Want to be a landlord? Here are some points to consider.
For those of us who are investors, real estate has been considered as a decent, long-term investment that can provide us with some reasonable level of diversification. Its historical returns have been somewhat lower than stock market returns over the long run as measured over the length of a few decades — for instance, if we look at the period of time between 1978 to 2004, housing has turned in an annualized return of 8.6% (commercial real estate has delivered 9.5% in that timespan), whereas for the same time period, major stock market gauges have given us 13.4% returns. Of course, a lot has happened to these markets since then (with recent years reflecting very unusual conditions); thus, if you check the S&P/Case-Shiller Home Price Indices up to early 2012, you’ll see just how steep a dive and just how bloody a beating the real estate market took between 2008 and 2010. There’s been a little recovery since then, but who knows what the future will bring.
Right now, the housing market is still reeling from the massive overcorrection brought about by the subprime mortgage and lending debacle of previous years. If we can see past this, we may begin to expect average annual rates of return for real estate to stabilize because our expanding population will always need roofs over our heads. What many investors (and particularly those who are baby boomers) believe is that rental real estate will continue to be a worthwhile investment over the years, potentially helping to provide for their living needs later in life and during their retirement years.
13 Pointers To Consider As A Real Estate Investor
I’d like to share an update that may be of interest: I’m finally entering the real estate market as an investor. We had that crash in 2008 and the market has stayed sluggish since. However, in property areas I’ve been looking at, the home prices have plateaued and are seeing slight upticks. And for the first time in forever, the local rental market can actually provide new investors a positive cash flow in some of the more distressed areas that were hit by the property bust. Well, I’m happy to say that I’m forging ahead to pursue my contrarian strategy as a longer term investor in this new undertaking.
When researching the income potential on a piece of property, here are a few things I’m considering. In general, you should:
- Be comfortable with your financing strategies. The bottom line here is whether you can afford to take on a significant investment that can potentially occupy a lot of your time and money (at least, while you’re setting things up). If you’re interested in foreclosures, my article on How To Buy A Foreclosure provides some helpful resources. The good news is that mortgage interest rates at this time have never been lower, so this is certainly a huge plus for would be investors.
- Talk to other property owners and pick their brains. Find out what it’s like to be a landlord by talking with other rental property owners of similar properties to get several perspectives on the realities of the business.
- Check sales comparisons. Determine going rates for similar properties and what gets covered in the pricing of rental units or properties for sale. Visit multiple listings and get a feel for the neighborhood before making a big decision.
- Prepare for the possibility that not all properties will be rented immediately, leaving you with a lower amount of income in the first few months.
- Know what your basic expenses are going to be: start out by tallying up the amount of your monthly mortgage payment as well as the cost of your property taxes. Property taxes that are paid yearly can be divided by 12 to get a monthly tax figure. If you’re thinking of purchasing a condo unit or townhouse, you may need to tag on Homeowners Association (HOA) fees as a fixed expense.
- Check into the cost of insurance for your property and what the policy will cover on the rental property. Estimate the cost of the premium in monthly increments.
- Consider what the rental price will cover for your tenants. Some landlords opt to pay for some utilities such as sewage, water, and heat while others choose to pay for nothing extra. There are pluses and minuses to each decision, especially if you choose to pay some of the bills. Be prepared for tenants who may take advantage of the “free” services and utilities that you offer and consider these factors when calculating your potential costs.
- Account for the cost of advertising and marketing the property to potential renters. While online classified ad sites such as Craigslist may provide you a free platform for finding tenants, there are other expenses you may have to plan for. If you plan on requiring credit checks or other requirements for prospective tenants, make sure you know what costs will be incurred.
- Look into hiring a property manager for larger real estate investments that may require a lot of time to manage. Being a landlord may require a certain time commitment, especially if there are many properties or rental units involved. Depending on your level of experience as a landlord or on the number of units you own, it may be a challenge to perform the work of a property manager if you are not a full-time investor. If the work and effort is something you can’t muster, you may want to outsource some of the real estate management tasks involved.
- Estimate the amount of money that will be spent annually on maintenance and repairs. To achieve a ballpark figure for a monthly amount, take the amount equal to 1% of the value of the property and divide it by the number 12 to get a figure for the cost of monthly cleaning, maintenance, and repairs. Here’s one alternative strategy to consider: you may decide to negotiate a lower rent with a tenant who’s particularly “handy” and who’s willing to deal with maintenance matters on their own. Giving such tenants a price break may spare you the headache of having to worry about maintenance and repairs separately.
- In addition to the repair costs, take into consideration other requests from tenants for replacements of items like window screens, faucets, door locks, along with other reasonable requests.
- Remember to ask for, and hold on to security money given to you by tenants. Have this money available in the event that a tenant requires a refund of the deposit, or in the event that a unit needs repair work after a lease expires.
- Carefully weigh your expected income against the expenses you’ll incur as a landlord. Consider the pros and cons of the “landlording equation.” Once you’ve estimated the figures for both income and expenses from a given property, you’ll need to subtract the expense total from the monthly income that you anticipate in order to calculate the cash flow of your rental property. If the cash flow you’ve calculated is positive, you’re one step closer to ascertaining that the profit is well worth the investment.
If you’re considering the possibility of investing in rental property, you’ll need to do quite a bit of research and preparation. Not everyone is suited to be a landlord, and if you’re not careful, your rental property investment could lead to larger financial concerns. If you have a large mortgage obligation which you can’t afford without a positive cash flow, then you may face some risks along the way.
As mentioned, one basic element you’ll need to consider with rental properties is the concept of cash flow. Simply put, cash flow is defined as the amount of money made on a piece of property versus the amount of money you must expend on the property. When your net income is positive (rental income minus your property-related bills), then you’re minimizing your risks. On the other hand, if you’re unable to meet your housing expenses with the current income you’re generating from your rental real estate, then you may just be in a pickle as you’ve got a negative cash flow. This situation is particularly unfavorable if it lasts a while, as it could chip at your personal finances over time and make saving money nearly impossible.
Created May 21, 2008. Updated January 26, 2012. Copyright © 2012 The Digerati Life. All Rights Reserved.