How Buying a Rental Property Actually Works

Jeff Albaum

It's good indicator that it's probably not going to be a good relationship to work with, right? So find a property manager that you see yourself working with or at least enjoy talking to and they seem competent and, you know, are have some referrals that you can talk to. And so, you know, more than reasonable to ask for referrals. So if you have a conversation, say, you know, I you seem really lovely. I would love to get a couple of clients to to chat with them and hear about their experience. And, you know, they should be more than happy to share those with you. If they don't, that's another red flag.

but so once you've identified your property manager, now you can send them the deals that you think pencil and you say, Hey, I'm looking at this deal. What do you think? And they're gonna have amazing, very specific knowledge for the market that you're in. They're gonna know, that street is is actually not so good because you know, there's doing there's a lot of construction, it's really loud, and so like it's hard to rent, right? Or they're gonna say, that street's really amazing because

There's a new development coming up. So I think actually property values are going to increase in the path of progress, et cetera. So they're going to have specific knowledge that you might, as a person not living in that market necessarily, might not have access to. And also they do this day in and day out. So they're going to know, this is a great area. you know, I think we can rent it for this much, and you can kind of start to validate your rental numbers. So they're gonna be really, really helpful for going over your assumptions.

And the best thing is to share your spreadsheet with them and say, hey, what do you think about this? You know, like, is this reasonable? Would you buy this deal? Is this interesting? Like all those types of things, all those types of questions. They're gonna be really great resources for you to have. so from there, let's say you've you've identified your market, you've found, you've been analyzing deals, you found a deal that you like, you found a property manager that you like, and you've sent them the deal that you're interested in. And so now, and and they approve, they like it, they agree that it's a good deal.

So now what you can do is you can ask them for a referral for a real estate agent. So that's the first team member that the real that the property manager, remember, think about like a central hub, the center spoke and a wheel. That's the first spoke that they're gonna connect you to as a real estate agent. Nine times out of ten, a property manager is gonna be licensed themselves, works with someone in their office who's licensed, or has a great recommendation for a real estate agent that they've worked with in the past.

And the reason you want your property manager first and then have them recommend an agent is a real estate agent is incentivized and they get paid when you buy a deal, not when you buy a good deal. A property manager is incentivized because they're the ones who are going to be dealing with your property on a day-to-day basis. Right. So they're incentivized for you to buy a good deal because they don't want to take on a headache. Right. So

That's a very important distinction because a lot of people will start with, I have this deal. Let me call a real estate agent. But actually, you want to start with the property manager first and have them recommend an agent or have them be the agent themselves. So they will recommend a real estate agent or they will be your real estate agent themselves, which is amazing. and so then you're going to put in an offer on the deal you're interested in. So in this case, one, two, three, main street.

You've identified it, you've ran the numbers, you like the numbers, you've sent it to the property manager, they've validated your numbers and they also agree that it's a good deal. You put in an offer for one, two, three, Main Street. And putting in an offer means you submit a a piece of paper that you sign from and your your real estate agent will put this together and usually send you something that you can sign electronically that says, I, Jeff Albaum, am interested in putting in an offer to buy one, two, three, Main Street from seller.

For this price. here are my terms, here are my conditions, and those terms could be anything and everything. So a typical contract that I use has a couple key components. One is obviously the offer price. So I'm saying, hey, this is what I'm offering to buy this property for. Two are contingencies. So a contingency is we're going into this negotiation, we're going into this contract, and it's over a period of time. So usually it's about a month, 30 days. So

I'm offering to buy this building, but we're I'm actually not gonna like actually buy it until 30 days from now. And in those 30 days, a lot of stuff has to happen, right? And so I wanna build in ways that if anything comes up over that 30 day period that I didn't anticipate, I can back out, right? Because there's new information that came to light. So that's what a contingency means. Just basically a way for you to back out of the deal if new information comes to light that you didn't know.

So, you know, I offer, let's use a hundred grand as the as an example. So my offer is gonna be for a hundred thousand dollars as the purchase price. and some contingencies might be an inspection period, right? So usually that's within the first 10 days. And it's my right, if the contract gets accepted, to get the property professionally inspected. So I can see the nooks and crannies of what's going on and how the plumbing system is, how old the HVAC is, how old the roof is, if there's foundation issues.

All this stuff is gonna come up in a in a property inspection and I'm gonna get an inspection report. And if it comes back in such a way that I feel, shoot, this is, you know, this building's in really rough shape. I wasn't anticipating that. I can back out during that inspection period. Right? So that's one contingency. It's an inspection contingency. Another contingency could be a financing contingency. And so what a financing contingency is, is this offer is contingent.

on me, the individual who's buying it, being able to go out and get financing for this deal. And if I can't get financing, I can back out of the deal. Right. So for whatever reason, if I can't get financing, obviously, if you can't get financing, you're not forced to buy the deal if you don't have the cash to do so. Right. So I don't have a hundred grand sitting in my pocket burning a hole. I need to go get a loan. And so if I can't get that loan, obviously there's no ways for someone to force me to buy the building.

