Are you trying to decide if investing in a rental property makes sense? Do you want a magic number that says ‘yes, this makes sense’?
Unfortunately, there is no such number. How much you should make depends on your expenses, goals, and the area’s real estate market, as well as your investment goals. Is this your full-time income or is it just ‘extra’ income to add to your investment portfolio?
Don’t Focus On Appreciation
Here’s the problem. Many investors look only at the appreciation of the property. They want to make ‘x’ amount of dollars when they sell the property. That’s great for the short-term, but you can’t predict the final market value when you sell.
Instead, focus on cash flow or how much you’ll earn from the property right now. If you find tenants and rent it for the price you want, how much money will you earn? That’s the bread and butter and the reason you should invest. If you focus on future profits that may or may not exist instead, you could be in for a nasty surprise later.
Know The Average Market Rent
Before investing in a property, know the average market rent. How much can you charge and will you be able to keep vacancies down? Does it make sense to invest in the property, or will it be a wash? Investing without knowing how much you’ll earn is a big risk.
You may have a number in mind that you want to achieve – a certain amount of profit you are looking to earn each month. If not, see where you stand based on the home’s cost and what you can charge. Take into consideration all the expenses of owning an investment home. Does it still make sense, or will you lose money?
Focus on Value-Add Properties
Don’t focus on the ‘perfect’ properties in the ‘perfect area.’ Instead, set your sights on properties off the beaten path- the value-add properties. The properties with low occupancy rates and rental rates are best. You must do some work on these homes, possibly renovating or repairing them entirely, but the potential for a great return exists if you do it right.
What’s The Risk?
The property’s risk level affects how much profit you will make. Riskier properties – those that have higher vacancy rates or high turnover rates- should result in higher profits than those requiring less maintenance, risk, and worry.
How much this needs to be depends on your situation. Are you relying on the property for your main income or is this a passive income opportunity? If this is ‘just to see what happens,’ you have a lower threshold. If you will depend on the income, you require higher returns.
What Are You Replacing?
Every investment has an opportunity cost. What is your opportunity cost when investing in property? Are you giving up stock market investments, bond investments, or something else? What earnings would you have earned with these investments? Nothing is for sure, so an estimate is fine.
Now compare that to your potential earnings on a rental property. How do they compare? Are they close? They don’t have to be higher because each investment has risks. Let’s say the stock market provides an average 8% return right now. There’s no guarantee of a return three years from now or even three days from now. The same is true for a rental home.
Determine your odds for each investment. Which will provide a higher guarantee? Will you feel like you’re missing out if you invest in a home and not the stock market? Maybe you’ll regret not investing in a home and putting your money in the stock market instead.
The ‘right’ rate of return on a rental property is a personal decision. You may be okay with a 2% return or you may demand a 20% return. Figure out where you stand, what risks you can take, and evaluate the market to see if what you want is feasible. You can’t predict how any investment will do, whether real estate or not, but you can weigh your risks and evaluate the market by making educated predictions.
Use the New Silver Rental Calculator for all your number-crunching needs.