Residential rental property is the way to make money, or so some people claim. On the surface, it seems likes a surefire bet; in reality, it's usually more of a headache than it's worth. The challenges start early, and they almost always involve time and money.
Here are six classic challenges facing new landlords that may need to be investigated before entering the residential real estate market.
- Investing in residential rental property can be a lucrative way to increase your wealth, though it can come with many difficulties.
- Challenges that come with owning a rental property include finding a suitable property, preparing the unit, finding good tenants, maintenance issues, hassles that arise, and changing interest rates impacting the rental price.
- There are ways to make the process easier, such as purchasing a basic property, living in proximity to the unit, and making it a full-time endeavor.
- Hiring a property manager can lessen the burden of managing a rental property but will cut into any profits.
- Removing tenants can be a time-consuming and expensive task.
Challenge 1: Finding a Property
Entire books have been written about finding a suitable residential rental property because of its critical importance. Buy too expensive a place, and you'll never make money. But trying to snag a bargain can be troublesome too. Buying a fixer-upper requires that you have the skills, time, tools, and cash to make the necessary repairs and renovations.
If you're in no hurry, this may be a way to get a bargain on your investment; if you already have a full-time job and a family, every minute spent repairing the rental is a minute not spent on a more profitable or enjoyable activity. However, nowadays, management companies can do a lot of this legwork—from locating a property to rehabbing it—for you, for a fee, of course.
Challenge 2: Preparing the Unit
Getting just about any piece of real estate into rental condition often requires fresh flooring and paint at a bare minimum, and both items require time and money. Window screens, deck stains, and lawn maintenance are other everyday needs. Every time a tenant departs, these issues need to be revisited, too.
Challenge 3: Finding Tenants
The Internet provides a fast and inexpensive way to find prospective tenants. You can also sign up with a real estate company that will vet tenants for you. In some towns and cities, realtors will show an apartment on behalf of the landlord for a commission on the rental. Another way to find tenants is to share this information with friends and family members who may be able to make recommendations.
When you vet tenants yourself, you will need to conduct credit and background checks, which can be expensive, but often is a smart idea.
Responsible tenants pay their rent on time, don't abuse the property, and don't require you to engage in the costly and time-consuming eviction process.
Challenge 4: Hassles
Even great tenants and perfect rental properties come with a host of hassles. Broken pipes, stuffed drains, broken garage door springs, pets, and roommates are just a few of the challenges that arise. Even good tenants want your full and immediate attention when the sewage is backing up into their home, or the cable company accidentally cuts the telephone lines.
Challenging tenants are an even more significant challenge. Daily calls and late or unpaid rent can add to the hassles. The move-out day is another challenging time. Damage to walls, floors, carpets, and other components of the home can lead to disputes and costly repairs.
Since every moment wasted arguing is a moment the house sits vacant, you are often better off biting the bullet and paying for the repairs yourself.
Challenge 5: Maintenance
Maintenance of significant components and amenities is a big-ticket item. New appliances cost hundreds of dollars; a new roof or driveway can cost thousands of dollars. If the rent is $1500 per month and the roof is $10,000, you can find yourself losing money fast. Add in carpet or new hardwood floors, paint, and a new stove, as well as tenants that don't stay long, and the property could lose money for years.
Challenge 6: Interest Rates
What do interest rates have to do with anything? Plenty. When rates fall, it's often cheaper to buy than to rent, and so the demand for your unit(s) might drop. Lowering the rent to remain competitive can put a real crimp in your ability to make a buck.
How Money Is Made
With all the challenges that must be overcome, can you earn money in rental real estate? Yes, but it requires a plan. Four profitable approaches are highlighted below:
Sharing the space by purchasing a duplex (or other easily divisible structure) is often a profitable undertaking. Since you are on-site and plan to take care of the property anyway, the extra cash is a bonus. Of course, all of the challenges still apply and living on-site means that you are always available and will be in close contact with the tenants. Plan appropriately and screen carefully.
2. Go Basic
Purchasing and renting out a spartan apartment with no extra amenities can keep the rental process simple, but you should know your market. For example, suppose you primarily rent out to college students. In that case, you may not need or want high-end appliances or decorative pieces that risk getting broken during a student party or a rotating cast of young roommates.
Another way to earn money is through working with government housing programs. You could rent out a basic, clean apartment with the necessary appliances that could also be used to house families through government-subsidized programs, such as Section 8 housing. By getting involved in these kinds of housing programs, you can provide a safe shelter for families in need, plus earning money through your investment.
3. Long-Term Holdings
Many real estate investors will tell you that they break even on the rent and expenses. Their approach is to buy a bargain-priced property, let the tenants' rent pay off the mortgage, and then sell in 30 years, hopefully taking advantage of some price appreciation.
While it's a reasonable approach, the profits are likely to be small, and the capital gains tax can be hefty (given your low-cost basis). And it still requires time and effort that might have been better spent elsewhere.
A rental property does provide you with the flexibility of when to sell a property, avoiding a weak real estate market by renting the property and waiting to sell it in a booming one.
4. Go Full Time
Serious landlords take a serious approach. They incorporate, buy multiple buildings, and do a significant portion of the work themselves. It's a lifestyle decision that requires spurts of serious time and energy and a strategy for buying and selling to maximize tax-loss carryforwards and write-offs and minimize income.
Hiring a Property Manager
A property manager can handle many of the duties of running a rental property. This includes marketing, selecting tenants, maintenance, budgeting, and collecting rents. You may consider hiring a property manager if you want to delegate these tasks, though it will cut into your profits.
Property Manager's Role
Property managers can handle a variety of roles. What that is, exactly, is up to you to negotiate with your manager. It is essential to identify what their role will be and develop a list of duties and responsibilities. Will your property manager find tenants? Or will they handle day-to-day maintenance and collecting rent?
A property manager can be an independent contractor or an employee. You should speak with your tax accountant to determine the most favorable approach and determine specific obligations you may have.
You can also hire a property management company, a firm you contract with, to deal directly with all aspects of the rental property. This can be expensive, but it may be ideal if you have multiple rental properties.
Selecting a Property Manager
Make sure any property manager whom you are considering meets the appropriate local and national licensing requirements.
An experienced manager should help you with advertising, marketing, tenant relations, collecting rent, budgeting, leasing, and maintenance. A good property manager will also be knowledgeable about local and state laws. As the property owner, you can be held liable for the acts of your manager, so you can be sued if your manager violates any fair housing laws.
Once you decide on a property manager and the terms of the arrangement, you should write a property management agreement that identifies the manager's duties, compensation, and termination conditions.
The Bottom Line
Is becoming a landlord worth the effort? Only you can decide. Just be sure to look before you leap and go into your new endeavor with realistic expectations and a solid game plan.
Knowing what you are getting yourself into before you do it will make you better prepared for what you encounter and more likely to enjoy the experience.