Military - first purchase considerations - can I rent from myself?

Question

I've been reading this site and REI information for a long time, and have been wanting to break into real estate investing. I'm requesting some input on my plan.

First, I'm a military member, and will be receiving a significant promotion in rank/pay in May that will come with a move to a new location within the lower 48 states. I will be at the new duty station for 4 years (most likely, but there are no guarantees in the service), and be eligible for promotion twice during that time - though I'm taking neither for granted. I will receive a housing allowance (BAH) roughly equivalent to [a conservative] $15-20k/year that can either go to rent, base housing or a house purchase.

Next, my plan, 30,000-foot view: I want to purchase and live in a house under the pretense that it will become a rental property (by necessity,  within a military community) when it's time to leave. Whether merely for a 1031 exchange towards the next rental property or as a buy-and-hold property for the long-term; I want to leave both options available. Based on my pay/allowance calculations, I want to keep my purchase price below $215,000, to leave room in my budget for renovations/repairs/taxes/unforeseen expenses, and will base my final purchase price on comparable rental properties in the area.

After 3 years, I would classify the property as an investment property, and hold under an LLC - relevant laws permitting, I would be my own landlord. At the end of the 4 years I will have converted approximately $60-80k of housing allowance to approximately 25% equity on a 30-year note [minus taxes, repairs, incorporation expenses, etc].

Then, the gray-area: I have some cash on hand, and zero debt. I have never purchased a house before, always been a renter/base-housing occupant. I am considering a VA-home loan (pending further research) secondary to no down payment required. I want to keep my cash reserves available for incidental expenses/taxes/closing costs/inspections etc, and pay towards principle in the future, if possible.

I realize I'm making several assumptions here, and have been light on many specifics. That's because I don't know where I'm going to get stationed yet, and want to have a rudimentary plan in place when it's go-time. Thus, I'm asking for input towards any major oversights, and if this plan is workable.

Additionally, if anyone wants to chime in on the finer points of converting owner/occupant to rental, VA home loans, and incorporating, etc. I'm all ears.

Thank you for your time, and dedication to this awesome resource.
-Seth

Thomas Handy · Answer

Seti,
Great to hear you're starting off on the right direction.  I'm also in the military and have bought homes in every location I've been in in the states.  If I was stateside earlier I may have even started buying homes earlier.

Where ever you go, I would research the area.  Even though the area may be a military town, some areas may not do well as rentals.  You have to see how many homes are for sale as well as rentals.  Some areas do better than others.  In some areas there may be too many rentals and you could have a home for rent with a high vacancy rate.

I would talk to a few banks, mortgage brokers, and homes with a owner for sale sign.  There are other options available other than VA loans as Dion mentioned.

You may also consider buying a fixer upper.  Since you plan to live there, fix the home a little bit (cosmetic repairs - landscaping, paint, etc), and you could get a higher rent as you transition out.  Don't buy the best home on the street.

Also check out multi-family homes, duplexes and fourplexes.

Tom

Steven Hamilton II · Answer

Seti,

You have a good plan that you are looking at however, there are a few changes/modifications you need to look at.  First, you cannot rent from yourself.  You can however, look at something up to 4 units that might be able to save you some money by having enough income to make your payments and allowing you to bank more of that BAH.

When you move are you planning to sell or keep the property?  If you plan to keep it are you going to have someone else manage it?  Maybe at that time you should consider a refi to lower your payments and increase the cash flow to account for a property manager.

-Steven the Tax Guy

James H. · Answer

Welcom to BP! Sounds like you have put some thought into your plan and that is good.

I am not sure, from the info you provided, how you will be renting from yourself. I am not really sure how you would benefit from organizing your holdings to do such either.

Let's see, you will get your housing allowance whether you "rent from yourself" or not. So I don't see any way to maximize that benefit.

So what if you set up an LLC and then rent from that? I don't know if that is legal if your name is in any way attached to the LLC. I suppose if you could find a way around it, you could deduct maintenance and depreciation whereas you would not be able to (that I know of) for a primary residence. I don't think you can maintain legal control of the property and still do this. Maybe if you you incorporated? Really, no idea.  But if it were practical to do so, I would think 90 percent of homeowners out there would already be doing it, investors or not.

I know there are lots of pros here that can answere on the finer points.

Good luck and congrats on your career achievements!

BTW, my wife is in the military and we qualify for a VA loan as well. However, you can only have one at a time.So, we remain aware of that in terms of planning. Do you really want to spend that "bullit" on your first property, or, for example, would you rather use it later on when you have higher earnings and are looking at homes in the 400K range?

Dion DePaoli · Answer

Seth,

First thanks for your service in our military.

Second your plan sounds good, well planned and you seem to handle on budget and timeline.  When you get your loan for your purchase you will designate your property as a primary residence, there will be language in that mortgage/deed of trust which will typically stipulate that designation and there are guidelines which allow you to move out and rent the property in the future without having to refinance.  Ask your lender about those it is a little different for each loan type (conventional, VA, FHA).

Make sure you know why your putting the home in an LLC in three years if you are not all that familiar with it today.