If I don't have a hundred grand, right? So, now on the other side, the the seller is taking a little bit of risk because they're saying, okay, well, you've offered to buy this property, but what if you don't close? And closing means the end of the 30-day period, you actually bring the cash to the table. The loan is lined up, the insurance is lined up, everything is all your your T's are crossed and I's are dots, I's are dotted. I like T's are crossed and I's are dots better.

So you actually close, but if you don't actually close, the seller is kind of 30 days without any anybody else going to see the property and they've they've effectively lost 30 days. It's called falling out of contract. So from the seller's perspective, they're unhappy. So they need a little bit of of they want some skin in the game, so to speak. So it's very common as a buyer to put down earnest money.

And earnest money is is me as as the as the buyer saying, hey, I'm this is my offer. Here's my my offer contract with all these contingencies, inspection, financing, et cetera. To show you that I'm serious, I'm gonna put down an earnest deposit. And that that's cash that I'm gonna put down, that I'm gonna basically give to either the brokerage or the title company, which we'll talk about in a second. So my real estate agent works for a brokerage, I can send that cash to them.

And they're gonna hold it. And they're gonna hold it because if I walk away within my contingencies, right? So if I walk away because the inspection came back and it was gnarly, or I couldn't get financing, and it's within the contingencies that are laid out in the contract, I get to take my earnest money back. But if I walk away outside of the contingencies, so I was not within the inspection period and I was able to get financing, I just decided, you know what, I'm not into this.

And I walk away, the seller gets to keep my earnest money because I broke the contract, right? I said, I actually am not going to do this, but not for the reasons that I specified. So I can walk away, but they get to keep the earnest money. And it's a little bit of I guess incentive for me not to walk away, right? And conversely, if I do walk away, it's compensating the seller for the time lost that they it wasn't on the market. So those are a couple of terms that I think are talked about a lot, but maybe not.

defined as as much. So going back to our example in the storyline is I put in an offer and the seller can do a couple things with that offer with all the contingencies. They can accept it outright. They can come back and say, you know, let's say I offered a hundred grand. They can come, but the list price was 120, right? You don't have to offer the list price. You can offer whatever you want. So let's say the list price was 120, I offered 100, they could come back and say, let's do one ten.

Right. I can count. So that's a counter. I can counter their counter, right? I can say 105. And they can say 107, right? So you can counter as many times as you want back and forth. but the that's that's what that process looks like. So once you land, once you agree on a price and terms and contingencies, then the offer is accepted. And so what that means is you've started that timeline for usually 30 days.

Right. So you're saying, great, we're under contract now. So from 30 days from now is when closing is is set tentatively. sometimes closing gets pushed back, but that's okay. so tentatively closing is set for 30 days. So now as the buyer, you got to get to work because you got a lot of stuff you have to organize. So once you're under contract, then it's a great idea to go ahead and get your inspection, which we talked about before, scheduled ASAP, because inspectors are are busy people.

And you know, you might only have ten days to do an inspection and the inspector could be a week booked out, right? You you go to, hey, I'd love an inspection. They say, Great, our earliest availability is two weeks from now. You say, Well, shoot, that doesn't work for me because that's 14 days and I only have ten to get the inspection completed and get the report back and then make any decisions from that report before the ten days is up, right? So very important to call your inspector first and schedule the inspection.

The other things that you're gonna want to do is start talking to lenders. So there's a there's a ton of different types of lenders out there. But if you're buying a an investment real estate deal, you can't use like if if you heard of an FHA loan or a well, that's probably the only type of loan, but like you it's harder to use residential loans. You can, but it's harder on investment properties. So you're gonna need an a lender who specializes in investment style loans.

So it's a great idea to have that relationship even before you're under contract. So you, you know, when you send them something that says, hey, I'm under contract, they know a little bit about you. Maybe you've sent them tax returns already or bank statements. And so they've been able to underwrite you a little bit even before you're even officially under contract. But definitely you want to talk to your lender and say, hey, I'm under contract. Here's the purchase price. here's here's the you can send them the contract and say, This is what it is, this is when closing is.

and they're gonna do a bunch of stuff. They're gonna underwrite the deal, they're gonna underwrite you, they're gonna order an appraisal, which is when a third party goes out to the property and says, Yes, we think that this property is worth the amount that the contract is for. So in this case, we think that it's worth a hundred thousand dollars at least. or it might be worth more, it might be worth less. But the lender is only gonna lend on the amount that the appraiser says that the property's worth.

So if I put in an offer and it gets accepted at 100 grand, but the appraiser comes back and says the property's only worth 50. That's a $50,000 gap that I need to come up with in cash because the lender is only going to give me a percentage of the appraised value. And if it appraises at 50, usually they're going to give me like 80 to 7, 70 to 80% in a loan. And I have to come up with the rest as cash as a down payment. But in this case, there's another 50 that I got to come with on top.

