The first thing you'll want to do as an investor is identify the source of cash for financing your investments.

You will find that lender requirements are stricter when you are purchasing a non-owner occupied property. The reason for this is that these properties represent a higher percentage of foreclosures than owner-occupied properties. So expect to put more money down, pay more lender points, and pay a higher interest rate.

If you are considering financing a property for rental, you want to stick with traditional financing, since it is sustainable over a long period of time, unlike high-cost hard money loans, which we will cover next.

As an alternative to traditional financing with a mortgage lender, you can pursue "hard money" financing. Here, private financeers generally well-versed in real estate investment, charge even higher interest rates and up-front points in exchange for more relaxed income verification and credit requirements.

For those who can't obtain traditional financing, hard money can be a way to get into the real estate investment game, but just beware of the potential pitfalls of assuming a loan which requies a lot more money. Typical interest rates for hard money can range between 12% and 18%, and because the hard money lender is taking a higher risk, they often will charge between 2% and 4% of the loan amount up front as an origination fee. It is very important that you factor these fees in to your cost basis.

Another typical aspect of hard money loans is that the percentage of the market value for which the loan is given tends to be lower than that of a traditional mortgage. So expect to only get about 60-75% of the appraised value for the loan.
As an alternative to borrowing just the amount of money required to purchase the property, you can usually borrow up to 85% of the after-rehab market value from the hard money lender, eliminating the need to put your own money into the deal.

The caveat to both of these scenarios is that the hard money lenders are quite conservative with their appraisals (often performing them using a trusted resource), so your "market value" as measured by the private hard money lender will tend to be lower than with a traditional lender.

Hard money lenders take the following philosophy: If the borrower defaults and the property is regained to the lender by foreclosure, the amount loaned to the investor for the property is still less than what the property is worth. This is a reasonable philosophy since they are taking more risk by doing limited credit and income verifications.

There are plenty of different ways to find investment property, since any property you don't live in can be considered an investment, depending on what your purposes are. The way you find investment property, then, is the same way you'd find an owner-occupied property, for which any of the following are effective methods, each with their own strengths and weaknesses:

• Multiple List Service (MLS)
  
• Property Auctions
  
• For Sale By Owner
  
• Tax Sales
  
• Estate Sales
  

This may seem obvious, but people often limit their search for "investment" properties to finding some secret source of wholesale, discount properties, missing the obvious sources. Just remember that the sellers (whether banks, distressed owners or normal people) have an interest in exposing their home to as many potential buyers as possible, in order to capture as much money from the sale as possible.

Now those who don't know they should sell yet are technically not sellers, and their properties won't be publicly advertised using the methods above. These sellers will require direct contact, and they can be located by having access to pre-foreclosure lists. You have to be extremely careful when trying to acquire properties using this method, because there is a significant lack of structure and accountability that can result in you losing a lot of money trying to make a deal.

This word has garnered a bad reputation over the last decade or so, but used in the context of this guide, it is simply the act of buying a home, doing some renovations, and then selling it for a profit.

If you want to flip properties, you have to do a lot of up-front cost analysis and market research to make sure that you don't lose money in the end. You shouldn't spend one dollar to buy a house unless you have mapped out your entire repair budget and know how much money the property is going to be worth once the repairs are complete.

In terms of how much you should spend on acquisition and repairs versus what you are going to get back as profit, the 85/15 rule will serve you well. Applying this rule, you will spend no more than 85% of the after-rehab-value (ARV) to acquire the property and completely rehab it. Then you profit no less than 15%ARV at the end of the project. The 85% ARV needed for acquisition and repairs should include all your initial closing costs and projected carrying costs. Let's look at an example:

Let's say we have located a property selling as-is for $135,000. The market analysis reveals that the ARV is $180,000. So the first thing we know is that we don't want to invest more than 85% ARV, or $153,000 into this project. So as we look at the property, we make an assessment that it will need about $25,000 worth of work to renovate properly. We also know that we will have to pay about $4800 worth of closing costs to acquire the property, and would expect to carry a mortgage of about $1200 per month for up to 6 months while we renovate and market the property, for another $7200 in costs.

Adding up everything, we get $25,000 + $4,800 + $7,200 = $37,000 in costs to acquire, carry and rehab. Subtracting this from the 85% ARV of $153,000, we get $116,000 as the amount we can afford to pay for this property. Regardless of whether the property is sold at auction, or listed by an individual owner, we have to stick to our budget and not bid more than $116,000 to pick up this property. If we can't get a deal at least that good, we should move on to the next one!

