How to Save for Your First Investment Property as a Renter

Originally posted on November 03, 2021 3:00 pm
Updated on November 04, 2021 3:18 pm

Are you wondering how you can get started in real estate? If you’ve never owned a home before, investing in property can seem like a daunting task. But, by breaking up the process into actionable steps, you’ll be on your way to being a landlord. The first thing you want to do is take control of your finances. This includes setting a savings goal, consolidating student loans, and reducing your monthly expenses.

Here’s how you can get started:

Categorize Finances Using The 50/30/20 Rule

The first step in saving up for anything is to take an honest look at your finances. A few questions you want to consider are:

  • How much money is coming every month?
  • How much of that money is going out?
  • Where can you cut back on spending in order to reach your savings goal?

If you don’t have a hefty amount of savings piled up, you’re not alone. 56% of Americans have $5,000 or less in savings. However, if you’re serious about owning an investment property, you’re going to have to make some adjustments. The 50/30/20 rule is a great tool for looking at how much you can afford to put away each month. Here’s how to use it:

1. Take your total monthly income and allocate 50% to mandatory/fixed expenses. This should include your rent, groceries, phone bill, student loan payments, car payments, and any other expenses you deem absolutely necessary.

2. Next, allocate 30% of your income to spending. This includes anything you enjoy doing for leisure including travel, shopping, dining out, gym memberships etc.

3. The remaining 20% should go directly to your savings account. Don’t Trust Your Will Power. Automate Your Savings Instead. Saving up for a home will prove to be a challenge to anyone who does not exercise self control. It will most likely take months for you to be in the financial position to purchase, maintain, and manage your first property. This is why it’s important to have systems in place that override your desire to spend when saving for a home.

Once you’ve established a consistent income stream month-to-month, automate your savings. Keep them in a separate account if possible. Avoid touching that account until you’ve reached your target goal. It may take some time, but it will be well worth the wait.

Make a Long-Term Plan to Pay Down Personal Debt

One of the biggest barriers to homeownership is high amounts of debt. Between student loans, credit cards, car notes, and other monthly expenses, aspiring property owners have a lot to tackle. If you want to increase your chances of getting approved for a mortgage loan, you want to keep your debt-to-income ratio below 36%. Anything above this and lenders consider you high-risk.

Take inventory of all your debts and come up with a realistic plan to pay them down. See where it is you can consolidate and lower interest rates. Negotiate lower balances by offering lump sum payments. Every step you take towards lowering your debt is a step closer to homeownership.

You also may want to consider how you can increase your monthly income, whether it be asking for a raise at your current job, switching jobs, or starting a side hustle.

Secure a Large Down Payment or House-Hack with an FHA Loan

Down payments for investment properties are typically 20%-25% of the total property value. For a first-time investor, this percentage can be a bit overwhelming. Luckily, there’s a way around having to pay such a large amount of money upfront. The FHA Loan Program backed by HUD offers an alternative solution. If you’re open to living in your investment property, while renting out the remaining floors, you should consider applying for an FHA loan. FHA mortgages allow for down payments as low as 3.5% on properties with 1-4 units. This program is also helpful for those with poor or no credit history as well as low-income families.

Factor in Operating Expenses & Unexpected Costs

Purchasing your investment property is just the beginning. After you sign that contract, it’s your responsibility to maintain your property day in and day out. Once you’ve reached your savings goal for a down payment, you want to make sure you have enough in the bank for operating expenses and unexpected costs.

Operating expenses are payments you’ll have to make on a regular basis to maintain your property. They include property taxes, utilities, and landscaping to name a few. Unexpected expenses are payments you’ll have to make when something goes wrong, such as the roof caving in after a tropical storm or pipes bursting in the winter.

Operating expenses can be anywhere between 35% and 80% of your rental income. You should set aside 20-30% of your rental income each month for unexpected repairs. It’s important to be able to cover these expenses even when your property is vacant. This is typically the case in the first couple of months after purchasing, since it takes time to find tenants.

Avoid Purchasing a Fixer-Upper

If you’re struggling to come up with a sizeable down payment or still have a considerable amount of debt, it can be tempting to purchase a cheaper property to secure a smaller mortgage payment. Resist the urge to buy a fixer-upper! Homes that are priced well below market value are usually in need of extensive renovations. First-time investors need to be careful of underestimating how much money and physical labor is required to turn a fixer-upper into a livable home. Unless you have connections to contractors who do quality work at reasonable rates, you should hold off until you find a property that requires little to no renovations.

If you happen to be skilled at large-scale home improvements, maybe buying a fixer-upper is a viable option for you. However, make sure you take into account the time it’ll take you to complete these renovations and factor that into your costs.

Assess if You’re Ready to Be a Landlord

Lastly, but perhaps most importantly, you need to assess if you’re ready to be a landlord. This is not meant to discourage you! However, it’s important to consider your lifestyle and skill sets to see if owning a home and being a landlord are a good match for you at the moment. Real estate provides a solid path towards passive income, financial freedom, and even generational wealth. It’s no wonder why so many people are interested in acquiring property. But it’s important to keep in mind all of the responsibilities that come with being a landlord. Ultimately, anything that goes wrong with your property needs to be handled by you.

Hiring a property manager or regularly contracting labor can take some of the pressure off your shoulders, but it’ll come at the expense of your profits. Make sure you’re not just in the financial position to take care of a home but also mentally equipped to deal with the full-time demands that being a property owner comes with.

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