As millennials achieve financial independence, residential real estate investments have become a viable option for those who consider rental income a way to increase their personal wealth. In fact, according to the National Association of Realtors investors accounted for 15% of all homes sold in December 2015.
While millennials, aged 19-36, are considered the largest population of renters, they are also making up the largest number of home buyers at 32%. The overlap between millennials who rent but are also buying homes may come from those who choose to invest in rental real estate. Buying a home with the intent of renting it out, while choosing to also rent themselves, gives these savvy investors the freedom to be mobile while also building equity and acquiring passive income.
As Tim Savy explains in The Washington Post, "For young people, as with many later in their careers, investing in rental property provides diversification of investments beyond the common 401(k), IRA and mutual funds standard to retirement planners... investing in the real estate market provides a different opportunity to invest with a focus on immediate cash flow."
While real estate investments are lucrative opportunities, any landlord will be quick to tell you that rental management takes time and effort to generate a positive cash flow. As with any financial investment and business decision, researching the steps it takes to be a great landlord will set you up for success.
For those considering investing in residential real estate, here are 10 tips for first-time landlords:
- The Property - Selecting the right property is a crucial part of real estate investing and involves more than merely swooping up any cheap property. A rundown home in a bad neighborhood probably will not attract top quality tenants. And the right tenants, who pay rent on time and respect your property, are the bread and butter of a successful rental investment. Consider the neighborhood, the neighbors, proximity to industry, and how much extra money and time are you willing to put into making a home move-in ready. The right real estate agent should be familiar with rental trends in the area you want to purchase in. They should have insight on the community and the rental market.
- Get Familiar with the Numbers - Your initial investment should include an adequate reserve fund that you keep separate from your rental income and expenses. You need to have enough money to cover the unexpected like broken appliances, property damage, maintenance emergencies, and vacancies. It's important to familiarize yourself with all the numbers before purchasing as well as throughout owning the property to keep your investment on track.
- Know the Laws - Laws pertaining to rental housing are established to protect both parties of the landlord-tenant relationship. Knowledge of and compliance with federal, state, and local regulations is crucial for both landlords and tenants. You can be sued for not obeying laws and ignorance is not a viable defense.
Nolo provides a great starting point when conducting your own research on state landlord-tenant laws. The U.S. Department of Housing and Urban Development (HUD) is responsible for regulations covering discrimination and other federal issues affecting your tenants. You can also check with your state real estate board or join a local professional agency for property managers or landlords who should be able to provide guidance on state regulations.
- Get Insured - Insurance policies designed specifically for landlords provide added protection for financial loss and obligations associated with your rental properties. While some landlords assume they can rely on their standard homeowners insurance to cover their rental property, homeowners coverage is usually not sufficient to protect an investment property. Homeowners insurance covers owner-occupied homes while landlord insurance covers liability and damages connected to tenant-occupied homes. Also consider having your tenants take out their own renters insurance policy.
- Taxes - Nolo notes that rental real estate provides more tax benefits than almost any other investment. Landlords get to deduct items such as insurance, maintenance, and utilities from income, which homeowners do not. Other deductible expenses may include interest, property taxes, and deductions for depreciation.
- Rental Rate - Price your market not your dreams. The right price for a rental property is a balance between wanting to maximize your income from rent payments and wanting to ensure the property is continuously occupied by trustworthy tenants. The right rent amount is determined by finding out what similar properties in the neighborhood rent for, known as the fair market rent. Factors that may effect a rental property's monthly rate include:
Number of bedrooms and bathrooms
The inclusion of utilities, like electricity, gas, water, or internet.
The allowance of pets
Property extras like additional storage, garage, parking, or backyard
Amenities like pools, laundry, recreation room
Use a Legal Lease Agreement - A strong lease is a landlord's best friend when it comes to clearly defining expectations between you and your tenants. A lease is a legal contract that outlines the conditions of renting your home that is mutually agreed upon when signed. You should have every tenant named on the contract and review the lease in person with them during the signing process.
Because each state has slightly different laws that impact a landlord-tenant relationship, be sure to use a state-specific lease rather than a more generic lease to best protect your investment and yourself. Every state has different limits on security deposits, late fees, etc. and knowing the laws that apply in your state will keep you on the correct path.
The Right Tenant Matters - The right tenant can make or break your investment dreams, both emotionally and financially. Terrible tenant stories include renters who don't pay rent, lie, steal, destroy your property, conduct illegal activities and worse. But obviously, not all tenants are bad. Great tenants pay their rent, maintain the property, and communicate appropriately with their landlord. The trick is to be selective with your legal tenant approval process, set the right rent amount, and provide a nice property that good tenants want to live in.
Landlords have the legal right to approve tenants based on income, rental history, debt to income ratio, and other factors that are verified in rental applications and tenant screening reports. Tenant screening is designed to help landlords make smart and informed decisions about tenants to protect their investment property.
I always advise landlords to run a credit check to assess an applicant's bill-paying behavior and to get a good look at their debt to income level. If an applicant has outstanding balances and collections against him, what's to say he won't fall behind on his rent too?
Be Ready for a Full-Time Second Job (or to hire someone else to manage it) - DIY landlords will quickly discover self-managing rental properties requires a significant time commitment. Property maintenance, inspections, rent collection, and application processing will take up a big chunk of a landlord's time.
While a low maintenance tenant can be a breeze to manage, even a rent paying, responsible tenant will have maintenance emergencies that make you get out of bed in the middle of the night. (I cringe at the memory of my own novice renter experience of having my landlord come out in the middle of a stormy winter night only to show me how to flip a circuit breaker - oops!!)
A majority of landlords have seen tremendous success in self-managing their rentals with helpful tools like property management software that automate administrative tasks. Alternatively, rental property owners can hire a property management company who will handle all of the management duties for a flat fee or percentage of your monthly rent (ranging from 7-15%).
Know Your Options if Your Tenants Suck - Unfortunately, evicting a tenant is a lengthy process if you want to do it legally (which should always be your top priority to protect your investment). Even if your tenant is in the wrong, you can significantly delay the process or even end up owing your tenant money if you do not follow the appropriate steps for evicting a tenant.
The lease agreement your tenant signed protects their right to remain in your property as long as they abide by the lease terms. So if you end up experiencing personality clashes or have a tenant you find annoying, there might be nothing you can do until the lease term ends. Eviction guidelines are established by the state so make sure to familiarize yourself with your state's requirements.
We hope these tips helped you decide if real estate investing is for you! Make sure to come back and let us know how you've executed them in the comments.
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Kaycee Wegener is an associate of Rentec Direct, providers of property management software and tenant screening services. As Rentec Direct’s Content Strategist, Kaycee informs and entertains property managers and landlords who seek industry related tips and trends. To learn more about Kaycee or Rentec Direct, visit www.rentecdirect.com