The cost of repairing the property, when properly estimated, separates the winners from the losers in the investment game. The biggest mistake many investors make is underestimating the true cost of repairs, or missing the need for certain repairs altogether. For this reason, if you're not knowledgable about the types of things that can be wrong with a property, you should hire an expert, like a licensed home inspector, to assist you.

Repairs that are often missed by over-ambitious investors are:

• Basement Water Infiltration
  
• Roof Degredation & Gutter Issues
  
• Water and Sewer Line Repairs
  
• Electrical/Wiring Issues
  
• Furnace Issues
  
• Asbestos & Other Environmental Hazards
  
• Replacement Windows

The home inspector will help you identify these and other issues, so you can have an accurate repair budget. Also, be aware of modern functional requirements, such as larger closets, more bathrooms and open floorplan layouts, and include changes in those areas to your repair budget.

When it comes to the more cosmetic repairs, you can improve your repair estimate accuracy by visiting your local home improvement store, and pricing out such items as:

• Hardwood Flooring
  
• Carpet
  
• Ceramic Tile
  
• Pre-hung Doors
  
• Bath Fixtures
  
• Cabinetry
  
• Countertops
  
• Paint
  
• Decorative Moldings
  
• Door Knobs
  
• Closet Hardware
  
• Light Fixtures

Don't rely on your contractor to estimate these items. Do it yourself so you can start to learn what things actually cost.
When you are done with your entire budget, down to the last door knob, add everything up, get your contractor labor quotes, and add 10% to the total for your likely budget over-runs!

Contractors can be a real mixed bag, so the best way to protect yourself is to always have at least two people who can perform every task in a project. You really never know when your contractor might decide he's not interested in your job any more and then never show up again. By having a backup, you will be able to recover quickly should that scenario occur.

You can also benefit greatly from using licensed contractors, who have a lot more to lose if they screw you than some guy off the street. They are also better organized, have more accountability, and are more reliable. You may pay up to 20% more, but that doesn't compare to the money you might lose if you use unlicensed help just to save a buck. My advice is to always use licensed contractors for the big jobs, like basement water proofing, HVAC installations, electrical rewiring, or major plumbing tasks.

The most important part of working with a contractor is to have a very specific list of tasks in writing with a payment schedule tied to the completion of milestones within that list. Be very clear up front with the contractor that they will not receive payment until each task is complete, not 90% complete or even 99% complete. This will keep them motivated since they always have to play catch up to get the next draw.

Never give the contractor a deposit up front. If the contractor cannot begin working before getting paid, you should move on. And since the first deposit received by a contractor typically goes entirely to acquiring materials for the job, you can simply pay for those materials yourself up front, either by phone or in person. Always pay after the service is received when it comes to contractors, or you'll be sorry, because the risk is entirely on you.

Passive income is truly the fulfilment of the American Dream, but it's not automatic just because you acquire a rental property. There's nothing that really forces the tenant to pay each month, and that could leave you high and dry, especially if laws favor a tenant in the eviction process and cost you several months before you can move them out and get another tenant in there.

To protect yourself with rental properties, my advice is to START SMALL. Only acquire rental properties where if your tenant misses a rent payment, you are not strapped coming up with the mortgage money. I dare say that the mortgage should be throw-away money, money you'd spend on some luxury item if you didn't have the rental property. Nothing is more stressful than a non-paying tenant who then causes you to be in financial trouble.

Make sure that the monthly rent is significantly more than the monthly mortgage, at least 33% more than the mortgage in fact. This way, you can pay the mortgage 4 times for every 3 months that your tenant pays you. Over the course of a year, you will acquire enough cash from the tenant to pay the mortgage for the year with only 9 rental payments.

Before you acquire a property you intend to rent, do your research to find out what the area rents for. Then find out how much your total mortgage payment is going to be to decide if the numbers really make sense. I don't think it makes much sense, in an equity-deprived market, to acquire a rental property and just break even on the rent versus the mortgage. Your money could work for you better in a lower risk environment, so stick to the numbers above, and if your mortgage is $600 per month, be sure you're pulling in at least $800 for the rent. It should be noted that lenders only count 3 out of 4 rental payments as actual cash flow when using rental properties as income, so that is also consistent with the math above.

Finally, don't spend an exorbitant amount on renovating a rental property, as you may have excessive wear and tear on your property, even with the most benign tenants. Your money should go towards making the property safe and mechanically functional, but high-end appliances, flooring and decorative paint, etc. will be money wasted. Save your money for the day when you will ultimately want to recondition the property for sale.