You know why you want to invest in a rental property. You envision making passive income, raking in the dough, as your tenants pay you every month. It’s a smart goal, and you certainly can make money as a real estate investor, but as anyone will tell you, it isn’t exactly passive, easy or cheap. You have to spend money before you make money, and you’ll have to spend money while you’re making it, too.
Still, if you’re thinking of buying a rental property, it’s time to become familiar with all of the quirks of investing in real estate.
If you’re looking at buying a rental property, be sure to consider these things first:
— Know your costs.
— Have a great real estate lawyer.
— Make sure your property isn’t subject to rental restrictions.
— Be mindful of surprise costs.
— Understand what being a landlord really means.
— Don’t assume hiring a property manager is a perfect solution.
— Prepare for your rental to sit vacant.
— Make sure you have plenty of cash reserves.
[READ: How to Convert a House to a Vacation Rental.]
1. Know Your Costs
Whether you’re buying a house, an apartment building, a condo, a townhouse or whatever piece of property you’re zeroing in on, it’s important to purchase a rental property you can comfortably afford. But many first-time investors don’t realize what they’re getting into. There are the closing costs, which can’t always be financed. There may be a hefty down payment. There’s the monthly mortgage. You need to determine what the rent is going to be. This is all just for starters.
The rent amount can take a while to determine. “Many investors subscribe to the 1% rule, which suggests that monthly rent should be roughly 1% of the property’s purchase price. That would mean a $200,000 home should rent for roughly $2,000 per month,” says Debbie Fales, communications and marketing manager for Navigator Private Capital, a real estate lender in Annapolis, Maryland.
“While this might be a helpful rule of thumb, it’s rarely that simple,” Fales says. “We suggest diving deeper into listing aggregators like Apartments.com or Rent.com and comparing similar properties to find the going rental rate.”
Paul Dashevsky is a Los Angeles-based real estate investor and the co-CEO of GreatBuildz.com, a service that matches homeowners with general contractors, and co-CEO of MaxableSpace.com, which builds and manages guest homes and other tiny house projects.
He advises: “Don’t buy based on emotion and don’t overpay. You’re not living in this home, so the only important metric is what your net revenue will be.”
Nicole Rueth, founder of The Rueth Team, a mortgage lender in Englewood, Colorado, says, “Run the numbers like a business. Higher prices are here to stay, so instead of waiting for prices to drop, find the properties that cash flow with a little creativity. They’re out there; I know because I’m helping investors find them.”
But she warns, “If it doesn’t cash flow on paper, don’t buy it.”
Rueth says too many novice investors get caught up in making the home a little too perfect before renting it out. That’s admirable to be conscientious, but it could financially wipe you out if you’re not careful.
“Remember, you don’t live there. Renovate to your market, not your tastes. You’re not moving in,” she says. “If it makes you money, it’s pretty enough.”
2. Make Sure You Have a Great Team of Professionals
You’ll want a skilled real estate attorney reviewing your contract with the entity you’re purchasing from, as well as when the one you’re drafting for your tenants. Every state has its own approach to the landlord-tenant relationship, and you don’t want to be be a landlord who breaks a bunch of laws. There are plenty of ways you can violate the law, too, from charging too high of a security deposit to not making necessary repairs in a timely manner.
But a good lawyer is just the start.
“Build your A-team,” Rueth says. “Lenders, agents, handymen, CPA and property managers are critical to not only a successful rental but a scalable business.”
3. Make Sure Your Property Isn’t Subject to Rental Restrictions
Homes that belong to a homeowners association, also known as an HOA, can be challenging to rent out, says Dashevsky.
“If your property is in an HOA, you have little control of the association costs and how they might increase over time,” he says. This means HOA costs could affect what rent you charge your tenant or wreck your profit margin.
“Also,” Dashevsky says, “your tenant could run afoul of the HOA rules.”
