Is Buying Rental Property for You?
Have you been thinking of entering into the world of investment property? Buying rental property can be a rewarding endeavor, but it is not without its challenges. Most people do not realize the risk, hard work, and commitment required to own profitable rental property.
There are many things to keep in mind when investing in rental property, and the sheer volume of information can be overwhelming. The trick is to filter through all that information to find what is most useful and pertinent to you and then take the process one step at a time. There is no single guaranteed formula for success, which gives you the opportunity to develop a customized strategy that works best for you.
But before you start looking at properties, it is wise to know exactly what you are signing up for and some of the challenges that lie ahead. Buying a house is a major investment, and buying a house to be used as a rental property is a business venture that should not be entered into without first determining that you are up for the task.
Before Buying Investment Property, Know These 7 Things
There are more than 22 million landlords in the United States, so obviously there is something to be said for investing in rental property. However, renting out property does not always mean turning a profit. As many as two thirds of rental property owners fail to make a profit each year, some breaking even and others actually losing money on their investment.
The main reason people fail to make money on their rental properties is because they are not well-informed or adequately prepared for the job. Here are 7 key things to consider when contemplating whether or not buying rental property is right for you.
- Property Taxes
- Landlord Insurance
- Tenant Damage
- Keeping Good Tenants
- Unexpected Repairs
- Enforcing Rules
- Not Right For Everyone
1. My Property Taxes Will Increase?
It is important to realize that property taxes for your primary residence will not be the same as for a rental property in most states. Homeowners can typically file for a Homestead Exemption on their taxes, which is only applicable toward the home in which they live and not rental or investment properties. If converting your current residence into a rental property, you need to be sure to find out the actual tax rate sans the exemption before setting a rental rate.
One thing many home and rental property owners are unaware of is that property taxes can change from year to year according to the county’s property tax assessment. The taxes you pay are based on the value of your home or property. When the estimated value of your home increases, your taxes tend to rise with it. As an investment property owner, you need to keep a close eye on these numbers in order to accommodate for increased taxes by raising rent. Unfortunately, assessed property values and taxes rarely, if ever, go down from year to year.
If you ever feel like your property has been unfairly assessed, there is the option to contest your property taxes. This process varies from one area to another but usually does not require a lawyer and can be handled with the proper research and a little persistence.
When crunching numbers for a property, you need to include how much you will be paying in property taxes and insurance to ensure you set the rent at a rate that will adequately cover your expenses. The good news is that there are also tax deductions you can claim later on for other expenditures on your rental property.
2. Landlords Need Specialized Insurance?
Just as property taxes change when turning a primary residence into a rental property, your insurance policy will need to be switched over as well. Many first-time rental property owners don’t realize that landlords need specialized insurance to cover the increased risk associated with renting property. And, if insurance is not switched from the homeowner to landlord variety, your insurance company has every right to deny a claim on the property, which can be devastating if there is a catastrophic loss.
A landlord policy generally covers the house and any other structures on the property, your possessions as the owner, lost income in case the property is damaged or uninhabitable, and includes some form of liability protection in the event of a lawsuit or injury. It does not, however, cover your tenants’ property. This is why it’s wise to advise, or even require, your tenants to invest in renter’s insurance, which covers their possessions and offers liability protection should they ever be held responsible for an accident or injury on your property.
It is essential to have quality coverage in order to protect your investment when owning rental property, so be sure to read the fine print and ensure your policy covers everything you expect it to. Prospective landlords should be forewarned that their policies will be much more expensive than standard homeowner policies, but switching to the proper coverage is worth the extra expense.
3. Can Tenants Really Do THAT Much Damage?
It can be surprising to new rental property owners, but tenants can be extremely destructive. While even the best tenants are going to cause a little wear and tear, some tenants do extensive damage to rental property that goes far beyond what their security deposit will cover.
There are two takeaways from this realization. As the owner, you want to visit your property several times throughout the year to check in on the state of things and make sure all maintenance needs are being adequately met. If you have more than one property, this can be a time-consuming task and is one of many reasons property owners often decide to hire property managers.
Knowing that some tenants can and will damage or destroy your property also emphasizes the importance of carefully selecting your tenants. You should make it a top priority to look for tenants that will be responsible, respectful, and treat your property as if it were their own. You can never guarantee a good tenant before working with them firsthand, but you can increase your chances by adhering to a careful tenant selection process.
4. Good Tenants Are Replaceable, Aren’t They?
When you do find great tenants, do not let them go easily. Sometimes it can be tempting as a property owner to get too caught up in the numbers, but you have to remember that some things are more valuable than just maximizing profit. Even if you need to forgo raising the rent each year to keep them around, it will likely be worth far more than the potential additional income, especially since you might cause your good tenant to start looking for a new place. And you can never know for sure if a replacement tenant will be as good as your current one.