On the finance, rates are low and cash reserves are always a good idea.  VA has some pretty good loan programs.  You seem to have a good handle on using your BAH for your mortgage and property expenses.  Explore what additional payments will do to your amortization of your mortgage.  Target your planned time (36 months) to be at a specific equity level by paying your principal down.  Since it is a primary residence I would rather hold my cash and use the future BAH to achieve a specific equity level in the future.

I suppose the only thing not mentioned is what happens if you get new orders away from your location where you purchased the home.  Do you have a rental plan and perhaps budgeted reserves to handle such an event?

Good luck and thanks again.

Matt Devincenzo · Answer

Seti,

I'm also a military member and have several properties I purchased prior to coming into the Navy. I just began to receive my BAH recently and I'm looking to purchase a house now with the investment mentality in mind as well and was looking at using my VA due to the 100% financing at 3.75% no PMI available. One thing I've been doing some research on and haven't gotten a definite answer on yet but I am 80% sure of is the VA loans are only authorized while you are an owner occupant (it can be a single unit in a multi family). If at anytime you move out and convert it to investment you have to pay the VA insurance off or refi (not completely sure of the actions to rectify). You may be better off going conventional just to lock in a low rate now that you can keep when rates rise later on. Again I'm not 100% sure of this yet like I said still in research phase but you may want to look into that some since that will definitely have an effect on your cashflow. Hope this helps and if you find out anything different let me know because that may change some things for me as well.

Thomas Handy · Answer

Seth,
I use a property manager for my homes.  I'm a buy and hold investor.  I wish I had the time to directly oversee all my properties but it's hard to find the time.  I talk to the PM and usually get an idea on how they are - first impressions count.  I ask them the basics, PM rate, how do I get paid, how do they fix issues with the home, at what amount would I get notified before they fix something in the property, and others.  I've been investing since 2004 and really haven't had any issues. When I retire I plan to set up my own PM company.

Also when you decide to visit the homes you own, you can use the trip as a business expense.

Tom

James Harper · Answer

Seth,

I am also in the National Guard, so I understand your rationale of buying for you and then converting into a rental.

A few things to also keep in mind.  VA Loans typically charge a higher percentage rate than a conventional mortgage.  If you have good credit and a enough to put the 20% down, then I would pursue a conventional mortgage.  Also, banks charge a higher interest rate for Non-Owner Occupied (NOO) loans.  At least 2% higher.  You can side step this as you buy places you are going to occupy and then eventually convert to a rental based on your required PCS from base to base.

The good news is that over the next 3-4 years, you will get to know the property in and out and know it's quirks and also be able to scout out a good property manager in the area (since other folks in your chain of command and sphere's of influence will also be in the same situation as you. -- Own and then move and will need to rent their places out.)

Might even take the opportunity to find a couple of houses in your current area that cash flow.  I highly recommmend you rent out a property in your area prior to moving so you understand the landlord issues and can set yourself up for success prior to PCS, deployment or whatever your future holds.

Jim

Seti Harr · Answer

Hi Tom,

Thanks for your advice. I'll be sure to evaluate the local housing climate before I obligate myself to buy anything. I will also be sure to check out my other loan options.

I've always been curious how other military members handle their investment property. What have you done with the homes you purchased when you PCS? Hold and rent? Sell when you PCS?

Thanks again,

Seth

Seti Harr · Answer

Thank you for all your quick responses. I see I could have been more clear about the "rent from myself" thing. Essentially, I am pursuing the house initially as primary occupant, but framing it in my mind like I'm purchasing an investment house, with rent payments guaranteed  over the first 4 years (from my own housing allowance).
 The purpose, in my mind, for transitioning the property to an LLC after 3 years is to limit my personal liability in preparation to getting real tenants into the property. I realize I have much to learn about this before doing so. I'm not trying to build any loopholes to exploit here, just want to be ready to rent it out at the 4 year/new duty station mark.

Dion,
Thank you for the advice on the mortgage/deed. I will make sure to involve the stipulation regarding primary residence/rental property  - I see I have some research to do in this department as well. I also liked what you said about targeting a specific equity level for a certain point in time, and keeping cash on hand. If I got new PCS orders, I'd probably try to rent the house out at that time, as I would have hopefully already established a positive cash-flow at competitive rents when I purchased.

Brian,
I see your point about being more clear in my reasoning for using an LLC. I will look into that more into the future. I also didn't realize you could only have one VA home loan at a time. I'll keep that in mind. I hope I cleared up the bit about "renting from myself" above.

Steven,
I like the idea of the multifamily home in order to bank more BAH. I hadn't thought of that. In answer to your questions: when I move I plan on keeping the house/unit, and using a manager. The refi to cover for the manager makes sense too, but I am hoping to make the numbers work from the start, and that won't be necessary... I realize I'm being very idealistic here.

Thank you all for your input. You have helped me see several course-corrections and areas to do further research already. Please keep the comments coming. I will definitely have more questions in the future, and I appreciate all of the kind welcomes so far.

-Seth

Military - first purchase considerations - can I rent from myself?

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