If you’re going to buy your first rental house (or subsequent rental houses), it is critical to create and follow a checklist. Doing so is part of your due diligence process and can ensure that you are purchasing a property with every possible concern and procedure addressed. Attempting to acquire a rental home without following a sequence of tasks will likely be a disorganized and hectic process. Below is a chronological checklist that I like to use; feel free to adapt it for your own use if you’d like!
1. Talk to the bank.
This is essential because you’ll need to get your financing approved before you start taking serious steps forward in purchasing a rental home.
2. Find a realtor and start looking for a property.
As you work with your realtor to find a property, you should provide them with some information, including the financial and physical parameters of the property you want to buy. At this point, you should also have a couple sample pro formas built to help explain your vision for a potential rental property.
Within a few weeks or months, your realtor should (hopefully) be able to feed you leads on available properties. When you find a property that you’re interested in, you should proceed to step 3.
3. Build a real pro forma.
Once you know what property you’d like to buy, it’s time to build an actual pro forma with that house’s specifications. This pro forma should conform to the financial and physical parameters that you set up for yourself and should be shared with your bank to make sure everything checks out. If your banker has any issues or questions about the deal, this is a good time to sort out those concerns.
4. Make an offer (with contingencies).
As you make an offer, be sure to make it contingent upon financing and home inspection so you can have an out should you need it. Typically, your real estate agent will schedule a home inspection for you, or you can conduct the inspection yourself and call in professional help as needed.
During the offer and acceptance period, you should finalize your financing, reach an agreed purchase price, and set up a closing date (see next step).
5. Set up a closing date.
Before you set a closing date, I recommend establishing a good relationship with a title company (or closing/abstract company) that can close your deal for you. The week of closing, the title company will then email you an ALTA, which outlines how much money you will need to bring to the closing meeting.
Also, be sure to check with your bank to see if they have a time cut off for wiring funds. Some banks may stop wiring money at 2 or 3 p.m., so make sure you’re aware of your bank’s policy.
Once you settle the date of your closing, there are several steps you need to follow before the official closing date arrives (see steps 6-11). Most of these can be completed simultaneously.
6. Notify your insurance company.
As you work on setting up a closing date, it’s important to inform your insurance company about your upcoming purchase. Your insurance agent will want a lot of information, including the year the house was built, the house’s exterior material, how old the house’s roof is, any upgrades/changes made to the house since it was built, etc.
You also need to make sure that the new property receives insurance coverage on the day you close, so communicate with your insurance agent about adding the property to your policy in due time.
7. Talk to your general contractor.
If you know that the property you are purchasing will need some repairs, go ahead and schedule your general contractor/other contractors to begin working on the house as soon as possible.
Keep in mind that if you inherit tenants with active leases during the purchase, you may not be able to conduct repairs right away.
8. If you are inheriting tenants, contact them.
Make sure your new tenants know where to send their rent. It’s not uncommon for tenants to continue sending rent to their old landlords, so being clear about where the rent can be paid moving forward is always helpful.
It’s also important to ask the inherited tenant if he or she is willing to sign your lease. The tenant probably won’t agree to a rent increase, but it is helpful if he or she is willing to sign your lease for the sake of clarity and understanding.
9. Figure out prorated rent and security deposits.
If you close on a house after the active tenant has paid that month’s rent to the previous landlord, you need to understand that rents will need to be prorated to you. Most closing agents will automatically prorate rents, but it’s helpful to stay on top of this and get a copy of the new lease to your closing agent.
You also need to make sure that the active tenant’s security deposit will get transferred to you during closing. Generally what happens is that an adjustment will be made on the closing cost to cover the amount of the security deposit. In this case, after closing, you just need to make sure that you set aside adequate funds in trust to cover the security deposit.
10. Add the property to your maintenance schedules.
To avoid overlooking your new property, add it to your maintenance schedules before closing. This includes pest control, lawn care, annual inspections, etc.
11. Add the property to your management databases.
Beyond updating your property management database with the new property, you should also upload the new lease to your filing system and add the property’s financial information to your accounting software.
It’s also helpful to add your property to your accounts payable spreadsheet or database.
12. Close the deal.
After you complete all of the previous steps and your titling company sends you an ALTA, you will need to prepare your closing funds. Typically, I like to set the money aside in a bank account a few days before closing, and then while I’m at the closing table with the closing agent, I will copy him or her in an email to my banker and ask for my funds to be wired to the closing agent. From there, the closing agent will usually send wiring instructions to the banker, and the banker will immediately send over the funding. The great thing about wiring money in this way is that you don’t have to wait for any verification.
During closing, you will sign financial paperwork from the bank and legal documents that transfer the property to your name. After this, your rental property journey continues!
In Summary:
- Creating and following a checklist is a great way to proceed through the purchasing/closing process of rental property.
- There are many steps you need to complete before closing on a house. It’s important to put in the hard work of due diligence before you find yourself in a bad deal.
- If you are inheriting tenants with active leases, there are additional steps you need to follow to ensure a smooth transition.
If you have a team of people that you work with, a checklist will help you segregate responsibilities to the appropriate person.
Hey Brad, I loved hearing your talk about investing in real estate in Professor Haas class. I would love to meet up and ask you some question about real estate!