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3 Steps on How to Start a Rental Property Business

May 21, 2020
Tips & Tricks

(This advanced blog summarizes real estate investing tips and insights Lofty AI has acquired from working with thousands of investors and institutional funds.)

Why start a rental property business?

If you have the dream of quitting your 9 to 5 and collecting passive income for the rest of your life, then real estate investing is the way to go.

The question is, where to start?

The biggest issue most people run into when first starting out in real estate investing, is the overwhelming amount of available information.

There are thousands of real estate investing blogs written by "real estate moguls" explaining how to make money from real estate investing and how to landlord correctly.

It is really tough to know what you should be focusing on, with so much information floating around. This data overload causes many people to assume being a rental property owner is more complicated than it actually is.

This is the number one excuse we hear from people about why it took them so long to actually get started.

Most real estate investing advice is garbage. It's usually obvious, low-hanging fruit.

This page tries to be different. It's a whirlwind tour of only what's critical to starting a successful property rental business.

Read on to learn the 3 steps needed to get started.

Coins increasing in size leading up to a mini-house with a hand dropping a coin into the roof

1. Figure out your finances

The first step that real estate investing beginners should take in order to get started is simple:

Make sure you have enough money to buy a property in the first place.

Before coming up with real estate investing strategies, it is important to figure out your personal finances.

The last thing you want to do is spend a bunch of time looking at real estate investing software just to find the perfect property, but then, once you find it, you realize you are not able to buy it because it is out of your price range.

Side note: For every investment you make, you want to be sure that if you were to lose it all, your life would not be drastically affected. This goes for real estate investing, stocks, angel investing, etc. Never take on more risk than you can handle.

Mortgage vs. buying all cash

The next step is to learn about funding your real estate deal.

For your first property, you want to use a mortgage, do not pay all cash.

Paying all cash will net you higher cash flow. But you will have to commit a much larger amount of money up-front.

Imagine you buy a property with an all-cash offer. Then, you realize it requires significant improvements just to convince a tenant to live there.

No bueno.

House and money next to a mortgage agreement

Types of real estate investing loans

There are two different options available when financing your first investment property.

A conventional mortgage or loan, and a hard money loan.

‍Conventional mortgage

For your first property, you want to go with a conventional mortgage not a hard money loan.

Conventional mortgages follow the rules set by Fannie Mae or Freddie Mac and are not backed by the federal government.

The minimum down payment for an investment property is typically 20% of the home's purchase price. A 20% down payment should allow you to generate cash flow and get a good interest rate.

You must also be able to show that you can afford your existing mortgage and the monthly loan payments.

Most lenders expect rental property owners to have at least six months of cash set aside to cover both mortgage obligations.

Chart of today's conventional mortgage rates

Hard money loan

Hard money loans are secured by the property itself.

The primary focus of a hard money lender is the property’s profitability rather than the borrower's credit score and income. In this case, the lender will still look at the borrower’s credentials, even though they are not the focus.

This is why house-flippers love hard money loans.

Profitability is estimated by the after-repair-value (ARV) of the property.

ARV is defined as: How much the property will be worth after you’ve put money into rehabbing it.

It's much easier to qualify for a hard money loan compared to a conventional loan. You are also usually able to get a hard money loan in a matter of days compared to a conventional loan which can take weeks or months.

The biggest issue with hard money loans is that they are much more expensive than conventional loans. They can have as high as an 18% interest rate and you have to pay them back within a shorter period of time as well.

2. Do your research

The next step to getting your rental property business started is to do your research.

This starts with familiarizing yourself with the basics of real estate investing. You can do this on a real estate investing website like Lofty AI or Bigger Pockets. Both of these websites are geared towards teaching the ins and outs of real estate investing to people with little to no previous knowledge of how to invest in real estate.

You want to familiarize yourself with short-term and long-term rental strategies, general laws and regulations, and tax laws.

After that, you want to decide which type of property you will be investing in. We suggest starting with a duplex/ Ideally you want to find a duplex that you can house hack, meaning you live in one unit and rent out the other.