So if that if that was the case, I would probably say, okay, I'm I'm not gonna buy this deal, right? Because this doesn't make sense for me. So you know, inspector, and call the inspector, talk to your lender, get financing arranged, and also send out a note to an insurance broker and say, Hey, I'm under contract for this property. I would love an insurance quote. and so for all these things, you can get quotes and estimates for all of these providers. You don't have to use one inspector, but

Who do you think is the best person to ask for recommendations for all these people? Your property manager. Great call. So they're again going to be a very helpful resource because all of their clients are real estate investors, right? So this is what they do. They know who the best lenders are. They know who the best insurance people are. They know who the best inspectors are, right? They know who the best contractors are because they work with them day in and day out. So you can even ask them, hey, I've I've ordered the inspection, I've

Got an insurance quote. You know, I've I've gotten the the financing is the ball is rolling there. Am I missing anything? And they're gonna walk you through and they're gonna say, did you did you call the title company? You're saying, No, I didn't. Thank you. and so the title company is also a very helpful part of the process. And they're kind of you can think of title as like the aggregators of all this information. So all this information is coming and and there's the contract and the purchase price, but then you've paid for the inspection and you've but the seller has given you.

Some money off because of the inspection came back. And so, you know, the the title company is the one who at the end of the day has an it's it's a basically a single sheet of paper and it's a spreadsheet with one side as the seller, one side as the buyer, and it lists out all of your debits and credits. And so at the end of the day, the day before closing or on closing day, you look at this document and you say, Okay, great. I've paid for this, I paid for this, your earnest money, the earnest money that you sent in, that's on there.

Because you obviously don't have to bring that money to closing. It counts towards your down payment. so it's the the title company is like this third-party intermediary that takes care of all of like when you actually go to wire the money or the lender goes to wire the money, they wire it to title, right? And then title is is the one who aggregates everything and sends out the checks to the seller or the buyer or whatever it is.

So title is a very important number and you can just say, hey, you I'm under contract for this building. This is the closing date. just wanted you to open up a file. And as things come in, you know, the lender will be working with them directly throughout the process as well. So that in general, so then you you move towards closing. And on closing day, or ideally a couple of days before closing, you're gonna get or you can reach out to title and ask for what's called a settlement statement.

And a settlement statement is that piece of paper I was talking about, that spreadsheet that has the buyer and seller debits and credits. So, you know, you're gonna see on the buyer side, you're gonna see your down payment that you owe and the amount that you at the end of the day, what you need to wire into title in order to close on the property. And the seller is gonna see basically the amount of money that they're gonna get after they, you know, because they probably have a loan that they have to pay off. So that's gonna go on their side.

you know, they might have had some fees or some credits that they gave you because of the inspection. that's gonna be shown up there. So it's gonna basically show the bottom line numbers of buyer. This is how much you have to send in to cover your down payment, any fees, the financing fee, et cetera. on the seller side, this is how much you're gonna receive after taking into account, you know, the purchase price minus the seller's loan and any other fees that they've incurred throughout the process.

any taxes that haven't been paid or have been paid, right? Because if you pay your property taxes up front at the beginning of the year, you should get a credit because you're selling the property, I probably not at the exact end or beginning of the year, right? If rents have been paid and you're you're closing in the middle of the month, but rents are paid on the first, you need to split those rents in half, right? So the the buyer and seller each aren't entitled to all of the rent for that month if you close in the middle of the month.

Right. So stuff like that is what the title company is going to help you to walk through. but it's also good for you to double check their work because they're humans and they can make mistakes. So it's really helpful and important to get a copy of that settlement statement, ideally days, but usually they're not ready, but at least a day before you go into signing. because the day of signing, it's really hard to look through all that stuff. And if you need to make a change, it's hard to get in touch with someone to to make the changes and then send out the copy. So

Ideally, it's best to get a copy of the settlement statement days or at least one day prior to closing. And the day of closing is is is actually pretty anticlimatic. if you're remote, if you're not in the state that you're buying the property in, or if you're not local, they'll usually send out a mobile, the title company that is, we'll usually send out a mobile notary and they will schedule the appointment with you. It takes about an hour and they'll come and they'll bring this huge, very thick packet of paper.

that they go over with you. The the basically the top page of which is that settlement statement. And so that's really important for you to review in detail to make sure that the numbers that you reviewed the day or days prior is the same are the same numbers that you're seeing the day of signing. so you're gonna go through and sign that and then you're gonna sign about a thousand other times for various other legal documentation that you should read in depth. But it's a mortgage statement. It's a

You know, signing the fact that you are who you say you are and you know, the financing that you're getting is true and all the underwriting that you said was true and all the stuff. It's a ton of signatures. and then the the notary leaves, they scan all the the signed files over to the title company, the title company reviews them and they say, Great, congratulations, you've closed on the property. The the title company tran takes care of transferring the deed into the new entity's name.

And goes through the process of formalizing all the the legal documentation needed at the city or county. and voila, you are the proud owner of 123 Main Street. Congratulations. so that is a very high level general process of what happens when you actually go to buy a property. So I hope that was helpful. If if you have any questions or want to learn more or wanna chat about real estate, as I'm sure you by now, I'd

freaking love this stuff and can talk about it for hours. So feel free to reach out, leave a comment, you know, give me a call, send me an email, whatever. I'd love to talk to you about real estate. If you have a deal you're working on, et cetera, I'd love to hear about it. And I will see you all next time. Bye everybody.