How to make Money in Rental Property

by Scott E McGlon

There are some important considerations before investing in a rental property. Let's take a look at these critical points and evaluate for clarity:

  LOCATION, LOCATION, LOCATION!  (get it?)

• The quality of the location of your rental property is critical.  To make this very simple, great neighborhoods = great tenants (most of the time!).  Also, you want to have the least amount of liability including, but not limited to, possible vandalism when empty, type of tenants you will attract, and landlord insurance.  Many stats clearly show that the better the neighborhood, the higher probability of getting quality renters that will come in, pay on time, and take care of the property.  

• Property taxes vary drastically from state-to-state.  As an investor planning to make money from rent, how much you will loose annually in property taxes is critical. High property taxes may not always be a bad thing if the neighborhood is an excellent place for long-term tenants that are willing to pay a premium.  Evaluate this based on previous years property tax, and research any planned or proposed increases in the near future.  Your real estate agent or city hall will be able to provide this critical information.

 
  SCHOOLS 

• Even if children are not in the mix, school districts are an important consideration in evaluating potential properties.  Most tenants will want to know (or already know) what kind of school district of the property's location.  Know this beforehand - it will ease their fears and can be a selling point for your property.  Check out the quality of school, their ranking, and cover all perks (bus stop near property, etc.)  A good school nearby WILL help you resell the property in the future.

  CRIME 

• Providing crime reports in and around your area and proactively providing the local police department location and phone number will ease the minds of potential tenants.  No one wants to live next door to criminal activity. Do not depend on the current property owner - go to the police or the public library for accurate crime statistics. Look at vandalism rates, serious crimes, petty crimes, registered offenders and recent activity (growth or slow down) over the last 24 months. If there is crime, determine if it is trending up (bad thing) or down (a good thing!).  

• Locations with growing employment opportunities tend to attract more anxious potential tenants. To find out how an area rates, check out the current stats on the U.S. Bureau of Labor Statistics online or at the library.  Visit the local Chamber of Commerce to see if there are any announcements for a new company moving to the area - if so, you will have potential tenants needing to rent! 

  AMENITIES

• Are there malls, grocery stores, parks, gyms, and entertainment within walking or quick driving distance?  If so, make sure you include this in your listings. Any perk that you think could attract renters, cover it! Cities, and sometimes even particular areas of a city, have loads of promotional literature that will give you an idea of where the best blend of public amenities and private property can be found in and around where you plan to purchase rental property. 

  BUILDING PERMITS AND WHAT IS COMING

• Again, the Chamber or the municipal planning department will have information on all the new development that is coming or has been zoned in the area. Watch out for new developments that could hurt the price of surrounding properties by, for example, causing the loss of an activity-friendly green space. Additionally, condos and/or new housing that "comps" close to your property could lower your occupancy percentage.  

  COMPETITION IN THE AREA

• If there is an unusually high amount of "For Rent" signs in and around the property you would like to purchase, make sure you do proper comps and determine what challenges you will be facing.  Check with your competition and ask how long some of the available properties have been vacant.  Yes, some investors will tell you to jump in a lake while others will be very open.  This is critical since you do not want to start out sitting on an empty property right out of the gate.  Define whether you can cover for any seasonal fluctuations in vacancies due to job markets, extreme weather events, or other reasons. High vacancy rates will force you to offer lower rent and damage overall ROI. 

  RENT

• Rent is why you are in this business so pre-determine what you can charge and the rate of return over 12 months.  Be sure to subtract all taxes, insurance, and estimated repairs.  I cannot tell you how many horror stories I have heard from real estate investors that simply did not do their homework. If charging the average rent in the area is not going to be enough to cover your monthly expenses, DO NOT PURCHASE THE PROPERTY!   Living within your means is critical but investing within your means is just as important.  Do not count on 100% occupancy - count on the worst case scenario.  If your numbers still work, most likely you will have a successful venture.  Working with tight margins gives you no cushion for fluctuations.  If you can afford the area now, but major improvements are in store and property taxes are expected to increase, what could be affordable now may mean bankruptcy later. Do your homework and don't cut corners!