If you have tenants that take good care of your property, are reliable and prompt in paying their rent, and are overall trustworthy and pleasant to work with, you will reap the benefits of a well-maintained property and less stress on a day-to-day basis. Not to mention, you will likely end up paying less in maintenance and repairs and can avoid losing income during a vacancy.
5. How Do I Plan for Repairs? How Much Do They Cost?
The average cost of maintaining a home each year is equal to about 1% of its price. That means if you pay $200,000 for a house, you can expect to pay an average of $2,000 a year in upkeep. The problem is that this number is merely an average, meaning that the actual dollar amount paid in maintenance and repairs can vary drastically from year to year and can sometimes come all at once.
While new rental property owners may remember to factor in the cost of routine maintenance on their property, they often forget about the unexpected repairs that can pop up at any time. It is important to make sure you are prepared for these incidents when setting rental rates and budgeting, though it is best to have an emergency fund set aside for those moments when everything seems to break at once. Otherwise you may end up paying out of pocket for costly repairs.
6. Should I Ever Bend the Rules?
New property owners often find it difficult to enforce the terms of their lease, but it is crucial to stand firm, especially in the beginning. The first few months will set the precedent for how the tenants expect things to operate, so be sure to establish good habits from day one.
If you let late rental payments slide the first few times it happens, tenants will have no incentive to pay on time. And they can even use your generous actions against you when you do try to enforce the rules.
It may be hard to remember at first, but renting property is a business venture, not a personal affair. At the end of the day, your tenants need to respect your authority and know that the terms of the lease are rules they must adhere to with consequences when they don’t.
7. Am I Cut Out to Be a Landlord?
While there are many benefits to buying rental property, it is not the right venture for everyone. When you invest in a rental property, you are investing more than just your money. You are pledging to devote time and energy to a long-term commitment that will undoubtedly bring unexpected challenges.
Being a landlord is not easy and can be stressful and exhausting at times. Make sure you are ready and able to commit yourself fully to your investment before you decide to buy your first rental property.
Advantages & Disadvantages of Rental Property
Advantages & Rewards
There are four major advantages to owning rental property that, for some, make the endeavor well worth their while. If you can capitalize on these, buying rental property can be a profitable and rewarding business.
1. Current Income
Current income, or cash flow, refers to the money you make at the end of each month after all other fees and expenses related to a property are paid. This is the most tangible and immediate advantage of rental property ownership because it is essentially a monthly paycheck earned for you by your property.
2. Tax Advantages
Though property taxes may be higher for rental properties, there are numerous expenses that you can claim as tax deductions to help alleviate the cost of managing and maintaining your property. Not to mention, even if your property is only bringing in enough to cover the mortgage and not making any additional income at the end of the month, you are essentially paying off your loan with money that is tax-free.
As time passes, the value of property generally increases, though this is not guaranteed. If you want to benefit from appreciation, you need to make sure to select a property in a stable area where the value of property as a whole is likely to increase. When the value of your property increases, you will reap the benefits both in the amount of rent tenants are willing to pay and in how much you can make should you decide to sell your property.
Though some people prefer to pay for rental properties using cash, they are often purchased using borrowed funds, also referred to as leveraging. This means that you only pay a small portion of the property’s overall cost while gaining control of the entire property and its equity. Using leverage can double, or even triple, your return on investment when buying rental property.
Disadvantages: What Is at Risk?
If buying rental property was all rainbows and sunshine, everyone would do it. Unfortunately, there are some downsides to being a landlord, which should be carefully considered when deciding if investing in rental property is for you. It is crucial that you weigh the risks against the rewards to make sure you are adequately prepared for rental property ownership.
Allowing others to live on property that you own puts you in a position of responsibility and makes you liable for the general safety of your tenants. As a property owner, you must take every precaution to provide a safe environment and carefully outline both your responsibilities and the tenants’ in the lease.
2. Bad Tenants
No one invests in rental property with the intention of finding terrible tenants, but the unfortunate truth is that most landlords encounter this situation at one time or another. Bad tenants can be the source of any number of problems ranging from property damage and late payments to frivolous lawsuits and lengthy evictions. Carefully screening your prospective renters can significantly reduce the likelihood of renting to nightmare tenants, but the risk is always present.
