Investing in rental property is a popular idea among people who are interested in passive income, which is defined as “a type of unearned income that is acquired automatically with minimal labor to earn or maintain.” Generating passive income can be especially beneficial for people planning to retire, for those who are pursuing a higher degree or raising a family, and anyone else who cannot currently work a salaried job. But when it comes to owning rental property, there is often more work involved than one might initially imagine, making the “passive income” not so passive after all.
Further, owning a rental property comes with a lot of up-front and continued costs. Juggling the various responsibilities involved with owning a rental property can also require lots of time and attention. Successfully using rental property to generate income thus requires both time and money.
If you are interested in using rental property, be it commercial or residential, to make money, you should start by asking yourself whether or not you are a good candidate for such a project. Below, we have identified the 4 most critical aspects of owning and managing rental property. If you don’t feel confident about your ability to take these on, you may want to explore other financial investment options.
As previously mentioned, investing in rental property requires significant up-front costs. Obviously, you have to own the property before you can rent it out. Most people can’t afford to buy a property outright, and so end up taking out loans that may or may not have high interest rates.If you aren’t in the position to take on this financial burden, a rental property investment may not be the best idea for you. Additionally, many properties will need a certain amount of updating and fixing before it is ready to rent out, and these expenses can quickly pile up.
Be sure to consider:
- Closing costs
- Immediate repairs
- Homeowner’s insurance
- HOA dues
The cost of owning and managing a rental property does not stop once you get a tenant or company to rent your space. As the property owner, it is your responsibility to ensure that the property remains safe and inhabitable and always complies with the zoning and housing laws in your region.
Depending on the specifications of the lease agreement between yourself and your tenant, you may be responsible for paying utility, waste management, and electric bills. You may also have to regularly treat your properties for pests. If your property has a lawn or land outside of the building itself, you may also be responsible for maintaining the grounds. If the HVAC unit in the building were to break, you would be on the hook to repair or replace it. And of course, owning a property will mean that you will face additional taxes and insurance costs.
These are just some examples of the continued costs that come with owning rental property. Overall statistics show that owners of rental property should expect to pay about 50% of the monthly rent on repairs, maintenance, insurance, taxes, and miscellaneous expenses. Make sure you keep this in mind as you imagine your monthly budget.
Owning rental property is just as much about time as it is about money. If you are already overloaded with work, you may not have the time it really takes to manage your property or your renters. You need to be available to them in the event of certain emergencies, and you also need to be involved enough with the property and tenants to make sure nothing dangerous or illegal is taking place on your property. Managing a property comes with a lot of responsibilities. You have to be available to answer phone calls and emails, schedule maintenance, address tenant concerns, collect and process rent, and ensure that business security cameras are properly maintained when managing rental properties. You must also be prepared to take on legal matters and disputes, as you will be a party in legally-binding contracts.
If you personally do not have the time to manage your properties and the people renting them, you can always consider hiring a property management company to help you out. Many property management companies will take a percentage of the monthly rent from the property, often somewhere between 6% and 15%. They typically handle marketing the property and screening tenants, general maintenance and repairs, communicating with tenants, lease execution, evictions, move-out/move-in inspections as an example.
The last thing to think about when considering whether or not you are in a good position to own a rental property is called “return on investment,” or ROI. ROI is a metric used to assess how efficient an investment is at generating profit. The basic formula is as follows:
return on investment = (gain from investment − cost of investment) / cost of investment
Once you calculate this percentage, you can have some idea of how financially lucrative any given investment may be. Of course, if you are calculating this figure before actually buying a property, you will have to use informed estimates (based on market research) to predict the ROI. If you have certain budget or location restrictions, calculating possible ROI on properties you have in mind will help you decide whether or not purchasing rental property is the right move for you.