Real Estate Advisor: October 2012
Investing in Rental Property: Five Steps for Success
Have you ever considered purchasing
a rental property? Rental properties can be great investments, done right. In
addition to realizing gains from property value appreciation, rental income can
provide a monthly cash flow. Once the mortgage is paid off, much of your rental
income will be profit, allowing you to work or to enjoy retirement.
Unlike your home, this investment isn’t something that you will be personally
using day-to-day, so the benefits of ownership differ. Rental property is a
tangible asset you can visit, use, and personally impact the worth of your
investment. With sound judgment, and by following some basic steps, you can own
property and realize gains; both short and long term.
Purchase with a Plan
Investing in real estate differs depending on the type and location of the
property you are buying. Will you want to use the property part of the year?
Vacation rentals are enticing on many levels, though considering how you will
use them during less desirable periods may affect your potential rental income.
Purchasing a residence has different implications than a property that will be
rented commercially. Some investors buy properties with multiple units so they
can have rental income from one or more units while fixing up and/or living in
remaining units. Properties with multiple units have more to consider and
maintain than properties that will be rented by a single person or entity.
Knowing the type of landlord you intend to be will provide some focus as you
consider properties. It will also provide valuable knowledge for your realtor
helping with your search.
Being pre-approved for an investment loan and ensuring that your own finances
are in order is not only wise, but will make it clear if you have enough capital
to proceed. When taking on another mortgage, remember – you will want to have a
healthy reserve fund in the event that the property produces less income than
expected. Before you look at properties, sit down with a mortgage broker or
lender to see how you qualify for a loan.
Research the local rental market so you know what you can realistically
expect to charge and better understand the potential cash-flow of potential
Understand Your Investment
It is important to understand the condition of the building and surrounding
property you intend to buy. Unless you are particularly knowledgeable about
construction, always make offers for purchase contingent upon professional
Knowing the exact condition of the
roof and foundation, plumbing and electrical, floors, appliances and other
aspects of the property provides a much better sense of what you will need to
repair, maintain, or upgrade for your tenants. In turn, this allows you to
better understand the “bottom line” of your investment. After all, you are not
likely to be present on a day-to-day basis to take note of any issues that
arise. As the owner you have a vested interest in ensuring that the investment
stays in good condition. You should have a budget for repairs and maintenance,
and ensure that the purchase price enables you to make any necessary upgrades
you might need to make prior to renting it to a tenant.
Additionally, you will want to know about locale, including parking and
security issues and the zoning regulations that govern the property, including
any multiple occupancy limitations and any restrictions on specific business
activities. Your understanding of specific property, how it might be used, and
the limitations you face when renting it out make you a better investor.
Evaluate Your Options
As you look at properties, consider your options – you have many. From
location and style of building to type of rental and the number of units, each
decision you consider will open new doors. Is this a long or a short-term
investment? If the property is one that you think you will hold for a while, do
you have a sense of what the future holds and how the neighborhood is changing?
Buying properties in good locations is one of the best ways to ensure the steady
flow of rental income.
And remember: properties don’t always have to stay the same. Consider things
you could conceivably do to the property that might affect your income or
investment. For example, can you add on to the home easily? Can you build a
garage or change parking? Is it possible to convert a garage to an extra room?
Are there regulations regarding subdividing or renovating the home? Can you add
Some communities limit the number of rental properties, while others have
height or size limitations when building. If something you desire is not an
option, know that going in. Even if you are not planning to change the property
in any way in the beginning, understanding what you can and cannot do is a good
Get Insurance and Assurance
Legal documents, including rental agreements between you and your tenants,
and service agreements between you and concerned parties are essential. And
don’t forget more mundane issues that can arise when renting out a property: If
a community has fees for water, sewer, community clubs or other amenities,
clarify responsibilities -- will these be the responsibility of the owner or
renter? Getting the right information out of the gate and spelling it out for
your tenants will aid you in the end. These agreements will give you peace of
mind and provide legal recourse should you need it.
A real estate lawyer is an
invaluable asset when you purchase a rental property. Not only can a real estate
lawyer look over your purchase and rental agreements, they can advise you in
other aspects of your investment, including interpreting local regulations. Your
realtor will undoubtedly be another great asset, as they are full of more
general information regarding local issues and market trends and can likely
provide referrals to local property management services should you be
interested. The more resources you have on your side, the more assurance you
will have that your investment will run smoothly.
Proper insurance includes insurance on the structure itself as well as
liability insurance, in case someone is injured while on the premises. In some
locations additional flood, earthquake, and storm related coverage is a further
way to protect your investment. Since you are responsible for the mortgage, you
will want to have the right types of insurance with sufficient coverage to
protect your investment.
Remember: You’re In Business
Buying a rental property is essentially going into business. When the monthly
income from tenants exceeds the amount you pay in mortgage, maintenance, taxes
and other fees, you realize a positive cash flow in the short-term.
Additionally, if all goes well, you will also realize a profit when selling the
property. Doing your research as you look at properties and make your choices
enables you to be as prepared as you can be for the ups and downs that you will
face in managing your business. In fact, what you learn can make you much more
successful in the end.
Like all businesses where
significant money will be changing hands, an accountant who is versed in real
estate investing and tax implications will be valuable. You will be collecting
rents and incurring expenses for repairs and services. Tax issues become more
complex, and a professional will aid you in maximizing your returns on your
purchase. Service providers like this can pay for themselves in the money that
they save you. Once you know the bottom line with regard to your investment, you
will be better equipped to determine a budget for projects related to the
Whether this is your first rental property, or you are a seasoned veteran of
this sort of investment, your realtor is among your business contacts. Having a
straightforward relationship where you present your needs and expectations up
front enables you to get the help you need in making that critical step of
executing the purchase. Additionally, realtors often have a wealth of knowledge
and resources that they are willing share from handymen to potential tenants.
Success in business is not accomplished alone – developing a team of
professionals from purchase through ultimate sale of the property is one key to
achieving your goals. Follow these steps as you go into your new venture and you
will start strong. The rest is up to you!