3. Unexpected Expenses
Just as with your own home, rental properties have to be maintained, and you never know when something may break or need to be replaced. Even if your tenants take good care of the property, general wear and tear can lead to costly repairs on your end. If you do not keep money set aside for unforeseen expenditures, surprise repairs can result in being forced to turn to your own savings to cover expenses, or worse, losing tenants and extended vacancies that only deepen your financial predicament.
If your rental property experiences an extended period of vacancy, it can be costly and or even cause you to lose your property. Plus, the longer a home sits vacant, the less attractive it becomes to renters and the more likely it is that you will have to lower the rent to snag a tenant.
Vacancies are another reason for having an emergency fund, which can save you considerable financial stress. But the risk of vacancy is still something to bear in mind because even backup funds won’t last indefinitely.
7 Steps To Buying Your First Rental Property
If, after weighing the pros and cons of buying rental property, you decide you’re ready to take the plunge, the next step is to buy the property you intend to rent.
Those of you who have ever bought a house know that it is not quite so simple, and buying rental property can be even more complicated. You want to make sure to choose the right property in order to turn a profit, but there is more preparation that needs to be done before you even begin looking at homes.
The key to staying on top of everything is to break it up into individual tasks and not get too far ahead of yourself. By following these 7 steps, you can ensure that you have covered all your bases and are adequately prepared for success in owning your own rental property.
1. Do Your Research
This is a critical step that must be taken before you can truly embark on your journey into the world of owning rental property. In order to be successful, you need to first determine the answers to important foundational questions like:
- How much am I able or willing to invest?
- What kind of rental properties am I interested in? Which ones would best meet my needs and expectations? Single- or multi-family unit? Duplex, 4-plex, or apartment?
- Where do I want to invest? Which areas would be the most profitable?
- What is the average rent in my area? Would a rental property be a worthwhile investment here?
This step is challenging because it can be hard to know which questions to ask, but you can never be too prepared. Find as much information as is available about owning rental property in general and about the properties in the area in which you are looking to buy.
This is your chance to exhaust all of your resources. Talk to others about their experiences buying rental property and ask for advice about best practices. Read books, articles, blogs, online guides, and anything else you can find until you feel confident that you know what you are looking for in a property.
2. Devise a Plan
Once you have done sufficient research, it is time to develop your business plan. Write out your main goals and the criteria you are looking for in your rental home, so you will have them as a reference throughout the buying process.
It can be tempting to stray from your researched guidelines when you see appealing houses that don’t quite fit all of your standards, but it is important to stick to your plan and review your criteria often in order to ensure your long-term satisfaction.
3. Figure Out Your Finances
Before you ever start looking at listings, you need to know your budget. There is nothing more disappointing than finding your picture-perfect property only to realize it is way out of your price range.
You will want to talk to your bank about how much you can afford to spend when buying, and you should take the time to weigh your different financial options before determining which best meets your needs and will be most beneficial for you.
Some people prefer to pay for investment property outright, but others believe financing generates better returns. Your best option will depend largely on the goals you determined while planning and the financial resources available to you.
4. Start Shopping for Property
After you have organized your finances, it is time for the real house-hunting to begin. There are several ways to find your rental property, but you can start your search on the internet.
To get an idea of what is available, it is helpful to peruse sites with local listings like Redfin.com, but they generally draw from a similar pool of MLS listings and will not contain all the information necessary to make an educated purchase. At the very least, you will need to contact a local real estate agent to find out more detailed information on the property, but it is often in your best interest to find an agent who has experience working with investors.
An agent who specializes in working with rental property owners can be an invaluable resource for a first-time buyer and will have a better understanding of what qualities make a good rental property. Don’t forget to make known your goals and communicate specifically what you are looking for in a property.
5. Finally Time to Buy
When you find the right house and make sure it meets all of your criteria, you are finally ready to buy your rental property...if only it were that simple.
First you must make an offer, which your real estate agent will submit to the selling agent in order to get the ball rolling. Once the sellers receive your offer, they can accept it or begin negotiating a deal. Though it does happen occasionally, don’t expect the sellers to take your very first offer.
During negotiations, it is important to remember that price is not the only thing on the table. You will also need to discuss the closing date, inspections, financing, home warranty, and other bargaining factors that will affect the value of your investment.
Negotiating is often stressful and can feel overwhelming, but the key is to stick to the numbers and try not to let your feelings get the best of you. You have to make sure that the deal works for you, and it is okay to move on if the sellers are not willing or able to do that.
6. Do the Due Diligence
After you and the seller agree upon a price and closing date, you sign on the terms and enter into a time of “Mutual Agreement”. This is your opportunity to make sure all the terms of your agreement are fulfilled and all of your financial ducks are in a row.
