by Susan Paige
Have you considered buying real estate to get out of debt? If you have a decent credit score despite being in debt, consider taking out a loan buy a property. Owning a rental property is a good way to generate long-term income that can be used to pay off your debts, especially if the rent you collect exceeds the cost of your mortgage.
Not sure where to start? These tips can help.
- Look for an investment partner first
Even though you can take out a loan for the down payment, look for an investment partner first. You might be able to partner with someone who has money for the down payment, but isn’t interested in managing a rental property.
Before moving into a partnership, make sure the property will generate enough rent to cover the mortgage and put some profit in your pocket after you’ve paid the investor. If the math doesn’t work out that way, find a property that works or just take out a loan.
- Buy a property in a good neighborhood
The definition of a “good neighborhood” is subjective, however, what makes a neighborhood good for an investor is a low crime rate and the ability to charge a decent amount of rent.
For each property you’re interested in, find out how much rent you can realistically charge. Calculate your monthly mortgage for each property and compare that to the rent you can collect. Pursue properties that will generate more in rent than you’ll need to pay for your mortgage. The idea is to generate cash flow from the rent and use that to pay down your debt.
You’ll find great deals in bad neighborhoods, but they’re not worth your time if they need significant work. Your goal is to find a property that will bring in extra cash as soon as you rent it out – not after you’ve spent thousands of dollars on repairs.
- Don’t include utilities in the rent
Once you’ve got a property to rent out, don’t include utilities in the rent. This is easier to do in better neighborhoods where people have higher incomes.
While you can increase the rent when you include utilities, there’s no guarantee the extra will cover all utilities. This is especially true for electricity. Some tenants won’t monitor their electricity use (or make the effort to conserve electricity) simply because they aren’t footing the bill.
- Commit to using 100% of your rental income to pay down debt
When you reach that glorious day when all your debts have been paid off, you’ll still have an income-generating asset and more of your paycheck will be freed up. To reach that day faster, pay down as much of your debt as possible from day one.
A real estate investment can generate a few hundred bucks each month to help you pay down your debt faster. Don’t cheat yourself by spending even a dime of that money unless it’s a necessary repair or cost for the property.
Don’t use 80% of your rental income to pay your debts and spend the last 20% on pizza, beer, and entertainment. Commit to throwing the full amount of extra income toward your debt. Pay it off faster, avoid extra interest, and get debt-free faster.
- Apply for a home equity loan
If you already own a property with equity, you might qualify for a home equity loan, also called a second mortgage. A home equity loan allows you to use equity as collateral to secure a fixed-rate loan. You can use this money to pay off your debts.
- Apply for cash-out refinancing
This option will only work for existing homeowners who have sufficient equity. The way this works is you take out a bigger mortgage that pays off your existing mortgage, and you’re left with extra cash at closing. The extra cash can be used to pay off your debts.
Since this option creates more debt through a new mortgage, it’s best used by people with significantly high debt. It’s not worth doing when you’re only a few thousand dollars in debt.
Don’t let debt stop you from investing in real estate
Some people say you should pay your debt off before investing in real estate while others disagree. The truth is, taking out a mortgage is a form of debt, but real estate assets bring in more money long-term than the debt it takes to buy the property. It takes time, but eventually a rental property should produce truly passive income.
Managing an investment property while in debt isn’t hard, it just takes careful planning and prioritizing.
Photo: Got credit, via Flickr.