A Quick Guide to Buying a Duplex

Walking you through the process

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A Quick Guide to Buying a Duplex

Market Research
Time to get Serious
Get an Agent
The Money Stuff
The Search gets Real
The Offer

So you are thinking about buying a duplex but you don't know where to start. The first thing you need to know is that buying a duplex is not much different than buying a house. Unlike your primary residence (and even if your duplex will be your primary residence) you have to approach the purchase of a duplex as an investment. This means that you need to be concerned with things like Cash Flow and Return on Investment (ROI). Even though I am talking about duplexes, these same principles apply for other similar properties like triplexes and fourplexes. If you have the money, you should consider these types of properties as well.

Market research.
Before you begin you will need to do some research. Start with your local Sunday newspaper. First, find the classified listings for duplexes for rent. Look over the listings to get an idea of what kind of rents a duplex in your area bring in. Keep in mind that many factors affect the rents.

Location: Some parts of town are more desirable than others.
Configuration: A three bedroom unit with a garage will rent for more than a two bedroom unit.
Landlord experience: An inexperienced landlord is likely to charge lower than market rents.

As you read the listings, it helps to have a map or Thomas Guide available so that you can look up addresses. You will begin to notice what areas of town command the higher rents. Select six units from the higher end of the price range to drive by later.

Next, find the classified listings for Duplexes for sale. You will immediately notice that the duplexes that command a higher rent also have a higher sales price. You may also find out that some areas of town are out of your price range. Pick six more properties and add them to your list of drive-bys.

Now it's time to do a quick reality check.

Take the average sales price of duplexes in a particular area and divide it by 100 (IE: knock the last two digits off the sales price). This gives a rough estimate of what the monthly mortgage payment will be.	$___________
Then take the average advertised rents of similar duplexes in the same neighborhood and double it (triple or quadruple for a triplex or fourplex). This gives an idea of the income the duplex will generate.	$___________

Now compare the two numbers.

They should be close. If the rent number is higher than the payment number, it tells you that it is a landlord's market and you should have no trouble finding a good property with a solid ROI. On the other hand, if the rent number is much lower than the payment number it means that you will have a hard time finding a property that covers its expenses and debt service.

Now it's time to do some driving. Take your map and the list of 12 properties that you created and drive out to see them. You are not necessarily looking at the properties (although doing that can be instructive), you want to check out the neighborhoods. Remember, you will eventually be trying to convince a prospective tenant to live there.

Could you sell them on this neighborhood?
What is the condition of the surrounding properties?
Are the buildings maintained?
Is the Landscaping OK?
What kind of cars are in the driveways?

If you find a duplex for sale that is having an open house (a rare occurrence), get out and go through it. You will find that duplexes tend to be clustered into 'rent-a-hoods'. Each has it's own character, some are slums, most are just rough around the edges but otherwise nice. And sometimes you find a real gem in a middle class neighborhood with well maintained properties.

Time to get serious
After you have done a few drive bys you will begin to get an idea of what areas of town you want to take a closer look at. Some things you should know by now.

What areas of town you will want to be looking closer at.
What can you afford.
Can you come up with the down payment and closing cost?
Can you afford the estimated monthly payment?

If you are still comfortable with the idea of being a landlord, it is time to refine your research.

Get out the classified adds and make a few phone calls. You don't want to hook up with a realtor just yet. So, if you do find yourself talking to a realtor, get the necessary information, but avoid a face to face meeting, and don't sign anything. Be honest, tell the seller that you are just starting to look, also tell him that this is the first time you have considered a duplex. You will be surprised how helpful a seller will become. Next, you need to get specific information from the seller.

Get yourself a notebook. Start a new page for each property and write down the following information.

First, get the correct spelling of the sellers name.
Verify his phone number.
Note whether the seller is an agent or it's a FSBO (For Sale By Owner).
Get the property address and directions to the property (don't arrange a showing just yet).
Verify the asking price.
Ask the seller what he paid in taxes and insurance for the last year.
Are the units occupied?
What are the current rents?
Are the tenants under a lease or are they month to month?
When were the rents last raised?

Now you need to get a better estimate of the monthly payment for each property. On the sidebar under "Tools" I provide a simple mortgage calculator. Or you can find one on the internet (either download a program from Download.com or find a web based one [hint: start with the home pages of the major banks.]). You will be asked to supply an interest rate. You can get this from the mortgage company ads in the paper. Also, enter the insurance and tax figures you got from the seller. If the mortgage calculator doesn't ask for this information (mine does), find a better calculator. The result is called PITI for the four parts of the monthly payment: Principle, Interest, Taxes, and Insurance. Write this number in your notebook.

Now look at the rent figures the seller gave you.

Will they cover the monthly payment?
If not, can you raise the rents?
Will you have to charge higher than market rent to cover the payment?
Will you have to raise the rents by more than 10% or $100.00?

Another calculation you will want to do is called the "Gross Rent Multiplier". To find it, divide the sales price by one years collected rents (price / gross rent). A GRM of 10 or more is wonderful, around 5 or so is more typical.

Get an agent
By now you should know if you want to get serious with the search. While you were making phone calls, you met a few realtors. Now it's time to call them back. But this time you are trying to find one who will be your primary agent. As you talk to the agents get the following information.

How long have they been in real estate?
What percent of their sales are rental properties?
Do they rely on the RMLS for their listings or do they have pocket listings?

This last item needs some explanation. The RMLS is the Realtor's Multiple Listing Service. It is a listing of the properties for sale in a particular area. Every realtor in the area has access to them. It's great for sellers, but as a buyer it means that one realtor is no different from another. But, not all properties need to be listed. Realtors that specialize in rental properties sometimes keep a listing off the RLMS, this is known as a pocket listing.