  NATURAL DISASTERS

• Landlord and liability insurance can be a critical expense for a real estate investor.  On average, one to three months rent is used to pay for insurance and taxes.  Do your homework and work the numbers.  Properties that are in natural disaster areas need to have very favorable rent and occupancy rates.  And realize your insurance can triple if your property is sitting on a beach or near a flood plane. 
  

  GREAT CONTRACTORS

• If you are new in the rental property game, securing a set of contractors to cover general repairs (roof, flooring, doors, etc.), painting, electrical, and plumbing.  Avoid hiring a GC (general contractor) since most sub-contract the work you will be hiring them to do which equates to paying a premium for the services.  You want a relationship with the workers that will actually be doing the job - for accountability (quality of work) and cost reasons alone.  You can either call and interview the contractors yourself (recommended) or call others who have rental property in the area.  Most other real estate investors will share their information.  Just know, having a personal contact when your property has a plumbing leak on a Sunday evening is invaluable.  

WHAT TO START WITH...
In our strong opinion, the best starter real estate investment is a residential, single-family home or condo.  Condos are low maintenance because the condo association is there to help with many of the external repairs, leaving you to worry about the interior.  On the flip side, condos can nickel-and-dime you to death with monthly association dues that are mandatory.    

Single-family homes do attract a favorable tenant.  Expect longer-term renters (up to 36 months!) in the form of families and couples. Families (more than one person) are generally better tenants than one person because of the double-income probability and the because of pooled resources and stability. As an investor to maximize your return, you want to find properties that attract this type of demographic. Make sure your renter application clearly asks for all sources of income from all parties that plan to live in your investment. 

SHORT and LONG-TERM REAL ESTATE RETURN ON INVESTMENT...
Once all of your choices are narrowed down, it is important to research the appreciation of other similar properties over the last two years, five years, and 10 years if applicable.  In most cases,  checking out both the lower end and higher end (real estate that you can't afford) of the market could help define what you are buying is in the most aggressive appreciation bracket. Also, define the variance between asking price and actual selling price of similar real estate investments in the area.  To expand your estimate toward appreciation potential, look at what easier cosmetic changes (landscape, exterior color, etc.) could do and the kind of tenants it could produce.  What you put into your investment might be a significant factor if you decide to sell within a few years vs. a longer-term investment. 

DEFINE AND MANAGE CASH FLOW and WORST CASE SCENARIOS...
Be truthful to yourself when breaking down the financials of your new real estate venture.  Projecting monthly cash flow is critical so ALWAYS look at the best case scenario but focus on the worst case as well!  Evaluating your projected rent minus your fixed expenses (mortgage payment to your bank, property taxes, escrow (if any), and insurance is just the first step. However, be aware the variable expenses usually hurt real estate investors the most.  Before closing, invest in a certified home inspection that you pay for!...do not use the sellers or their real estate agents inspection report!  Be present for the inspection and walk around with the home inspector so you can see and hear all of the potential issues with the property.  Electrical, plumbing, heating & air, roof, and foundation are all expensive to repair or replace.  Do not hire the cheapest home inspection - you want and need the best in your area with a great reputation for conducting a thorough inspection every time.  Once you get both fixed and variable expenses defined and your projections are still profitable, act quickly before someone else purchases this great property!

RESEARCH RESEARCH RESEARCH
There is a lot of to be made in real estate and the more thorough due-diligence you conduct, the stronger probability your real estate investment return will yield.  Keep your expectations realistic and make sure you rely solely on the numbers - not emotion or how much you like the property.  There have been many mistakes made in the investment real estate market - make sure that your own finances are strong enough to cover the worst case scenarios. Good luck! 

Scott E McGlon is the President of McGlon Properties, LLC and the author of many blog post on MP Blog.  He has been a serial entrepreneur, investor, and president of many successful start-ups since 1998.