Owning a rental property is an excellent way to build long-term wealth. Not only does this investment approach deliver passive income, but it also gives the owner an asset that builds equity over time. So why don’t more people own rental properties? For starters, it’s difficult for the average person to save the capital necessary to purchase an investment property. Owning a rental home also comes with a great deal of financial risk and legal responsibilities. These reasons are why many people who could realistically become a landlord ultimately never take the plunge. But if you can find a way through these challenges, rental property ownership could play a critical part in your long-term investment plan.
8 Tips for Buying Your First Rental Property
For some, entering the rental market as a first-time owner could seem overwhelming. But it’s vital that new rental property owners understand what they’re getting into before purchasing their first home. There’s simply too much on the line to learn as you go along. With that in mind, here are a few tips that will help you get started.
Ask Yourself if You Want to Be a Landlord
Perhaps most importantly, you should start by asking yourself if you want to be a landlord. Dealing with tenants every day can be stressful and time-consuming. Not only do you have to screen your new tenants to ensure they’re reliable and won’t destroy your investment, you’ll also need to collect rent every month. You’ll also be responsible for making timely repairs to your home and handling critical home maintenance tips. If your tenant stops paying their rent, you’ll also need to deal with collection and potential eviction.
As a small business owner (because that is essentially what you are) you’ll also need to save for repairs, maintenance, and other carrying costs. So it’s crucial that you have the money available to absorb these costs. In addition, if you can’t find a tenant for a while, you also need to have the financial ability to carry your investment property’s costs without rental income. If these risks and responsibilities seem acceptable, then you’re ready to start digging into the details.
Save Your Downpayment
Buyers of owner-occupied homes can often put as little as 3% down on their purchase. For a $300,000 home, that’s only $9,000. However, because lenders don’t offer personal mortgage insurance on non-owner-occupied homes, you may have to put as much as 20% down depending on your credit score. That means a rental property owner would have to come up with $60,000 when buying the same $300,000 home.
This is one of the largest barriers to rental homeownership because it can be challenging for many people to save that much cash. You may be able to finance your down payment cost through a personal loan, but that additional interest will cut into your profits. Another option would be to convert your current home into a rental and buy a second home as your primary residence.
It’s important to note that people who already have credit card, medical, or other consumer debt would probably be better off using that large chunk of money to pay off their debt. That’s because the cost of the debt you carry will likely be more than what you could earn from a rental. If you work with a financial adviser, they can offer valuable insight into how you can best direct your money.
Pick Your Location
If you’re in a position where you have the down payment money available, it’s time to start looking at home locations. In many cases, tenants want the same things from their homes as owners do. Namely, proximity to amenities like shopping and entertainment. Commuters will appreciate quick access to freeways, while families will enjoy local parks and great school districts.
You should also choose your neighborhood very carefully. Your rental property is a long-term asset, so you’ll want it to sit in an area where property values will remain stable or grow. If you purchase property in a declining area, you will probably have difficulty commanding top dollar for your rental home over the long term.
Find the Right Home
Once you’ve found your ideal location, it’s time to find the right home. Larger homes with multiple bedrooms and bathrooms will appeal to the largest market segment. The home’s age and condition are also important considerations. While older homes often have more charm, newer homes will require less repair and maintenance and reduce ownership costs. As a rental property owner, you also should not purchase a fixer-upper. A run-down house can quickly turn into a money pit that could rapidly consume your profits.
Determine Your ROI
When you’ve found your ideal rental property in your perfect neighborhood, it’s time to determine your return on investment or ROI. Rocket HQ offers a simple method for calculating this number:
“The ROI can be calculated by first finding the property’s net annual income. This is the rent money that’s left over after you’ve paid the taxes, insurance, property management fees, expected repairs (plan to spend 1% of the property value on this), potential vacancy periods, HOA fees (if applicable), and any utilities that aren’t going to be covered by the tenant. To find the ROI, take the annual income and divide it by the amount you spent on the property. For example, if the net annual income is $7,500 and you spent $100,000 for the property, your ROI is 7.5%.”
Calculating your ROI will allow you to compare similar properties and make a smarter buying decision. Understanding your ROI will also help you determine if a rental property is a better use of your money than other investment modalities. According to Investopedia, a 6% first-year ROI is considered healthy because that number will likely rise over time.
Purchase Landlord Insurance
Now that you’ve found your rental property, you need to protect it. Not only should you purchase a homeowner’s policy (which is required if you finance your home) that protects you against damage and some liability, but you should also consider purchasing landlord insurance. This specific coverage protects you more broadly from losses due to liability, lost rent, or malicious damage. It’s wise to develop an ongoing relationship with an insurance agent you can trust who can help walk you through these policies’ requirements.
Understand Your Legal Responsibilities
Before you begin advertising your new rental property, you should familiarize yourself with all city, state, and federal rental laws. The national Fair Housing Act prevents discrimination based on race, color, national origin, religion, sex, familial status, or disability. In addition, many state and local municipalities have set their own landlord-tenant laws that go well beyond federal housing standards. Landlords in Portland, Oregon, for example, have recently adjusted to several changes that affect their day-to-day interactions with tenants. In every case, it is the landlord’s responsibility to understand and follow these laws. And the penalties for ignoring them can be severe.
Determine Your Management Approach
The last step in purchasing a rental property is to determine your management approach. You typically have two options. The first is to hire a property management company that handles the details of rental ownership. The other option is to self-manage. Owners who choose to self-manage often believe they’ll save money over hiring a property manager. However, do-it-yourselfers take on a great deal of additional risk and responsibilities. Not only will they be responsible for screening tenants, collecting rent, handling evictions, and more, they’ll also need to understand applicable rental law and act accordingly.
By contrast, owners who hire a property manager sit back and enjoy their passive income with their business partner handles all the details. Effective property managers can often make up for their monthly fees by offering advice on setting rental prices, making smart improvements to maximize value, and ensuring long-term equity by handling maintenance and upkeep. It would be wise to chat with a few different management companies to determine how they approach their work before making final decisions.
Rent Portland Homes by Darla Andrew Can Help
Congratulations! You’re now closer than ever to owning your own rental property. If you’d like to learn more about how we help investment owners maximize their return, we’d love to talk. Rent Portland Homes by Darla Andrew, is one of Portland’s leading property management companies. Our team has decades of combined experience in the industry and has made its name on treating our client’s homes as if they were our own. You can call or text Darla directly at (503) 515-3170. Or fill out the contact form on our website, and we’ll get back to you right away.
The financial power of a rental property is within your reach. All it takes to achieve this dream is a little hard work, a lot of research, and the right partner at your side. We’d love the chance to show you how we can help make those dreams come true.