Real wealth is created by diversifying your sources of passive income. Finding a way for your money to work for you instead of being paid for your time is the first step to financial freedom.
It also frees up your time to focus on what you love. Feeling stuck at your job to make ends meets kills motivation fast. However, knowing you have options means you can choose only projects or jobs you want rather than being driven by how much you can earn from them. Investing in housing is a sure way to get great returns passively.
Like everything else, though, becoming a landlord has its pros and cons. Understanding them beforehand prepares you to properly handle the challenges when the time comes.
Pros of becoming a landlord
a) Ongoing income
As long as the rental unit is occupied you are assured of ongoing income. Unlike the stock market which fluctuates daily, housing guarantees steady income every month. Thus, it is one of the best options for people looking for low-risk and high-return kind of investment.
b) Hedge against inflation
Inflation is unavoidable but not unbeatable. Winning requires finding a way to cushion yourself against its effects. The interest on fixed assets, stocks, and bonds doesn't do much to cushion investors against inflation. However, landlords can mitigate inflation effects by hiking the rents. Thus, real estate offers a better hedge against inflation compared to other investment options.
c) Predictable cash flow
There are ways to predict the cash flow from rental properties even before you buying. The main factors in play are the cap rates, the monthly cash flow, and annual returns. Calculating the potential return on investment before buying a rental property allows you to determine whether the investment is worth your time and money or it will be a money pit. Many investment options don't have this advantage. Try this rental property ROI calculator to run the numbers before you invest.
d) Ability to leverage other people's money
Lending institutions allow investors to leverage the expected rental income when applying for a mortgage. Thus, you won't be waiting for years to save enough money for the purchase. The earlier you buy the property and rent it out the sooner you clear the mortgage and start enjoying the returns on your investment. Therefore, don't be afraid to leverage your potential rental income to get financing for real estate investments.
e) Tax advantages
The expenses incurred in the process of acquiring as well as running a rental property are tax-deductible. These deductions offer a legal way to reduce the amount spent on taxes. A rental property owner can deduct mortgage interest, depreciation, property taxes, and buying expenses. Some repair and maintenance expenses are also tax-deductible, and the rest are depreciable. Properties owned by LLC or companies qualify for business deductions, which are completely separate from the standard deduction or personal itemizing. Check out a complete list of rental property tax benefits to get a sense for the full scope of the advantages.
f) Diversification from stocks
Gone are the days where stocks were considered the standard for investments. Diversifying your investment portfolio means market dynamics in one area won't leave you destabilized. Also, real estate isn't as volatile as the stock market hence the reason many investors love it.
g) No formal training requirement
Anyone with enough money to buy a property can become a real estate investor overnight. The only requirement is capital and willingness to take calculated risks. On the other hand, other fields like the stock market require a good understanding of how the market works. If not, you'll have to hire a stock market broker to run the business. This eats up a big chunk of your proceeds hence slowing your financial growth. It isn't the case for real estate investors. You only undergo formal real estate training if you wish to become a licensed real estate agent or a realtor.
Cons of being a landlord
a) Risk of unpaid rents
By renting or leasing your property you expect rental income on the agreed-upon date. However, not all tenants honor this agreement. On top of the delayed payment, it may get to the point where you have to evict the tenant. At times, this means forgiving them the unpaid rent. Rental deposits can cushion you against unpaid rents but not always. The standard one-month rent deposit required isn't enough to cover rent arrears as well as repairs and replacements needed after the tenant leaves.
b) Risk of property damage by tenants
Many people are not keen when dealing with properties or items that aren't theirs. Tenants with such an attitude leave the property severely damaged. The usual wear and tear of the structure or appliances due to repeated usage or aging isn't usually very expensive to deal with. However, intentional damages are costly to repair, especially water damage, such as from indoor hydroponics. There are times where the landlord can ask the tenant to pay for damages. Nevertheless, this is a whole legal process that’s quite costly in terms and time. Also, you may lose.
c) Hassle of managing contractors & repairs
Regular maintenance and repair projects, from flooded basements to siding replacement, require someone to supervise the contractors. Even if you are in a position to supervise the project it is still tiresome and time-consuming. It can leave you with serious burnout, especially when you're also committed to a regular job. Thus, you need to find a balance to avoid burnout. If the rental properties aren't near your primary residence you require a property manager to oversee the projects. This means a percentage of your proceeds from the investment goes to the project manager.
d) Permits & inspections
Some replacements, repairs, and even home improvement projects require permits before commencement. Not only is the process of obtaining the permits lengthy but also frustrating. Some landlords give up at times due to the amount of time it takes to obtain the permits. Also, regular inspections are mandatory to ensure the building is safe for the tenants. The landlord pays for all inspections and permits.
e) Risk of declining property values/rents if neighborhood decays
Property values go up over time but depreciation is also a possibility, especially with neighborhood decays or economic instability. Thus, every real estate investor ought to keep this in mind before diving in. Also, sometimes the appreciation can be too minimal compared to the amount invested in home improvement. Some of the reasons why property values go down are out of your control. Know when to cut your losses and go before in this case.
Considerations new landlords should take into account
a) Hire a property manager
Hiring a property manager saves you the hassle of finding and screening tenants, marketing the property as well as handling tenant issues. Also, with multiple properties to manage plus other commitments things spiral quickly. Property managers are the solution for landlords who don't leave near their properties.
b) Don't under/overprice the rent
Researching the rent price ranges in the area gives you insight into fair rent prices that also give a return on investment. Fair rent prices not only minimize vacancies but also attract great tenants who won't be a pain to deal with. Also, appropriately priced properties rent out quickly saving you money and time that would otherwise be spent marketing the property.
c) Have professionally drawn rental agreement
Rental/lease agreements are essential since they are legally binding. They communicate the terms and conditions of the lease or rental and also protect you in legal situations. Oral agreements aren't always binding since there is no proof. However, the clauses and rules included in the rental agreement should adhere to state and federal laws. In cases where HOA regulations apply they should also be included in the rental agreement.
d) Make renters insurance mandatory
Lawsuits are the order of the day in this country and landlords aren’t spared. Thus, do everything within your power to minimize the possibility of being at the receiving end of one. Renters insurance caters to damaged or lost belongings of the tenant. This saves you from litigation. Given how low-cost renters insurance is, the serious tenants won’t mind. However, refer to the state’s law regarding such before adding the clause to the rental agreement. It is highly recommended to consult a legal professional well-versed with real estate law in this case.
e) Approach the investment like a business
Even if it isn’t your primary source of income, managing a rental property should still be treated like a business. Manage your finances well and maintain a professional relationship with the tenants. Don’t forget to screen all the tenants by carrying out a background and credit check. Also, understand the laws affecting the business and follow them to avoid litigation and to maintain a good reputation.
Being a landlord is more than owning a rental property. The first step in preparing to become one is understanding the federal, state, and local laws regarding the same. Also, familiarize yourself with the challenges and best ways to handle them. Addressing tenants' issues fast and having good problem-solving skills go a long way. Also, being a good landlord fosters loyalty hence minimizing vacancy problems. Above all, be ready to learn and evolve along the way. Winning in this venture isn't just about good business skills but also great interpersonal skills.
Are you interested in becoming a landlord? Why or why not?