With interest rates remaining low, more people are considering an investment in rental property. It’s a pretty good time to take the plunge, as the low mortgage payment will be frozen for 30 years while rents figure to gradually tick upward over the same time frame. There are also tax benefits and significant income potential to consider, though like any other investment an eventual profit is not guaranteed.
If you want to set yourself up for the best possible chance of success, you need to do your homework before purchasing a rental property. How is the surrounding neighborhood? Can you avoid the tenant horror stories that plague many landlords? Adequately answering these questions is the first step in taking advantage of a tax code that really incentivizes real estate investments.
Readers interested in learning more about the home buying process can find out more in our Guide To Buying An American Home. If you’re more concerned with the financial advantages of owning a rental property, check out the list of Dos and Don’ts below!
Do Consider Tax Advantages
Many of the expenses associated with rental property ownership are tax-deductible against the rental income your property generates, including interest payments, certain taxes, insurance premiums, and related income streams. Better yet, any losses are usually tax-deductible from your non-real estate related income. If this seems confusing, Investopedia’s Guide to Rental Property Tax Deductions gives you more information on how to use the American tax code to your advantage as a rental property owner.
One deduction commonly underutilized by homeowners is depreciation. Depreciation is best defined as a property’s loss of value due to normal wear and tear. Exact rates depend on a wide array of variables, but it averages out to about 3.636 percent of the purchase price of the buildings (not the land) over a 27.5 year period. Depreciation is inevitable when purchasing properties, but claiming it on your taxes can have a big impact on your final tax bill.
The tax code is even more favorable to primary homeowners than real estate investors, a fact you can take advantage of with a two-family dwelling. If you live in one of the units and rent out the other, half of your investment can be treated as your personal home for tax purposes. Between your rental income and the tax benefits of depreciation, your own shelter could be cheap or even free!
Rental properties are also a flexible investment vehicle. You can sell one and avoid paying any capital gains taxes if you immediately reinvest the proceeds in another rental property, for example.
Do Consider Multiple Property Types
There are a lot of different ways to invest in rental property. You can add a rental unit to your existing home or property. You may purchase an apartment in an already extant building or cooperative. You may purchase your intended retirement home before you’re ready to use it for that purpose, getting rental income out of it in the meantime. You could purchase something near your kid’s college, combining student housing and rental investment into one transaction. Heck, you can even purchase a vacation home and call it a rental property as long as you don’t personally inhabit it for more than two weeks a year! Realtor.com has a Guide On Tax Breaks for Second-Home Owners if you want to learn more.
Do Your Research
You would never purchase a home you plan to live in without researching it first. Neighborhood schools, local entertainment options, zoning laws, shopping, access to transportation, and recent price trends are all considered before you commit to a given area.
Likewise, you need to look into all of that and more before purchasing a rental property. Pick a timeless area, such as a waterfront property or one within proximity of a popular college campus. It can be tempting to try to capitalize on a brand new housing development or golf course, but those areas rapidly depreciate when a new one pops up a few blocks away.
It can also be beneficial to look into what demographic you would like to draw tenants from and then pick something that appeals to that particular group. This way, you attract the type of people you’re looking to do business with.
Don’t Forget You’re A Landlord Now
Tenants have a legal right to pester their landlord for repairs, especially if you’re charging them top dollar. If you’re handy and available, you can dramatically improve your bottom line by handling the minor repair jobs yourself. If you’re not great with your hands or simply do not wish to be bothered, you can hire a professional property management firm to manage your property on your behalf. A qualified company is likely to take its job seriously, but understand that whatever they charge you has to be figured into your expenses.
Your real estate broker can probably recommend a quality property management service, especially if they have expertise in the rental market. Alternatively, you can research property management companies online.
Don’t Neglect The Numbers
A lot of numbers need to be considered in real estate investment, but thankfully online calculators on sites such as Investopedia can help ensure that you don’t forget anything. Variables such as interest rate, cost, down payment, taxes, and insurance can all be plugged in to produce a realistic projection of your monthly expenses.
Once you know a monthly payment amount, you can compare it to the projected income it would generate to see if it makes sense for you. For example, consider a hypothetical property costing $300,000 that is rented for $2,000 a month. You put 20 percent down and financed the remaining $240,000 balance with a 30-year mortgage at a four percent interest rate. Insurance, taxes, and maintenance bring your monthly expenditure to $1,764 for a profit of $236 per month. That works out to 4.73 percent of your down payment, a better annual ROI than you could get with other investments. Add in depreciation tax benefits and the chance of appreciation, and you’re really ahead!
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Red Hawk Property Management
2451 E Baseline Rd Ste 410, Gilbert, AZ 85234, USA