It’s no misconception….
When it comes to investing in rental property, understanding the process of running the numbers is critical to your success in making money and making a good investment.
If you’re going to get one thing right…this is probably the thing you want to make sure you get right.
Let me tell a quick story…
When Kirk and I first got started investing in rental property we really didn’t know much at all.
We were newly married working full time jobs and I was going to grad school when he decided to pop the “I think we should buy a rental property” comment on me.
The truth was we didn’t have a ton of money. We had worked hard over the last few years in saving money. We didn’t have car payments, we were finishing up paying off student loans, and we didn’t have credit card debt.
So our focus was save…save…save….
Stats taken from the Harris/Realtyshares survey
So when he brought this rental property thing up to me that was basically going to take all of the money we had saved….I was not for it.
I remember asking him over and over “Why we would we put our $20,000 into a property that will only make us $500 a month. This seems crazy.”
I was an English teacher (who hated numbers) and had very little understanding of investing and return on investment.
Kirk, on the other hand, was a numbers guy. He had studied finance in college, worked in REITs and was at the time a loan officer.
So if there was one thing he did get it was the numbers.
To make a long story short, I finally agreed to buying the first rental property once he was able to get me to understand the idea of return on investment.
But when it came to finding tenants, managing a property and people, collecting rents, understanding state landlord laws…we knew nothing.
Really the one thing we were able to be fairly certain about was that we were investing in a stable, nice area and that the numbers worked.
Fast forward 5 years and we recently sold that property and in the process of owning it, refinancing it to take cash out, earning cash flow each month and the profits from the sale of the property…
We were able to make a little over $91,000 over 5 years.
And we only put about $20,000 in.
So I tell you this story not to brag, but to show you that we didn’t have it all figured out when we started.
But the one thing that we (or maybe I should say Kirk) was certain in was the number analysis of the property.
And as a result, we had bought a slam dunk property that made us great money.
And we figured the rest out along the way.
Now I’m not saying go out and as long as you know your numbers pull the trigger.
Looking back I can tell you that there’s a lot more that I wish we would have known when we started that would have only made us better and more confident investors from the start.
And that’s what I hope to share with you here.
When breaking down the idea of property analysis there are a lot of things to consider, questions to ask and numbers to look for.
But one of the best parts of property analysis is that it is fairly black and white.
Numbers don’t lie.
And they ultimately make the decision for you.
Getting Started with Analyzing Rental Property
There's a lot to consider when it comes to analyzing potential rental properties and a lot of pressure. Whether we want to admit it or not, when we start down the road of real estate investing we are taking our 'financial futures' into our own hands.
And that can be scary to a lot of people.
But it can also be incredibly empowering to a lot of people too.
Often when people just get started with investing in rental property, they are so scared to make a mistake or buy a "bad property".
And there's no sugar coating it...that can happen.
But the truth is there are so many resources out there that can teach you and help you along in your journey that you should actually feel relieved.
And when it comes to analyzing potential deals...there's no subjectivity involved.
You don't have to be a genius who can see the future or a master of numbers.
You just need to know what numbers you need to know and a tool that can help you calculate your return.
So if you're officially curious about the fact that anyone can invest in rental property, even if you're not great numbers but you're not sure where to start. No problem!
We're here to help!
What Numbers Do You Need to Know When you Run a Property Analysis
In general, a property analysis is made up of taking a bunch of different numbers that relate to a property and calculating them together to ultimately find out what type of return that property will make you.
If you’re missing any of these numbers or they aren’t accurate it will lead to an inaccurate estimate of your ROI or projected monthly cash flow.
The truth is sometimes it might take a little digging to find these numbers. It might take a phone call or two to a real estate agent or your insurance agent to give you estimates of some of these important numbers…
However the digging and the phone calls are worth it in order to get a more accurate estimate of your return.
Let’s jump in and see what numbers you need to be looking for:
1) List Price:
The price the sellers are asking for the property.
What are the total yearly taxes (county, school, state, etc) for the property.
What is an estimate of the yearly premium for insurance on the property (you may have to call your insurance agent for an estimate)
If you will be paying utilities on the property, you’ll want to ask the sellers for information on what utilities have cost them. (We go as far as even having them send us copies of bills)
5) HOA/Condo Fees:
If the property is located in any type of association you will want to find out what that monthly cost is.
