather than borrowers financing a primary residence. Higher risk means higher interest rates and down payment requirements, which is important to keep in mind when considering your budget for an investment.
Choose Your Location On Where To Invest In Property
Regardless of the investment type, location is an extremely important factor to consider when making a real estate investment. If your property is located in a place where it will be in high demand, you’re more likely to make additional profit on your investment. A commercial property in a prime location will attract businesses, and a residential property in a popular area will attract tenants.
If you’re struggling to choose a location, enlisting the help of a real estate agent might be useful. Real estate agents tend to be very knowledgeable about the areas they work in and can likely provide good advice on high-demand locations.
Work With Real Estate Professionals
In addition to helping you choose a good location to invest in, real estate professionals can also help you with many other steps of the investment process. Investment property-friendly real estate agents and other pros such as real estate attorneys, contractors, inspectors and property managers can help you with a variety of investment related tasks. These include locating potentially profitable properties, advising you on investment choices and offering advice on investor-specific tax benefits that you might qualify for.
Calculate Cash Back And ROI
Before you buy an investment property, it’s a good idea to consider what the property’s return on investment (ROI) or profitability will be. Calculating the potential ROI can help you assess whether it would be wise to invest in a specific property . The formula for ROI is as follows:
ROI = (gain on investment – cost of investment) / (cost of investment)
So, as an example, if you spend $80,000 on a fixer upper home and think you can sell it post-flip for $135,000, the formula would look like this:
ROI = ($135,000 – $80,000) / ($80,000)
In this case, the ROI would be approximately 0.69, or 69%. ROI can be tricky with rental properties, however, since there are many variables and costs associated with the upkeep of the property that aren’t accounted for in the ROI formula. As an alternative, you might also calculate the cash back or cash on cash return that you can expect from your real estate investment.
Cash on cash return measures how much of your investment you’ll earn back annually. Where ROI measures your total return on investment, cash back simply measures returns based on what you spent out of pocket on the investment. The formula for a cash return calculation is as follows:
Cash back = ( (annual income – annual expenses) / (initial cash investment) x 100% )
So, if your income is $200,000, all your annual expenses totaled $155,000 and your initial cash investment on a property totaled around $175,000, the formula would look like this:
Cash back = ( ($200,000 – $155,000) / ($175,000) x 100% )
Your cash back percentage in this case would be approximately .26 or a 26% return. What constitutes a “good” return percentage is relative to the investor. It all depends on your personal financial goals and what you expect to make back.