Taking the time to do your due diligence is essential to knowing exactly what you are investing in when you purchase your rental property. There are three main points you need to make sure to cover when doing due diligence, in the following order, to make sure you are not unknowingly buying into more than you can handle.
1. Financial Review
Crunching numbers needs to be your first step, just as in the entire buying process. There is no point investing in inspections and legal inquiries if the numbers do not add up.
Be sure to never buy a property based solely on the pro forma information you may receive because these numbers are just estimates. If the property you are buying is already a rental property, take a look at their current numbers and ask questions about everything from rental rates to monthly maintenance expenditures to typical utility bills.
This is also the time that you want to solidify financial arrangements with your bank or lender to make sure everything has been taken care of.
2. Physical Inspection
A home inspection is non-negotiable when buying rental property unless you want to end up with costly repairs that could easily have been avoided. If you have the time and resources, it may even benefit you to have a few specialized types of inspections performed, such as to investigate wood destroying pests, the condition of the roof, or the water systems and plumbing.
3. Legal Evaluation
Finally, you need to make sure everything on the property checks out legally and meets your expectations. If the property is already being rented, make sure there are no violations, such as a single-family home being rented to multiple families. You should also check for any liens on the property to avoid assuming financial responsibility for the previous owner’s debts.
7. Let the Landlording Begin
The last step of buying your rental property is your first real step into the world of rental property ownership. If your property is already occupied, you can begin landlording right away. If not, ensure that your property is ready for renting and start looking for your very first tenants.
13 Characteristics of a Profitable Rental Property
When choosing your property, there are countless features that factor into its profitability. There is no such thing as the perfect property, so the key is to identify what features are most important to you and make sure you find something that meets your criteria.
This list includes 13 of the most influential characteristics in terms of how financially rewarding a property will be to, so you can decide which aspects to focus on when buying your rental property.
1. Neighborhood: Location, Location, Location
The neighborhood in which a property is located will significantly impact how profitable it will be, determining the demographic of your prospective tenants and influencing the long-term value of your property and likelihood of appreciation.
Neighborhoods can be divided into different classifications (Class A through Class D) to help you have a better understanding of what type of location it is, who might live there, and other factors about the area. Class A neighborhoods are the newest and most wealthy, Class B and C tend to be the middle class and lower-income areas, respectively, and Class D locations tend to be found in the part of town people try to avoid, where crime is commonplace and boarded up windows are abundant.
Keep in mind, however, that just because a property is in a neighborhood considered Class A, it does not mean that it is necessarily a better investment that one found in a Class B or C neighborhood. Some investors actually prefer neighborhoods with lower grades, so this should not be the only factor taken into consideration when evaluating a neighborhood.
2. Age: Shag Carpet, Anyone?
The age of a house can affect its profitability in several ways. Older homes can require a greater amount of maintenance than newer homes, driving up your costs and decreasing your income each month. They can also lack curb appeal or come across as old-fashioned on the inside if not periodically updated, which can deter potential tenants and lead to longer vacancies.
But just because a house is old, it does not mean that it is in poor condition. Older homes can often be sturdier and better built than new homes, so the key is to do your research. Make sure you know to what extent and when the home has been renovated and the expected lifespan of major features like the roof.
3. Condition: Is It a Fixer Upper?
The property’s condition is arguably the most important factor to consider when buying your rental property. Some people like the idea of buying a fixer-upper, but you need to assess all the implications before making this decision.
Maintenance and repair will be a weighty expense that can quickly diminish income on any property, so deciding to do major renovations is a huge financial commitment. And, in many cases, homes that initially required a great deal of work will continue to demand more attention to maintain.
Aside from financial considerations, you need to determine how much time and energy you are willing to invest in your property. The better condition your property is in, the less involved you will need to be.
4. Size Is Relative
Both the square footage and number of bedrooms (and bathrooms) should be considered when choosing your rental property. While size is not as influential a factor as some, it needs to be evaluated in conjunction with other aspects of the property to ensure it will meet the needs of prospective tenants.
If a property is located in an area that predominantly caters to families, a house with only one bedroom is not going to be as profitable as one with three or four. There is not necessarily an optimal square footage or number of bedrooms, but it does affect which tenants will be interested in the property.
5. Property Taxes & Expenses
Property taxes are important to include when evaluating a property and calculating your expected expenses. In some states, there are deductions offered to homeowners for their primary residence, but this will not be the case on a rental property.
Every city is going to have different property taxes, and you need to know just how much you will be paying each year in order to accurately evaluate how much you can make renting a property. Higher property taxes aren’t necessarily a bad thing if they are a reflection of the quality of the area, but the two do not always coincide.