6) Capital Expenditures:
This generally is like building for a reserve fun. Cap. Ex costs are those associated with big ticket items that you will eventually have to replace that cost a lot of money (roofs, HVAC, electrical, plumbing, etc) You can account for saving a percentage or dollar amount each month to go toward your cap ex. fund.
7) Vacancy Rate:
The reality of owning property is that it will be vacant from time to time. And when it is that costs you money and actually alters your ROI. You can account for this in the beginning when you run an analysis by inputting a percentage or dollar figure for your local area. (Real estate agents can give you an estimated percentage of vacancy rate in your area. I tend to jut put in one month’s cost to run the property assuming we have a 1 month turnover time each year).
8) Monthly Rent:
You’ll want to include the monthly rent that you can charge on your property.
If you plan to use financing you’ll also include:
9) Down payment:
How much will you be putting down on the property. The potential loan product you plan to use may dictate what that down payment amount will be.
10) Interest Rate:
Interest rates are always changing in our country. Your credit and loan product may impact what type of interest rate you can get. Also depending on what type of lending institution you go through may impact the rate too.
11) Mortgage Term:
The loan product will dictate what your terms are. Typically you'll see loan terms in increments of 15, 20, 30 years. Often times with a normal conventional loan you'll be looking at 20% down on a 3o year term.
Inputting these numbers into some sort of calculator or property analyzer (Grab our free
analyzer here) can automatically calculate your ROI and projected monthly cash flow so thatyou have a good estimate of whether the property meets your investing goals.
Calculate monthly cash flow and annual return on investment with our Free property analyzer
Understanding Return on Investment (ROI)
If you're wondering....what does return on investment mean? Don't sweat!
This question was the biggest bone of contention between Kirk and me when we started having conversations about rental property.
Like I mentioned earlier, I had no idea what this was.
The concept was foreign to me.
But once I got it and saw the power in it, I can say that I became hooked to investing in rental property because of amount of control you have over your investment and the ability to get great returns on a tangible asset.
At its most basic definition (in relation to real estate), return on investment is a percentage that is calculated by looking at the total net income a property makes and dividing that by the total cash invested.
This percentage then gives you an idea of what type investment return you're making on your total investment.
One of the great benefits of rental property investing is that the return you can make on your investment is dependent upon you, your market and your ability to hustle and find a good deal.
When we think about the different avenues we can take to invest the returns that we can potentially make have a limit.
For instance, in the stock market the average return is 7%.
With bonds you might get a less than 5% return.
And the truth is there isn’t much you can do to help that return grow.
But with rental property, you have the chance to invest in assets that make you a return of 12%, 15% or even 20%+.
We have properties that make us over 20%.
So those properties are out there.
The Hard Truth
At the core of investing in rental property, we do it to make money.
Yes, that money that we make allows us to reach those personal freedoms, whether it be leaving your job, spending more time with your kids, traveling the world.
But in order for us to reach those freedoms, we have to buy the right properties at the right price.
And the only way to know that a property is the right price is to do your due diligence in learning the market you plan to invest in.
Know how to run the numbers so that you can get a pretty darn close estimate of what type of return that property should make you.
2 Tips for Running Numbers on Properties
When it comes to running numbers on properties...this is the part you want to get right!
I can't stress enough the idea that when you invest in rental property the numbers should really make the decision for you. It's not an emotional decision.
It's an investment decision.
And you need tools to help you ensure that you are looking at the numbers the right way.
1.) Use a Property Analyzer/Calculator
When you're just getting started you're probably wondering....ok I can find out all of the numbers you mentioned earlier....but what the heck do I do with them?
And it's a valid question. Most of us aren't going to sit down and create an elaborate excel spreadsheet that runs the numbers for you.
There are tons of resources out there can help you run the numbers on properties. There are free analyzers (grab our analyze here) there are free apps that are mortgage calculators that can give you an idea of what a mortgage would look like so that you don't have to figure this out on your own.
The best thing about these analyzers/calcuators is that you simply input all of the information about the property (list price, taxes, insurance, rent, fees, etc) and it will calculate your return on investment and cash flow...