Also, ask the realtor if they can act as a buyer's agent. A realtor always represents his sellers interests. As a buyer's agent, the realtor will represent the interests of you, the buyer. You will need to sign a document to establish the realtor as your agent. There is no cost for this, the realtor will be paid out of the commissions when you close a sale. A buyers agency contract is usually exclusive, which means you are only allowed to have one agent. So, choose your agent well. Ultimately you will choose a realtor that knows his stuff and you feel comfortable working with.

While you have the realtor on the phone, talk to them about what you have discovered in your research. If a realtor knows the market, he will be able to give you some additional insights into the market. Also, ask for the name of a mortgage broker or two that specialize in rental property.

The money stuff
Now you need to start calling the mortgage brokers. Most will structure their loans around the FHA FanieMae program guidelines.

Ask them if they make loans for rental property
Find out what kind of terms they can offer.
Ask about any special programs they can offer.
Ask about zero down or 80/20 loan programs.

An 80/20 loan is a loan that will cover 100% of the purchase price. It is usually structured as a first mortgage for 80% of the price and a second mortgage for 20% of the price. But be carefull, the second mortgage will have a very high intrest rate. If you want to buy for zero down, a better option may be to get a 95% loan and have the seller carry back a 5% second mortgage. Use the Complex Mortgage Calculator to help work through the details of this kind of creative financing.

If you are going to owner occupy your duplex, tell them. As an owner occupant you will be able to qualify for a lower down payment. A pure investment property requires a 30% downpayment. But if you live in your duplex you can qulaify for an FHA conforming loan (10% down), or a non-conforming loan (5% down), or an 80/20 loan (zero down). There are also many government backed programs that you can qualify for as an owner occupant.

They will want to know some things about you, like your annual income, work history, and some other particulars. While you have them on the phone, get a list of the documentation they will need from you to start the a loan application.

At this point you will want to visit a few mortgage offices to start the pre approval process. Bring along the necessary documents. There should be no charge to fill out the application. You should leave the Mortgage office knowing the top dollar amount of what you can afford, and the mortgage program that you will be using.

It may seem strange to be getting approved for a mortgage so soon. But, when you find a property you like, you can close the sale much faster. A seller will take your offer more seriously if he knows you are pre approved.

The Search Gets Real
With a realtor on board and your financing lined up, your search for a duplex gets real. The first step is a face to face meeting with the realtor at his office. He will ask you several questions about what you are looking for (What part of town, Two bedrooms or three? One or two baths? Etc). He may suggest a few properties for you to look at. But, most likely he will give you a list of several dozen properties.

Start by cutting down the list. Read each description and cross out those that don't appeal to you. You will also recognize some of the properties as ones you have already seen on your earlier drive bys. Some you may be able to summarily cross off because they are in neighborhoods that didn't appeal to you. Having cut down the list, it's time to drive again. Go by each remaining property and note your general impression of it. Pick about six that you would like to see inside.

Your agent will arrange for a showing of the properties. As you walk through the properties, point out to your agent the things you like and don't like. This will help them do a better job of selecting properties for you to see.

Be sure to bring along your notebook and make notes about the property. Some things you will want to look for when you go through a property.

Check the age and condition of the appliances,
Note the condition of the carpets and other floor coverings,
Note the condition of interior and exterior paint.
Find out the age of the water heater and the A/C.
Use binoculars to look at the roof.

If there are problems in any of these areas they can be fixed, but it will affect your offer price. Check for cracking of the foundation. If you do find a problem with the foundation run, don't walk, away from that deal.

If you are going to owner occupy the duplex, you will want to make sure that one of the units is empty. Otherwise you may have to specify that the seller remove a tenant as a condition of the sale.

After you have seen a few properties inside, you will notice something. Duplexes are mass produced. There are only a few builders in any area that build duplexes and the available number of plans is limited. After a while you will be able to drive by a property and recognize it's plan. You will not have to see the inside because you will remember that for some reason or other you didn't like the floor plan.

The offer
When you find a property that you like, it's time to make an offer. It usually begins when you look at your agent and say "This one, I want this one." Your agent and you will then sit down and write an offer letter. The offer will specify several things.

The price you want to pay,
Any contingencies of the sale such as approval of financing, and acceptable result of an inspection, etc.
Any repairs that you want the seller to make prior to the sale.

You will also be asked to put up an earnest money deposit. This is an advance on the down payment to show that your offer is serious. Your agent will present the offer to the seller.

One of three things will happen.

Your offer will be accepted as is.
Your offer will be rejected flat.
The seller will make a counter offer.

In that latter two cases you are free to make another offer or accept the counter offer. Once your offer is accepted it is a sales contract. You need to do several things.

Contact the mortgage company to get final approval of the financing. Bring a copy of the sales contract.
Get the property professionally inspected. The sales contract usualy has a contingincy that lets you back out of the sale if somthing realy bad is found.
Arrange for insurance. If you will be living in the property you can get a standard homeowners policy. Otherwise you will need to get a dwelling and fire policy.
Get flood insurance if you need it.

Now you sit back and wait, your agent will handle the details of the sale. The property becomes yours at the closing. Once all the details are worked out, you and your agent will meet the seller at the offices of a title company. There you will sit down and sign a stack of papers. A check from the finance company will be given to the seller, and you will present a check for the down payment and the closing costs. The seller should also turn over to you the tenants security deposits, copies of any leases, and the keys.

Congratulations, you are now a landlord. Be sure to introduce yourself to your tenants. They will need to know the new procedures for paying rent. You will also want to exchange phone numbers. Now would be a good time to arrange for any minor repairs. You should also take the time to read Basic Record Keeping for Landlords