I see a ton of advice out there that says start with REITs (basically mutual funds for real estate) or use some other online investment platform which are typically only open to accredited investors.
Honestly, I don’t like either of those strategies. The first eliminates so many of the benefits of actually investing in real estate (your returns are limited and you don’t get the tax benefits) and the second really only applies to people who are already investing in real estate.
This post is for people who are where we were 5 years ago. People who want to start investing in real estate, but don’t know how, people who want to start investing, but don’t have a ton of capital, and people who want to start investing, but are too intimidated to actually get started.
Househack
Price Range: $7,000-$25,000+
One of the best strategies we recommend for buying your first rental property is called house hacking. We recommend it because It’s flexible, easy to implement, crazy low risk, and works incredibly well.
House hacking is when you rent out a portion of your personal residence to offset the cost of your mortgage payment. Maybe you live in one side of a duplex and rent the other side out, maybe you have a single family home and rent out your basement. Maybe you just rent out storage space in your garage or shed. There are a hundred ways you can house hack depending on what you’re comfortable with and what opportunities your property has available.
There is no right answer here. It all comes down to how bad you want financial freedom and what comforts you’re willing to temporarily sacrifice to get there faster.
If you’re interested in house hacking, be sure to pick the right property. Not all properties have the same house hacking potential. Properties with multiple living spaces work the best for house hacking. We already talked about renting out an auxiliary unit like a basement with a separate entrance, but buying a duplex or a triplex or a 4-plex is even better. If the property has a garage, shed, or an RV pad, that’s definitely a bonus.
The secret to house hacking is starting early. If you’re young and used to living in small grungy apartments, living in one unit of a 4-plex or the basement of a house isn’t a shock or big deal. But if you’re already accustomed to living in a nice spacious house, it’s really hard to give that up.
If you’re considering a house hack, be sure to check the local laws. In most places, you’re fine to rent out your basement to long term tenants, but short term rentals may not be allowed in your city or HOA. Also, if the property is zoned for single family, you’re fine to rent out the basement when you live there, but you might have an issue when you move out and treat that house like a duplex.
For the most part it’s illegal to rent out a single family home to more than one family without a zoning variance. To get a variance or change the zoning they might require you to make some changes. You might need utilities to be separately metered, fireproof berries between units, or separate major appliances like water heaters or furnaces.
Most of the time it’s not worth it to make these changes, so when you move out, you could rent the whole house on one lease, or just risk it treating it like a duplex and hope for the best. If you get in trouble you could also sell the property and use the proceeds to buy your next rental. There’s really no bad option here, any of those would be fine.
House hacking is the cheapest and best way to get into your first few rental properties because it allows you to take advantage of owner occupied financing which means smaller down payments and more leverage. A smaller down payment means you can get started sooner, and more leverage means a higher rate of return. Plus house hacking is a great warm up to being a landlord since you’re right there with your tenants all the time and can take care of any issues that arise all by yourself with little effort.
If you’re willing to house hack, that’s typically the best option for beginners and we 100% recommend it.
Creative Financing Deal
Price Range: $0-$20,000+
We just talked about these types of deals in our post last week. These deals can be seller financing, sub to deals, or rent or lease to own deals. These deals 100% exist, but they are either very competitive or very hard to find and require you to put in a lot of time and research. Pace Morbey preaches these methods and they work, but they take time. Sometimes, a LOT of it.
Not only do they take a lot of time to find, but they have a huge learning curve that makes it tricky to try to do one of these deals on your own. Real estate in general has a learning curve (which is why we offer mentorship along with our online course!), but creative financing options are even more nuanced and tricky to operate and you definitely want someone who has done them multiple times showing you the ropes to structure one of these deals. We’ll split this section into sub to and seller financed deals.
Seller Finance
If you’re looking into seller financing there are so many different ways to structure the deal. We recommend using the 5-5-5 rule. This rule means that to invest in a seller finance deal you want to put no more than 5% down, pay no more than 5% interest, and you want at least 5 years before any type of balloon payment. Obviously, if you can negotiate something better than these terms go for it. It’s completely possible to find either 0% down or 0% interest loans which are great! Longer terms are definitely more common in sub to deals, but you can totally find them with seller financing as well.
The biggest advantage to doing seller financing is that you and the seller can get as creative as you want. You can increase the downpayment and drop the interest rate. You can increase the purchase price and have no downpayment. You literally can do whatever you want as long as the seller agrees to the terms.