...so that you know right away whether that property meets your return on investment goals.
If it does then you can start going down the path of finding out more information and potentially scheduling a showing.
If it doesn't meet your ROI goal then it's easy to say...no way.
....and keep looking.
2.) Numbers are Black and White
For some this makes them breathe easy…
For those who like some gray area, this might be difficult to deal with.
But the truth is numbers are not subjective.
There is data and information out there that you will find on each and every property that will allow you to run a black and white analysis of a property.
This actually is what you used to drive me crazy about math classes. While I was an ok math student, I never really enjoyed the black and white nature of math.
As an English teacher, I lived in the gray area.
Symbolism and subjectivity lived in my classroom on a day to day basis and my students and I would spend class periods building arguments for the different interpretations of the mockingbird in To Kill a Mockingbird or the ibis bird in the story The Scarlet Ibis.
But what I have found is that when it comes to dealing with our money that we have saved and sacrificed for….
I want things to be black and white.
I want to know, with much certainty, if I buy this property it will make me a certain amount of money each month and year so long as it is rented.
In this niche of investing in rental property, there is subjectivity in some of the decisions. The location, the type of tenant you put in the property, the condition of the property.
Those things aren’t so black and white.
But when it comes to the numbers…it should be.
When you run an analysis on a property and it spits out your projected ROI and cash flow, you’ve got to trust it.
You take out the emotion and focus on what the property will make you and whether that reaches your profit goals as an investor.
2 Mistakes to Avoid When Analyzing Rentals
1.) Don't underestimate expenses....if anything overestimate
You'll see once you start running numbers on deals and researching potential properties online that you can't always get the exact, accurate numbers on the deal.
When this happens, we use our experience to help us when it comes to estimating...but one thing we always do is overestimate.
We'd much rather be in situation where the numbers come in lower on closing day than they actually projected.
If you tend to underestimate numbers, this can really make a good deal turn bad quickly. If numbers are tight to begin with and you underestimate by even $100 on something....
that could make a once seemingly profitable property....a bust.
2.) Don't Trust Everything a Seller Says
When you're just getting started, or maybe it's just my positive outlook on life and people, I tend to believe most of what someone tells me.
I've learned in the business world to toughen up a bit and have a little more skepticism....but that came by trial and error.
When you're asking for numbers on potential deals (taxes, insurance, utilities, etc) always ask for documentation to verify what the seller's are saying.
Case in point....
One time we were in the process of going after a deal. Numbers were looking great and I asked the listing agent to find out an estimate of what the utilities were each month as we were going to have to pay them.
The listing agent came back with a number that we plugged into our analysis...and it seemed to work.
Numbers still looked good.
But we decided to ask for the sellers to send past utility bills just to verify what they said.
When we got the 90 some page PDF file of bills....most would have maybe skimmed it...saw how big of a document it was and taken the agent's word as truth.
However, we've learned that you must verify what people say in this game.
So we went through the document and tallied up all of the utilities so we could get an average per month.
And while the original number that we were give was somewhere around $300....the average monthly utility cost (based on previous actual bills) was closer to $800 per month.
That's a $500 mistake each month.
And easily made the deal not worth it.
The lesson here is simple.....TRUST BUT VERIFY.
You have the right to ask for verification of numbers that they are giving you don't feel like you are being too nosey or pushy.
You are simply protecting yourself and your money.
Wrap Up & Next Steps
The reality is that there are a number of things that you need to consider when you get started with investing in rental property. But one of the most important places where you should spend some time really learning the ins and outs is with analyzing deals.
It's important to keep in mind that it is with the analyzing area of investing that mistakes can be made. And those mistakes can be very costly.
I don't say this to scare you. But I say it to reinforce the importance of making sure that you are using the right numbers when you run an analysis and that you are verifying the numbers that you are being given by sellers and realtors.
And more importantly, maybe even overestimating some of the costs that you don't have hard numbers for. That way even when you overestimate and the numbers still work, then you should be good on the deal.
It's better to overestimate than underestimate.
The thought of learning how to analyze deals might feel overwhelming, but we make it easy to learn the process of finding, analyzing and buying your first rental property.
Click here to learn more about our Pro Community where we teach you what we have found to work when it comes to analyzing deals.
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