Thinking of buying a house and renting it out.

[ShaneMcKenna 0]

There's this house I've always liked for years now. Just recently it was put up for sale. I know the lady selling it and I knew the people who rented the house previously. I've been in and out of the house a few times, and I've always wished it would be mine one day. A few weeks ago she put it up for sale. I have not talked to her yet, but she is asking $159,000 for the house. I was thinking about buying the house but it isn’t the best time for me. I do have the money for a down payment, but I need to wait about 6 months or so by then I will be done paying for school. Right now I can't do the mortgage and a school payment. I was thinking about getting this house and renting it out for 6 months to a year. How hard is it to find someone wanting to rent? If the mortgage is $750 what is a decent price to charge rent on the house? Can I do the lease on 6 month terms? I know I will be responsible for the upkeep of the house and that is the only thing that scares me.

Say everything goes well, and I have $800 a month coming in that goes towards my mortgage, I am having someone else pay me so I can own a home. I know it isn’t going to be that simple. You have to find people to rent that you can trust, and I have to pay the property tax. But I will benefit from this I think in a great way. I will see the savings with taxes and I will be building equity. Then 6 months to a year from now, I can either move in myself or keep renting it out.

 

Some more questions I have are...

Will I have to get a different loan for the mortgage sense I will intend on renting it out?

Do I have to pay taxes on the money they pay me for rent? (if my mortgage is $750 and they pay me $900 do I pay tax on the difference? Or is all that money mine and can I use it for mortgage and taxes)

Do the renters have to get rental insurance? If so do I still need insurance on the home?

 

Can I get some feedback from people who have done this? I want to know what are some things I am overlooking and what should I look more into. What are some things that could go wrong? How easy is it to keep the house occupied? (Rented)

Thanks for your time, Shane

[Andrew Ikeda 0]

Hi Shane,

 

I'm super busy! Getting ready to make three offers on multi-units so must make this quick...shooting from the hip:

 

1) Yes, you must get a different loan. Most lenders do not allow the mortgage to be 'assumed'.

 

2) Have you heard of PITI: Principle, Interest, Taxes, and Insurance? These are the four main ingredients you need to have covered and plan when you purchase real estate. Principle and Interest refer to your mortgage which is a.k.a 'debt service' and Taxes and Insurance are expenses. I use the 1% rule: Gross rental income (monthly) must equal 1% of sales price. So then, $159,000 X 1% = $1,590/month for rent. Can you get this much in rent?

 

3) The $1590 would cover your PITI. Of course, this is a general rule of thumb. Your actual PITI will be lower if you go with an interest only or ARM loan.

 

4) Yes, you as owner will be responsible for paying taxes and insurance on the property but you will take that amount out of the rents (as per above)

 

5) I would have a reserve against maintenance and repairs regardless of whether its a lease option or straight purchase.

 

6) How easy to keep it rented? Again, that depends on how much your monthly PITI is and how much over that you can generate for/as cashflow.

 

Hope this helps.

 

Andrew

[ShaneMcKenna 0]

Hi Shane,

1) Yes, you must get a different loan. Most lenders do not allow the mortgage to be 'assumed'.

Will I have to get in at a different rate, or does that just mean it is a longer process? What all will be different from me getting the mortgage and paying it on my own? Also can I get some more info on taxing the money I will be bringing in (say the $900 a month) I am not getting this house for sure I am just seeing what my options are. I am pretty sure the house will rent for at least $900 a month. If you do the math, I would be breaking even after I pay the mortgage and property taxes.

If I am just breaking even for the first year do you still see the benifits? Or should you be seeing a positive cash flow before you get into renting a home to someone?

Thank you, Shane McKenna

[ShaneMcKenna 0]

I am still thinking about the deal a little bit today. I haven't ruled it out completly. Today I thought of an idea that may help me get started. Do any people who rent the houses out do interest only loans? At first i was against the idea of interest only payments because thats doing the opposite of what I want to do. Really i'd just like to pay off the Principal of the loan. But there are some advantages to an interest only loan. My payment would be $175 less a month. My mortgage would be $560 a month vs $750.

Do you think that could be the answer to my problems? What happens if I am making interest only payments on the house for 5 years and the house does not appreciate in value. I dont make any equity do I? Rule of thumb the house will go up in value, but what if it just stays the same, what have I done by paying only the interest? And what are the rates on an interest only loan?