Dashevsky isn’t a fan of renting out a home with a swimming pool. Sure, you can charge more, but only in theory, according to Dashevsky. “I find that you don’t get an increase in rent for a home with a pool,” he says.
He also doesn’t like what a pool will do to your insurance, and then there’s the cost of maintaining the pool that you have to think about.
[READ: If You Can’t Swim Year-Round, Is a Pool Worth It?]
4. Be Mindful of Surprise Costs
Surprise costs can slash your profits and, in some cases, exceed them. These can range from rising property taxes to the cost of maintenance and repairs.
“It’s hard to expect the unexpected,” Fales says. Yet you need to do just that when you rent property.
“So it pays to secure rental property insurance, commonly referred to as a landlord policy,” Fales says.
She also recommends putting aside money for maintenance, regular things you know you’ll probably have to pay for, like maybe an exterminator or a lawn mowing service, to surprise maintenance costs, like a plumber or a roofer.
“And, of course, you should have a fair idea of utility costs and energy usage before you pull the trigger,” Fales says.
5. Understand What Being a Landlord Really Means
Becoming a landlord doesn’t just mean taking on the expense of maintaining a rental property. It also means having to be available at all times and deal with tenant issues as they arise. If there’s a plumbing, heating or cooling problem, for instance, you’ve got to promptly fix it — or hire someone to. You’re potentially on call, 24/7.
If that excites you, and it may, especially if you’re good at making repairs or a real people person, then you have nothing to worry about.
6. Don’t Assume Hiring a Property Manager Is a Perfect Solution
It’s certainly possible to minimize your work as a landlord by hiring a property manager to oversee your rental. But there are pros and cons to such a move.
“Property managers just don’t have the same incentive as you to manage the property at its highest efficiency,” Dashevsky says. “If possible, manage the property yourself.”
But Rueth says, “Don’t assume self-managing saves you money. If managing tenants stresses you out, costs you time or makes you hate investing, you’re paying a price either way. Know your strengths and hire for the rest.”
7. Prepare for Your Rental to Sit Vacant
When it comes to making money on a rental, a lot of the financial upside you see is apt to come in the form of property appreciation. But you’ll still need to cover your costs along the way, and even when there’s demand for housing, you still could find that your property isn’t always going to be rented out.
“For a rental investment to pay off, you need tenants,” Fales says. “So you’ll want to consider the housing supply in the area in relation to the estimated demand. You want your estimated vacancy rate to be as low as possible, but it should also be based in reality. We advise clients to take advantage of public data by consulting the U.S. Census Bureau, where they list vacancy rates by region.” (You can find that information here.)
Dashevsky has a suggestion, especially if you find your properties are sometimes vacant.
“Rent your property slightly under market, like $50 to $100 under the peak market rent you believe is the right price. It’s not a large amount to lose every month, and it will get your unit occupied faster,” Dashevsky says. This will mean more rental income, he adds, and you’ll increase your odds of the tenant staying longer, which also will mean additional steady rental income.
[8 Tips for Renting Out Your Vacation Home]
8. Make Sure You Have Plenty of Cash Reserves
Because owning a rental property can cost more than expected, and you can have those surprise costs mentioned earlier, it’s important to have plenty of cash reserves on hand to cover any expenses as they arise. You might have to pay for a sudden repair, or you might end up with an apartment that remains vacant for a few months until a major issue is resolved.
Or, hey, maybe it’ll all happen at once.
“Don’t underestimate reserves,” Rueth says. “A water heater, roof leak or tenant turnover will eat your profits if you didn’t plan for it.”
Having a solid financial cushion in the bank can help you avoid cash flow issues when unexpected situations arise. And it might buy you more peace of mind. That said, when you own a rental property, while you can certainly become rich — that’s why renting properties is a thing — there really are endless opportunities for something to go wrong, and you’ll need to come to terms with that before taking the leap.
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What to Consider Before Buying a Rental Property originally appeared on usnews.com
Update 06/30/25: This story was published at an earlier date and has been updated with new information.