You want to look for a property that is almost move-in-ready after a few quick fixes like a new roof and granite countertops.

Adding a new roof costs around $3,000 and you can buy new granite countertops for $30 per square foot. With these two cheap upgrades, you can substantially increase the value of your property right off the bat, without having to do any crazy amount of construction or manual labor.

You also want to learn the different ROI methods of calculating your real estate investing returns. Those methods include:

  • Cash flow: Also known as passive income or “mailbox money,” cash flow is the amount of money that you will acquire monthly, after the expenses of the property have been paid for from the monthly income. The formula for calculating this is Rent - Expenses = Cash flow.
  • Cash on Cash return: Cash on cash return measures your received pre-tax cash flow relative to the amount of money you invested to acquire the property. You calculate this by dividing the Annual Pre-tax Cash Flow by the Total Cash Invested, to get the Cash on cash return.
  • Cap rate: Cap rate, or capitalization rate, is a measurement used to compare various real estate investments or markets. It is most often calculated as the ratio between Net Operating Income (NOI) and a property's original acquisition cost (including upfront repairs and expenses). The formula is (NOI/Purchase Price) × 100% = Cap rate.
  • IRR: A property’s internal rate of return (IRR) is an estimate of the value it generates during the time frame in which you own it. The formula for this one is a bit complicated, so make sure to check out the article linked below for more detailed information on internal rate of return
Related: How to Calculate the Rate of Return on a Rental Property

Once you have learned the basics, you will be ready to just dive in!

You can only spend so much time reading real estate investing blogs and memorizing the lingo. You will ultimately get overloaded with data to the point where you never actually get started, so do your research, but be sure to go out and get your feet wet once you have a good handle on the basics.

Writing with a pencil with a laptop open showing a pie chart and other pieces of paper showing pie charts and bar graphs

3. Search for a property to buy

The third step is to start searching for investment properties.

There are plenty of ways to search for property. Some of these apps include:

  • Zillow
  • Redfin
  • Advice from real estate agents
  • Lofty AI

Real estate agents can be helpful, but very few of them actually have experience working with real estate investors. Most agents only work with people wanting to live in a home or sell their home.

The issue with using real estate investing platforms like Zillow and Redfin is that they're not meant for real estate investors. They were built specifically for home buyers and home sellers.

You will more than likely end up spending 10+ hours a week leafing through property listings on Zillow and Redfin, looking at real estate investing news and real estate investing blogs, and combing through insane amounts of data from every corner of the internet.

The information, at the end of the day, is inconsistent, counterintuitive, and at times, untrustworthy.

The main takeaway is that most platforms built to search for properties are meant for home buyers or home sellers. So this is why we built Lofty AI. A real estate data science platform that cuts through the noise.

We show you the exact properties you should buy to make the highest returns possible, in seconds.

Lofty AI platform in Oakland, California

Our app identifies cash-flowing, undervalued properties primed for rapid appreciation. We have properties in over 45 US markets making real estate investing out-of-state a breeze.

Our real estate machine learning platform is able to do this better than any other platform out there. This is because we leverage alternative data that’s updated every single day and granular at the city block level.

By contrast, other data providers use yearly data or quarterly reports that are granular at the city level.

How it works:

  • Our models ingest data from over 50 leading indicators.
  • Our A.I. learns which data contributes to rapid neighborhood appreciation.
  • We then pinpoint which neighborhoods are primed for rapid appreciation.
  • Our models then identify available listings within these trending neighborhoods.
  • Of these listings, we then determine which properties are the most undervalued and have the highest CoC return.

This is the rental property investment strategy everyone should have regardless of whether you're a Lofty AI user or not. We just make the process 100X faster and more efficient.

Our real-time data allows you to invest in over 45 markets without having to acquire any local knowledge whatsoever.

Start investing in real estate today, from the comfort of your own home, without having to do any complicated calculations to find the right properties. The thing that makes Lofty AI special is the:

Automated. Local. Knowledge.

If you are interested in learning more, you can request a free demo by clicking the button below.

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