Will lenders get me financed with an interest only loan if my intention is to rent the house out?

Shane

[Dave T 0]

How hard is it to find someone wanting to rent? If the mortgage is $750 what is a decent price to charge rent on the house? Can I do the lease on 6 month terms?

If the house is in decent shape, and in a decent neighborhood, it should not be too hard to find a tenant. There are some renters who do want a six month rental, but this may be a little more difficult if the property is unfurnished.

 

I am making a few guesses here. I like to see a net operating income at least 125% of your debt service. To get there after expenses, you will need $937.50 just to give you a little cash cushion to cover unplanned repairs, vacancy, etc. Add to this number your prorated advertising costs, leasing expenses, legal fees, property taxes, hazard insurance, maintenance, cleaning, and upkeep; now, your required rent is probably closer to $1100 per month. Will the rental market in your area support this rent?

 

Say everything goes well, and I have $800 a month coming in that goes towards my mortgage, I am having someone else pay me so I can own a home.   I will see the savings with taxes and I will be building equity. Then 6 months to a year from now, I can either move in myself or keep renting it out.

At $800 per month, I suspect that you will have a negative cash flow property. In your case, it would probably be better to just wait six months to purchase, then owner occupy.

 

Income tax savings will not be good enough to overcome the negative cash flow, so your tax benefit doesn't justify this purchase. It is true, you will build equity both in principal reduction and through appreciation.

 

There are three reasons to invest in rental property: Cash Flow, Future Appreciation, and Tax Benefits. If you can take advantage of two of these three, then the property might make a good addition to your rental portfolio. In your case, cash flow is negative, and your out of pocket costs may eat up any appreciation you might realize during your short holding period. Tax benefit alone is not sufficient justification to invest in this property. I am not saying this property is wrong for you, just that your numbers are not good enough for me to consider this property as an investment rental. Primary residence use is a completely different consideration.

 

I have to get a different loan for the mortgage sense I will intend on renting it out?  Do I have to pay taxes on the money they pay me for rent? (if my mortgage is $750 and they pay me $900 do I pay tax on the difference? Or is all that money mine and can I use it for mortgage and taxes)

You will need to apply for a non-owner occupied loan for an investment property. Many lenders offer you the same interest rate as for an owner-occupied property. The qualifying process will be the same.

 

Yes, your rental income is subject to income taxes at your ordinary income tax rate. However, with your margins so low, and the prospect of a negative cash flow, I suspect that you will have a net passive loss from your rental operation which you can use to offset some of your other income -- lowering your final tax liability. When operating a rental property, you declare your rental income and then subtract your expenses (mortgage interest, advertising, leasing fees, repair costs, supplies, property taxes, hazard insurance, etc.). Finally you take a depreciation expense. All your rental income and expenses are reported on Schedule E (1040).

 

Do the renters have to get rental insurance? If so do I still need insurance on the home?

While many renters don't bother with renter's insurance, your lease agreement should state clearly that you (the landlord) do not provide insurance for any of the tenant's personal property. After all, that is what the renter's insurance is for. You also need a landlord insurance policy with a fairly healthy liability coverage. Accidents do happen (pipes burst, fire, storm damage, someone falls, even theft and/or vandalism). Your landlord policy protects you against these perils.

 

Can I get some feedback from people who have done this? I want to know what are some things I am overlooking and what should I look more into. What are some things that could go wrong? How easy is it to keep the house occupied?

You don't say where the property is located, so you will have to survey your local market to determine how easy it is to keep the house occupied.

 

One of your first steps is to acquaint yourself with your local landlord tenant laws (both state and county). Make sure you know what you are allowed to charge for a security deposit and application fee. Learn how to run a credit check and landlord reference check. Open a separate bank account for your security deposit escrows, and know whether your landlord tenant laws require you to accrue interest on the deposit.

 

Go to the library and check out a couple of books that specifically discuss landlording -- something along the lines of "Landlording for Dummies" would be a good intro book.

 

What can go wrong?

• The major systems in the house could fail (heat, air conditioning, roof) and require replacement. Make sure you have sufficient cash reserves to cover your replacement contingencies.
  
• Tenant damage is sometimes costly to repair and your security deposit may not cover all the costs.
  
• How will you handle a vacancy? Do you have enough cash on hand to ride out a vacancy period?
  
• What if the tenant stops paying rent? Do you know the eviction procedures, or have access to an attorney to represent you?