What is a rental investment?
A rental investment can either be residential or commercial. There are different kinds of residential properties you can invest in including single-family homes, condos, townhomes, duplexes, triplexes, and quadplexes, etc. There are also commercial investments which include multifamily (apartment complexes), industrial, office spaces, retail spaces, and multi-use. Different types of rental properties have unique benefits and drawbacks. There are significant differences in construction and size, cost of ownership, and the exit strategy among the different types of rental properties.
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Calculating the ROI (Return on Investment)
Understanding the expected return on investment (ROI) is important to know before you purchase your investment property. The formula to calculate your ROI is = (Gain from Investment-Cost of Investment)/ Cost of investment. Say you’ve invested $50,000 in the investment property and the total profits you’ve made from your investment sum up to $70,000, the rate of return on your investment would be:
ROI= ($70,000 – $50,000)/$50,000 = 0.4 = 40% – Your total investment gain is $20,000
Use an online calculator to figure out your ROI here.
Cap Rate (Capitalization Rate)
The cap rate is another formula used in Real Estate to determine profitability and return potential. This ratio expressed as a percentage is an estimation for an investors potential return on a Real Estate investment. The formula to calculate your Capitalization Rate is = Net Operating Income/Current Market Value. The Net Operating income is the expected annual income generated by the rental property and is determined by deducting all expenses for managing the property (such as regular upkeep and property taxes). Cap rates are based on projected estimates of future income, so they are subject to fluctuation.
Use an online calculator to figure out your cap rate here.
Factors to Consider before Investing in a Rental Property
1. Determine the location
Many people looking to invest in a rental property will look for properties close to where they currently reside. This is not always the best mindset to have when purchasing your next investment property because the location is just as important as the property itself. Some things to consider are factors about the location that will establish the highest ROI such as rental demand meaning housing supply and vacancy rates should be low in that area. Consider job growth, rental expansion, and growing population because this will allow your property to appreciate in value. Working with a Real Estate agent to help narrow down the neighborhood is extremely beneficial because they will know all of these factors off hand.
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2. What do you want to invest in?
You should have a selection criterion that serves as a checklist when you are figuring out what you would like to invest in. This “checklist” should include qualities that are in demand in that specific area such as:
– Establish a budget and get preapproved
– The type of property (preconstruction, single-family residence, condo, townhome, duplex, etc.)
– The size of the unit or home
– The number of bedrooms and bathrooms
– The different amenities such as a garage, backyard, terrace, or pool
– The condition that the property is in when you buy it
When you have decided that you’ve found a property that ticks off all of the boxes, that is when you bring in factors like cap rate, cash flow, and appreciation potential which a Real Estate agent can help you determine.
3. Work with a Real Estate Agent
Working with a Real Estate agent is a no brainer when it comes to investment properties. An agent will be able to educate you on your desired neighborhood and will do a comparative market analysis prior to purchase which helps when you are doing your research about property appreciation. Agents also have superior negotiation skills that come with years of practice. They understand the current market and will be able to negotiate accordingly based on the market conditions of the specific property. Not only will an agent be able to help you with the buying process, but they are also there to give advice about the entire process of investing from start to finish which can help you down the road. If you plan on purchasing multiple investment properties, sticking with one agent that you have built a relationship with and trust to bring you success will save you time, money, and energy when you are looking to find your second investment property. Book a call with us today if you are looking to invest and view our success rate here.
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4. Marketing
The first step to marketing your rental investment property is to determine your target market. Marketing initiatives are much easier to create when you know who you are marketing to whether it be young professionals, families, etc. There are different characteristics that people will value more depending on their specific situation. Once these are determined, in your listing you will be able to make these characteristics a pull factor for potential tenants. Next, you will want to get your property show-ready. This could mean re-painting and repairs, staging, and taking professional photos that do your property justice. When you have your listing put together, use multiple marketing methods to advertise your property such as online, a variety of social media platforms, and yard signs. Working with an agent is also beneficial for this because agents will ensure that you get the most traffic by marketing your property correctly to the right buyers.
5. Identify costs associated with the property
Identifying all costs associated with a rental property is crucial for when you are crunching numbers. Some of these costs include
-Down Payment and Interest Rate
-Property insurance
-Water, garbage, electric, gas
-Homeowners association fees (HOA)
-Maintenance
-Property management
-Advertising and marketing
Again, working with an agent will help you to narrow down these costs and will make sure you are not forgetting anything when you are doing your calculations.
6. Finding a tenant
Finding a tenant for your property is important because you do not want someone who is late each month, cannot afford the rent, or stops paying entirely. You are able to do a screening either through online services or you can do it yourself. Some of the common standards that tenants need to provide are proof of income. The tenant should either meet or exceed the rental amount each month (the gold standard being three times the rental amount). Checking their credit score is a good idea because you will be able to see how consistent they have been with paying other expenses. You should look for a consistent work history with a proof of employment letter along with verifiable income (bank statements, pay stubs). References are good to check from previous landlords as they will be able to tell you exactly how well the tenant was in their property. A criminal background check is also something to consider making sure the tenant meets your standards. If the tenant does not meet your requirements, you do not have to rent to them.
7. Planning the lease
While you are looking for a tenant you should have the lease agreement planned already so you can include things like the number of pets allowed, parking information, etc. in your advertisement. The lease agreement should include things like rules on painting and altering your unit or property, rent due dates and late fees, the process of requesting repairs, and any other regulations that the tenant needs to know about. It is beneficial to work with a Real Estate agent while you are putting this together so they can review and help word things correctly to avoid any potential loopholes.
8. Managing the property
When you become a landlord, you are taking on a huge responsibility and must make sure you communicate with your tenants properly. You will take on new roles such as handling leases, coordinating maintenance requests, collecting rent, move in and move out inspections, etc. If your tenant has problems with their unit you must be able to oblige to their requests appropriately and professionally.
