Without a doubt, the real estate game can be a lucrative investment strategy that produces positive return on investment above and beyond traditional investing, which is what makes investing in real estate so attractive. But owning a rental property isn’t as easy as buying a house, renting it out and collecting the rent month after month. There are many challenges, often financial, that can erode your returns.
The secret to getting great returns on real estate lies in understanding the fundamentals of what makes a great real estate investment within your own set of financial parameters and capabilities. Here are a couple of important considerations to think about before you buy your first investment property.
1. Are you ready to invest?
Investing in real estate isn’t for everyone. Buying a property for the explicit purpose of letting others live in it doesn’t preclude you from taxes, insurance, HOA dues, and other recurring costs above and beyond the cost of the house. And the financial commitment is only part of the equation. Do you have the bandwith to make capital improvements, market the property, select tenants and deal with tenancy issues and repairs?
2. What kind of property suits your investment needs best?
There many different strategies you could adopt when it comes to real estate investing. Some people look for “flip” opportunities, buying a house cheaply, renovating it and selling it for a quick profit. Others prefer the long-term stability of single-family rentals or multi-family units. Others just want to bankroll other investors to earn a passive return. There are so many opportunities in real estate, you just have to understand your own personal finances and see what fits your lifestyle best.
3. What is the neighborhood like?
The importance of location is no less vital when it comes to choosing a real estate investment. Often times, people buy investment properties in a different neighborhood from where they reside, and hence have less first-hand knowledge about the location. Who are your potential tenants? What kind of industries do they work in? How are the schools in the area? What is the crime rate? Do your homework and make sure you are comfortable with the neighborhood of your investment property, keeping in mind that as the landlord/manager, you will likely be making many trips to the property.
4. What are your investment expenses?
A common oversight of first-time real estate investors is underestimating their expenses. Above the occasional unknown repairs that inevitably pop up, are you ready to shoulder expenses to cover:
- HOA fees
- Vacancy costs
- Scheduled maintenance
- Capital improvements
- Fuel (if you are driving frequently)
- Marketing costs
- Legal fees
5. What can you charge for rent?
Within the neighborhood of your interest, what are comparable units charging for rent? After expenses, will you net positive cash flow on the property? With every rental, there are months of vacancy from time to time. Make sure when forecasting income, to build in loss for vacancy.
6. Will you self-manage or hire a property manager?
Whether or not you should manage your property depends on your personality, resources, skills and availability. A typical property manager may cost between 8%-12% of the monthly rent, but a good property manager should also decrease vacancy and maximize rents. They also handle all the tenant issues and building repairs. Some companies even manage construction projects on your behalf.
Even when property values are declining, investing in real estate can be profitable. The long-term historical appreciation rate for housing is over 8%. So if you buy low, even if prices go lower in the short term, you can still do very well if you hold the property for the long haul. When you find your ideal rental property, keep your expectations realistic and make sure that your finances are in a healthy state that you can wait for the property to start producing cash flow.