Anyone keeping an eye on the news these days has likely noticed the stock market can change on a dime. Stocks can plummet or peak in a matter of days depending on the economy — or a major pandemic. This has led many to invest in rental property instead. Currently, individual investors own 47% of rentals and, while this can certainly build wealth, investing in rentals is rarely as straightforward and risk-averse as it may seem.
Therefore, if you’re seriously considering joining the millions investing in rental properties, there are a few important things to consider first.
1. Location and the Economy
When it comes to purchasing and renting out a property, location is everything. Choosing a lucrative place to buy can be a bit tricky if you don’t know what to consider. For example, low prices and high occupancy rates may make a certain area seem like a great location. However, the neighborhood may be underdeveloped or have a high crime rate. Therefore, it’s important to consider every possible angle to ensure you’re investing in a good location.
The economy can also impact the value of your potential rental property. For example, you might be able to purchase the property at a lower price but, when you go to sell it, you may find its value has gone down due to a declining economy. In this case, you may actually lose money or break even, making the investment worthless. However, the opposite may happen if the economy improves. Research the market and forecast future trends to determine if your investment will be worth it.
2. Income from Renters
Of course, the biggest benefit of owning rental property is the extra income you’ll receive from renters. Ideally, their monthly rent will more than offset the cost of the mortgage payment, leaving you with a substantial profit. While this scenario is advantageous for everyone involved, it’s possible you might not get so lucky. For instance, you may have a high vacancy rate, in which case, you’re stuck with paying the mortgage, making the investment a major loss.
You might also have a tenant who doesn’t pay their rent or cause a good deal of property wear. This, of course, would incur more expenses for you. Of course, you might have tenants who always pay their rent on time and take care of the property. Some may even make improvements for you. However, this situation isn’t a guarantee. Thus, it’s best to assume you’ll have to deal with some extra expenses — and lousy tenants — every now and then.
3. Active Involvement
Money isn’t the only thing you’ll be investing in your rental property. Purchasing property requires a decent time commitment. This is especially true if you plan to purchase a fixer-upper. While doing so may save you money outright, — and increase resale value — you’ll likely be putting a good amount of blood, sweat, and tears into the rental before you’re ready to list it. Carefully consider whether you’re able to commit to this before making a final purchase.
It’s also important to remember you’re now in charge of responding to maintenance calls and any issues the tenant may have with the place. The cost of these repairs comes straight out of your wallet. Plus, they’ll require your time whether you plan to fix them yourself or call someone else to solve the problem. Thus, it may be smart to set aside a sum of money in anticipation of damages or maintenance issues. Having a flexible schedule may also be beneficial.
4. Taxes and Fees
Whether you have tenants or not, you’re still obligated to pay property taxes and homeowners association fees. Of course, you’ll know exactly what these two expenses will cost in advance. However, they can severely impact any profits you may make off the property if it’s frequently vacant. Plus, there’s no guarantee property taxes will remain the same. In some cases, they may rise faster than you can increase rent, leaving you in the red.
On the other hand, there are some tax benefits that come with owning rental property. The Internal Revenue Service allows you to deduct expenses regarding improvements, depreciation, insurance interest, and more. Additionally, the 2017 Tax Cuts and Jobs Act offers even more benefits to landlords. One such benefit includes creating a new deduction for the income you earn through pass-through agencies and nearly all rental properties qualify. This certainly has the potential to put extra cashback into your pocket.
Calculate the Return on Investment
With so many factors to consider, the simplest way to determine if investing in a rental property is worth it is to calculate your potential return on investment. You can do this by dividing the net profit by the cost of your investment. Multiply the outcome by 100 and you get the ROI. If the amount is small on paper, it will probably be small in reality, too.
Of course, variables like occupancy rate, taxes, and maintenance costs can all affect ROI numbers. However, making rough estimates and making an approximate calculation will aid in your decision-making process and likely set you up for successful rental property ownership.