You also want to find out if there are any other fees associated with the property. Is there a homeowners association? What about garbage and recycling collection? Make sure you have accounted for any additional expenses when considering a property.
6. School Districts Matter to Families
Depending on your intended tenant clientele, the quality and proximity of local schools to your property can impact how attractive it is to potential tenants. If they plan to or already have children, education will likely be a major consideration when choosing a place to live.
You also want to investigate the quality of local schools, which can affect the value of your property. Schools with bad reputations can lower the value of your property, affecting both your ability to find tenants and to sell the property in the future.
7. Crime...or Lack Thereof
Crime rates can negatively affect both your property value and your ability to find and retain tenants. Everyone wants to feel safe in their home, so make sure you can reasonably reassure your tenants of their security when renting your property.
Take the time to research crime statistics in the area, which can usually be accessed at the police department or public library. Aside from just serious crimes, be sure to look into petty crimes like burglary, theft, and vandalism.
8. Amenities Nearby?
The proximity of parks, malls, public transportation, and other facilities is something you want to pay attention to when considering a property for purchase. Depending on where you are looking to buy, different amenities may be more important than others. For example, public transportation may be essential for a home in the city but an impractical expectation on property in a small town or on several acres of land.
Public amenities can be a deciding factor for prospective tenants, so it benefits you to be knowledgeable about what is available near your property.
9. Are Natural Disasters Common?
Insurance is another expense that has to be accounted for when calculating your expected returns. If the area in which your rental property is located is prone to hurricanes, tornadoes, or earthquakes, you will need more extensive coverage, which will cut into your potential income and cash flow. Most insurance policies exclude natural disasters and thus require separate insurance to cover flooding, earthquakes, etc.
The prevalence of natural disasters can also impact your maintenance costs and may require certain safety features be installed on your property. You will need to account for these expenses in your financial planning and be sure the property is properly outfitted to withstand the elements.
10. Building Permits and Future Developments
Before buying a property, it is beneficial to find out if there are plans for any new developments nearby. The municipal planning department can provide you with information on any coming developments or ones that have been zoned for that area.
The presence of new apartments, businesses, and malls is often an indicator of good growth, which is good for bringing in new tenants. You do want to be cautious though. If new developments could damage property values or act as competition for tenants, you may want to look elsewhere.
11. How Hot is the Job Market?
The job market in a given area can have a bigger impact on your property’s profitability than you might think. An increasing number of job opportunities will result in more people moving to an area and more potential tenants for your property. Not to mention, the greater the demand for housing, the more people will be willing to pay in rent.
On the flip side, if job growth is stagnant or unemployment seems to be on the rise, people may begin to move away from the area. This could result in difficulty finding tenants and cause rental rates to dip.
12. Rental Rates
Before purchasing a property, it is important to be aware of the local rental rates and determine if it seems like a doable amount for you. In order to turn a profit, you have to set your rent at a rate that is higher than all of your monthly expenses. But, in order to find tenants willing to rent your property, your rental rate needs to be competitive with those in the area.
13. Number of Listings
The number of listings or vacancies in an area can be a good gauge for that market. Sometimes neighborhoods will go through seasonal cycles (which is also something to take into consideration when setting aside money for periods of vacancy), but too many vacant properties can mean an area is in decline and may no longer be attractive to renters.
How Does Mr. Rekey Benefit Property Owners?
If you decide that buying a rental property is the investment for you, there are a number of responsibilities you will be expected to uphold as a landlord. One of the most important elements to ensuring your tenants’ safety and the security of your rental home is changing the exterior locks.
The locks on rental properties should be changed between every tenant to prevent liability and provide a safe environment for the current tenants, but this can get expensive, especially when you own more than one property.
Rekeying is the cost-effective solution to having safe locks without constantly having to replace them. It is a simple process in which the inner mechanism of a lock is altered to prevent old keys from working. New keys are cut to match the reconfigured lock, making it just as secure as if you had installed an entirely new lock.
As America’s Largest Residential LocksmithⓇ, Mr. Rekey is dedicated to providing safe locks for homes across the country at a reasonable price. With more than 20 years in the industry, we have the experience and expertise needed to meet your locksmith needs.
We also understand the pressure of maintaining rental property, which is why we offer a special rate on our Rekey SpecialⓇ just for landlords and property managers. We even do property code work to make sure your property meets local regulations and provide documentation of our services as protection against liability.
Buying rental property is a major investment, and Mr. Rekey wants to do our part to make sure your investment is as secure as it can be. Call us at 888-677-3539 today to rekey your properties!