Many people believe that the way to making money in real estate is to focus on the rising housing prices. But actually, with a bit of extensive research, you can make decent money with a long-term investment property piece.
The key to doing so is understanding the true income you will receive from a property once you have deducted all possible expenses. So you must look at the property, current and potential tenants, and the market. Then, if the property value rises or not, it won’t be a determining factor if you make a profit. Here are a few tips on how you can make money investing in real estate.
Recreational Properties May Be Too Expensive
As a quick note, some believe that investing in recreational properties is a great way to make money in real estate. Think of how many people vacation during the year, for no special occasion.
However, you need to think about the entire costs of a recreational property. You must keep the property up and if it’s not near your home, you may want to hire a property manager. You must look at the operational costs such as utility expenses and purchasing equipment. For large stand-alone properties, you may need a storage shed to keep tools and equipment out of the way and a small riding mower. For most, the expenses outweigh that of a primary home.
Looking at Cheap Properties versus Properties in Demand
Your initial instinct may tell you to find a relatively cheap property to invest in. However, this is a smart standard practice investing in the stock market, not real estate, unless you are looking to flip a property. You see, real estate is comprised of so many factors, and although pricing is one of them, you need to consider what renters want.
One thing that makes a property expensive and valuable is its location. You need to consider the economic development surrounding it. You want to purchase a property where there is substantial job growth as well as gross domestic product (GDP) growth. In doing so, you know that the renters you get not only depend on your property, but also are able to afford it. This generates a long-term demand for your property.
Other demands you must accommodate in finding the perfect residential investment property include the actual population of the area and its accessibility to transportation. You are going to fill the needs of renters, so having your property in an area with grocery stores, businesses, and plenty of highway or public transportation options will fill your units.
Make Sure Your Property Generates a Positive Cash Flow
The investment property you purchase should generate a positive cash flow, otherwise, this is not a sustainable investment for you. Before purchasing, sit down and calculate what your rental income will be and consider all your expenses such as covering your mortgage loan, property taxes and insurance, vacant units, and repair costs. It’s hard to determine what the expenses will be though. You can always ask the seller, but remember that they are trying to make a sale. The numbers more than likely will be deflated.
Weed Out the Fake Renters of the Property
A common tactic of sellers is to make their property seem golden which means you must do a bit of legwork before trusting the information a seller discloses. You don’t want to purchase a property expecting to bring in more rental income than it can actually generate.
The seller can provide to you a rent roll that lists how much rent each unit provides. Now what you then need to do is check out the local rental listings online or in your local paper to see what the average rent is for similar units in the area. The Canadian Mortgage and Housing Corporation publish a rental market report.
As you compare the numbers, and you will want to see that the rent is either average or lower than the local average so that you know you have a good investment piece. You may even have room to raise your rent. But, if you have a few units that are renting for a few hundred more than the local average, you may need to dig deeper into the rental history of the units. These could very well be family members or associates of the property owner that will vacate the property once you have purchased it.
Vacancies can Make or Break a Deal
Having access to the full rental history can give you a good idea of the income the property generates. Now, if every unit is full and there is a waiting list, you have likely found yourself a near solid investment. Now there are a few things to be cautious of.
First off, every landlord is going to have a bad tenant or two. So, as there are wait-listed potential tenants lined up to move in, you may have bad debts with a prior tenant to settle. You need to calculate that into your future expenses as it can and will happen again.
Maybe one particular unit continues to have a broken lease. It’s time to discover why. Something is making the tenants unhappy and the prior landlord may not have deemed it as a necessary expense. But everything is necessary when it comes to keeping your tenants happy. You never want to calculate your rental income based off full occupancy for those reasons.
Also, a unit could need a month or longer for maintenance repairs before a new tenant moves in. That is a month of no income for one unit alone. Then, you must calculate in the expenses of advertising and upgrades for the unit to rehab it and make it a desirable unit again.
Always deduct about 5% of the income to offset any unexpected losses. You could offset the loss with other amenities you can offer other tenants or the public. For instance, if you have covered parking, you could rent those spaces out.
A Few Expenses to Be On the Watch For
So aside from your upfront-expected expenses, there are others to take into account as previously mentioned. If this is a large unit and you have other obligations, you may want to consider hiring a property manager or firm. They are able to rent your units, oversee the maintenance, handle inquiries, and keep all record keeping activities up to date and in order.
The other large chunk of expenses would be for maintenance and repair. Always verify what is going on with the property before purchasing.You can spend hundreds on a small condo a year, so just imagine the expenses on a larger unit such as a town-home. Have a professional property inspector come out and perform a complete audit. They can tell you about furnaces that may need to be replaced in the near future, roofing, plumbing, and electrical issues. If something has been hidden and you don’t catch it, you could pay thousands in repair and replacement costs, making it a bad investment choice.
As for property taxes and insurance on the property, you must also be careful. Make sure to review what the property was last assessed at and that you are not overpaying. Once you purchase the building, this could trigger an audit and a new assessment. That could increase your taxes.
The building may also be insured, but that does not mean it’s adequately covered. So have an audit performed by your insurance agent to see if you need to add more coverage and add that cost.
If You Are a Beginner, Don’t Go At It Alone
If you are interested in investing in real estate, but a bit nervous or short on cash, you can still do so by teaming up with others. Many people form investment groups, which help lessen the burden felt on one person. Your risks are spread throughout the group. You also have greater success at investing in more properties, diversifying your portfolio.
Another great way to ensure you are investing wisely is to consult with a chartered accountant (CA). A CA can prove to be very beneficial for beginning or seasoned investors. They help advise you as an individual or as a group about the finances involved in the purchase. They also advise you on how to set up your organizational structure.
Your CA can help identify expenses and potential savings and earnings on an investment property to be claimed on your taxes. They will identify deductibles such as your mortgage interest, maintenance, property management fees, insurance, and professional fees. They will help you create the perfect record keeping system so you can easily recall this information for your accountant.
As you can see, many minor details make a major impact on selecting the perfect investment property. With a bit of due diligence on your end and a great Realtor or investment team, you can earn a passive and lucrative income from real estate.
Elizabeth Lampman is a coffee-fuelled Mom of 2 girls and lives in Hamilton, Ontario. She enjoys travelling, developing easy recipes, crafting, taking on diy projects, travelling and saving money!
Thursday 12th of April 2018
Very insightful article. I especially liked the part you wrote about choosing cheap properties vs properties in demand.
It's one of the most common problems I see with newer investors. People are drawn toward $50k or $75k properties because they feel like the risk is lower because they put less cash into the deal. Also, the rent is usually higher as a percentage of the value, so it feels like it earns more.
These may work for some investors, but I can definitely say they are substantially riskier than moderately valued properties in decent areas..
Sunday 1st of November 2015
These are great tips. My partner and I just purchased our second investment property and there's always a lot to think about.
Wednesday 22nd of April 2015
Lots of good advice here for those interested in investing in real estate. One of the most difficult things I think is to find the right tenant/tenants. A friend of mine was wary and so chose a professional person who earnt well to rent to - this person paid the rent for a couple of months and then stopped, taken to court, then paid for a couple of months then stopped again, court again and this went on and on. It was extremely difficult for them for a couple of years.
Wednesday 22nd of April 2015
Elizabeth, this is a GREAT article. Our first home already had a tenant when we moved in, although this was something we did not actively seek out. As first-time home buyers, the rent money really helped with costs like property tax. Our first tenant stayed for years and was fantastic.
However, we ended up with a "bad" tenant after she moved out, unfortunately. This can be a reality, so it's good that you mentioned this point.