As a result of negotiating the terms when you do find a seller finance deal you can often get crazy awesome returns. My brother-in-law has bought several properties using seller financing and on two of the properties he put $0 down! Any return he gets from either of those properties is literally an infinite return on his investment. Okay, not quite, he did have to pay closing costs, but his return is still ridiculous!
The biggest issue with seller financing is that it is a LOT of work. First you have to find a seller that owns their house. Typically, sellers looking to offer seller financing own their home outright. You might find an occasional seller financing deal where the owner still has a mortgage on the property, but that’s less common.
Second you have to find a seller that’s willing to agree to something strange or foreign like seller financing which is especially difficult in hot markets when it’s easy to sell your house the normal way.
Third, you still have to buy the right type of property that’s going to perform well as a rental.
Getting all 3 of these essential parts to align is difficult and requires tons and tons and tons of cold calling or knocking doors. And then when you find someone, you have to handle all the complicated paperwork and hope you don’t make any mistakes.
Dallas’s neighbor sold a property using seller financing and the buyer stopped making payments, but he couldn’t do anything about it because the paperwork wasn’t right. It’s so much safer and easier to find a property for sale on the MLS and get a loan from a bank to buy it.
Sub To
Next we have sub to or subject to. This is when you purchase a property subject to the existing mortgage. If you find someone who is open to seller financing, but still has an existing mortgage, you can buy their property sub to or subject to their existing mortgage.
The seller keeps the mortgage in their name, but the property ownership will be transferred to you. There are a couple ways to structure actually making the payments. Either you can log directly into the seller’s mortgage account and make the monthly payments OR you can pay a third party mortgage servicing company to take care of all of that. You send them the money and they pay the mortgage, taxes, insurance, and send anything extra to the seller.
This is usually a great way to get into an investment property for very little money down. Typically, sub to deals are with distressed sellers and so your ‘down payment’ will be your closing costs and any back payments that they haven’t made.
Just like with seller financing this strategy also requires a bunch of cold calling or knocking doors to find a seller who is willing to sell you their property. You also need to make sure it’s in an area where you want to own a long term rental and where it will perform well.
Again you’ll have complicated paperwork, plus you risk the lender exercising the due on sale clause. Pretty much every mortgage has a clause that says when the property is sold, the lender has the right to call the note due. You’ll obviously never tell the lender about the sale, but if they ever find out, you might be in a lot of trouble when they require the seller to pay off the entire mortgage balance immediately. This strategy can create financial freedom, but it’s a ton of dirty work to find the right sellers and you’re taking on more risk than you would with other strategies.
Vacation Rental Arbitrage
Price Range: $5,000-$20,000+
This is where you reach out to landlords renting a house or an apartment and you lease the apartment from them with the explicit understanding that you will be subleasing their property as a short term rental.
The costs to get into this are your deposit and typically the first month’s rent. In addition, you will need to furnish the apartment. Tools like AirDNA can be helpful to project your expected returns, but it’s becoming harder and harder to predict returns on budget short term rentals.
This strategy definitely has the potential to bring in cash, but it doesn’t have the same benefits of actually owning real estate. You only capitalize on one of the four money makers of real estate.
If you have a small chunk of cash to invest this could be a good place to start in order to increase your investable cash on hand, but we don’t recommend using this as your sole long term strategy.
Rent out a room
Price Range: $0-$500+
Finally, to dip the very edge of your toe in the real estate waters, you could rent part of your home. Such an arrangement can substantially decrease housing costs, potentially allowing you to stay in your home as you continue to benefit from price appreciation on your property.
Adding roommates can also make a mortgage payment more attainable for younger people. But if you’re not sure you’re ready, you could try a site like Airbnb. It’s house hacking for the commitment-phobe: You don’t have to take on a long-term tenant, potential renters are at least somewhat prescreened by Airbnb, and the company’s host guarantee provides protection against damages.
Renting out a room feels a lot more accessible than the fancy concept of real estate investing. If you’ve got a spare room, you can rent it.
Conclusion
Like all investment decisions, the best real estate investments are the ones that best serve you, the investor. Think about how much time you have, how much capital you’re willing to invest and whether you want to be the one who deals with household issues when they inevitably come up.
If you’d like some help determining which strategy makes the most sense for you in your unique situation, reach out, book a call. Let’s chat and find the strategy that makes the most sense for you.
