How To Get Started Investing In Rental Property Generating Passive Income
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FI Fighter is an early financial independence seeker who aims to get there at 30. This day will arrive when the passive income and semi-passive income streams bring in more each month than is needed to pay bills. Let the journey continue!

When I first got started on the journey to early financial independence in the beginning of 2012, I was purely a dividend growth investor. At the time, investing in stocks was especially appealing because the barrier to entry was so low. In other words, I could simply save a few hundred bucks from each bi-weekly paycheck and use those funds to buy more shares. It wasn’t before long that I got my first taste of passive income, and I gotta say, after that first quarterly dividend payout, I was hooked!

Even though I was primarily focused on the stock market, I still paid attention to the headlines, and overall state of the economy. I remember hearing about how interest rates had plummeted to historic lows and how the banks were loaning out “free” dollars. Of course, I didn’t know what to make of all that since I didn’t know much about real estate investing at the time, but all that talk piqued my curiosity.

Around Springtime, I started hearing daily chatter from my co-workers about refinancing their homes and locking in even lower interest rates. Everyone kept saying it was the perfect time to buy a house. That, and you had better act now before you let the opportunity of a lifetime pass you by…

At the very least, I thought I should do some research to see if real estate investing was a suitable path for me…

The Car Dealership

So, I stopped by the local big name bank and sat down to talk to a residential mortgage specialist. He told me that the first step to getting started was to get pre-approved. While he helped me get going on that, we conversed a little bit, and he told me his own personal story…

Before becoming a mortgage consultant, this guy was a car salesman for a high-end automaker. One day while working, he sees this big-shot pull up into the parking lot and the guy acts like he owns the place. Mr. Big-shot starts to scope out the latest vehicles, before quickly declaring, “I want THAT one, and I want to pay all cash!”.

As the two sit down at the negotiating table, the car salesman, naturally, wants to know this guy’s secret. Mr. Big-shot is still relatively young, and is acting like money grows on trees.

You want to know how I did it? Real estate, bro… real estate,” he replies.

The Secret to Wealth

That was a long time ago…,” my mortgage consultant recalled nostalgically… “But I never forgot about that encounter. It changed my life…”

Fast-forward to the spring of 2012, and that former used car salesman had undergone his own metamorphosis into becoming a full blown real estate investor. Although he liked his job as a mortgage consultant, he wasn’t shy to admit that his real secret to building wealth was through owning rental properties.

I’ve got more than a few rentals now… I’m pretty much set for life,” he proudly boasted. I couldn’t help but stare at that guy in utter amazement. Was it really that easy? I was dumbfounded, but what he was saying seemed to make sense…

I recalled back to my days in college and I vividly remember observing my old landlord from senior year. This landlord would loaf around all day, without a care in the world… Almost like life was just too easy for him, and he had nothing better to do with his time than to smoke cigarettes right outside the front gate everyday. Some life, huh?

Getting My Feet Wet

Inspired by all this talk of real estate investing, I decided to get my feet wet around summer of 2012. I knew that interest rates were really low, and that prices around my own local market (Bay Area) were still depressed, at least relative to all time highs.

So, I ran some simple cash flow analysis, and observed for myself what the returns might look like… After simulating a few properties, I just couldn’t believe the returns I was seeing on screen… A cash on cash return of 10%+ in the Bay Area? I must be running the numbers incorrectly, I thought. Even the best dividend stocks I was buying weren’t returning anything higher than say 5%…

I ran my analysis spreadsheet through to my real estate agent, and he told me, “Yeah, you’re running those numbers incorrectly… You forgot to include principal paydown which will only further enhance your returns.

I couldn’t believe it. It really gets better than this? “Oh, and come tax season, there’s also this thing called depreciation that will help you,” he continued on.

It all seemed too easy… If the returns were this good, why wasn’t everyone investing in rental property? According to my agent, the fear was still widespread, and not everyone was qualified to get a loan. The lenders were still nervous and it was very difficult getting through underwriting, in many cases. Still, with these types of returns, I was enticed to at least give it a shot.

I struck out on my first few offers… until…

My First Real Estate Deal

I won my first property in August 2012. I bid $65,000 over the listing price of $250,000 and didn’t even have the winning offer… I believe there were 23 offers total, and about 9 of them were over $300,000. It was borderline ridiculous! As if all of a sudden, the fear had just dissipated, and everyone was figuring out how cheap rental properties were…

In the end, I only won because the winning bidder couldn’t get financing for a loan. I swooped in, and with the help of my relentless agent, we submitted an offer around 4:00 AM that night, and won before all the other agents even knew they had a second shot on the deal.

Lessons Learned

That victory taught me a lot of things about real estate investing… Unlike the stock market, with real estate, you do have the opportunity to purchase below market value. The unique thing about real estate is that a transaction will always involve just one seller and one buyer… So, it doesn’t matter what everyone else is doing… if you can get the other party to agree to YOUR terms, you’re set!

The other important lesson I learned was what a wonderful partner your local bank (lender) is. Even as an investor, they will help you front 70% to 80% of the cost of the property, and give you all the rights and privileges of being the “majority” partner. That is, you’re the boss (landlord), and you get to make all the important decisions. When it comes time to sell, it’s again up to you, and any appreciation you capture is also yours to keep. As long as you make your monthly mortgage payments on time, the bank (lender) will leave you alone and not ask for a cut of the profits.

With that deal in the books, it wasn’t long before I began my search for rental property #2.

What do you think?  Are rental properties the right move to become financially independent?  

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