Investment properties often play a significant role in building
wealth. Investing in real estate is typically seen as a low-risk opportunity,
with the potential to earn an income and capital growth. How can you
lose?
The 2008 global economic crisis demonstrated that real estate
investing is not always straightforward. It’s not an investment to make without
diligent research and good common sense.
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In this article, we’ll look at what to consider before taking the
plunge.
The Effect of Fluctuations in Interest Rates
Interest rate
fluctuations will affect you in two primary ways.
There’s a Ceiling on How Much You May Charge
If you’re financing your purchase with a mortgage, it’s essential
to build in an affordability buffer. By this, we mean assuming that the
mortgage rate will increase. It’s better to buy a more affordable property with
repayments that are less than you can afford.
You may pay any excess into the mortgage to save on interest and
build equity. More importantly, you’ll be ready if the rates increase
later.
This becomes particularly important when you rely on rental income
to repay the loan. You can’t merely increase the rental to accommodate
increases. Even if you could, there’s only so much the market will bear. Your
rental must remain competitively priced.
High-Interest Rates Create an Increase in Demand
A hike in interest rates makes it harder to afford the repayments
on a mortgage, which works in your favor. When people can’t get a loan from the
bank, they’re forced to rent. High rates lead to high demand, and tenants less
price-sensitive about their rentals.
Location
In real estate, location is one of the most important factors. For
example, homes in D.C. cost$640,783 on average, and yield an income of $2,358. You may
receive about $200 a month more in California and save over $90,000 on the
property price.
Seasoned investors consider buying in areas outside of their
immediate area. It requires a little more effort, and you won’t be able to
oversee your property directly, but this may help you maximize your
return.
If you’d prefer to invest closer to home, that’s fine too. You can
make money either way. The key in both instances is conducting your research
carefully. Consider:
- Urban Renewal: Drive around the area looking for signs that things are looking up for the place. Are some people making an effort to spruce up their homes? Identifying an area about to undergo urban renewal allows you to maximize capital growth and rental later on.
- Amenities in the Area: Homes near schools, shopping centers, and transport routes are usually popular with tenants looking for convenience.
- Supply in the Area: Buying in a zone that’s already undergoing significant development may disappoint you. Prices may already be inflated, limiting capital growth. There may also be an oversupply of rental properties in the area.
- Desirability: High crime rates and close proximity to an industrial area are two factors that may discourage tenants. Research the area thoroughly and drive through it. What is your immediate impression?
Does it look well-maintained? Are there many vacant properties or “For
Sale” signs?
- Rezoning: It’s wise to check if anyone’s applied for the rezoning of the area. If you purchase a home in an area that’s about to be rezoned for business use, it might be detrimental to your rental prospects.
Type of Property
The type of property you buy will depend on your budget and the needs
of your target market. If you plan to rent to college students, for example, it
may be wise to stick to a small, affordable apartment.
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On the other hand, if you want to attract established families,
you’ll need more bedrooms and bathrooms.
Find Out What Costs You’ll Pay
Costs Related to the
Purchase
Banks tend to be
stricter when financing a second home. They may require a higher down payment
and will usually disregard potential earnings from the property. If they
consider this purchase a higher risk, they’ll charge a far higher interest
rate.
It’s worth obtaining
a preapproval to learn what rate they’ll charge you. If it’s not a favorable
one, it’s worth waiting for six months to give you time to improve your overall
credit rating.
Other fees may
include registration fees, legal fees, and several sundry administration costs.
In some instances, the bank may allow you to incorporate these fees into your
mortgage. Find out if you’d be allowed this benefit before applying.
Costs After the Purchase
You’ll also have to account for the following costs:
- Utilities: It’s best to have your tenants register the utilities in their names. That way, unpaid bills have no impact on your credit rating.
- Property taxes: These may add up quickly. Find out beforehand what property taxes you’ll be liable for.
- Maintenance: As a landlord, your maintenance priorities are different. You’ll have to perform routine maintenance to keep your property in top-notch condition.
- Damage repair: Tenants contribute to the wear and tear of your property. Unless they’ve caused significant damage, you can’t hold them responsible. Replacing grubby carpets, cracked tiles, or worn window frames is for your account.
- Homeowners Association dues and levies: These are your responsibility, not the tenants’. You may include them in the rental amount, but ultimately if they’re not paid, you’re liable.
- Management company: If you choose to hire an agent to handle the day-to-day landlord duties, they’ll take a cut of the rental.
What Happens If You Have No Tenant?
Many people rush into purchasing an investment property with the
hope of renting it out quickly. There are, however, no guarantees. Even if you
find a tenant soon, they may default on their rental.
The point is that you may have to bear all the costs yourself,
possibly for months or years. Are you in a position to do so?
The Benefits of Property Investments
- You’re able to build wealth without a substantial initial investment. You’ll only need the money for the down payment and initial fees upfront. Once you have a paying tenant,
they’ll pay the remaining mortgage installments.
- Banks won’t consider the potential rental income from clients. Once they see it going in every month, however, they’ll allow you to count it when applying for your next loan.
- Your property value tends to appreciate over time. Most investors hold onto their real estate for 10
years to see the full benefit of such appreciation. If you research the area properly beforehand, you stand to make a tidy profit.
The Downsides of Investment Properties
- The law offers some protection for those who don’t pay their rent. If you don’t follow the correct eviction procedure, they could sue you.
- Maintenance costs are bound to increase due to increased wear and tear. In bad weather, they’ll increase further.
- You must have funds available for when you’re unable to rent the premises out.
Should You Hire a Property Management Company?
Hiring a property manager may be a smart move. They should assist
in:
- Vetting potential tenants
- Drawing up the rental
agreement
- Collecting the rent on your
behalf
- Paying dues and levies
- Conducting property
inspections to ensure the tenants adhere to the rules
- Assist with repairs and
maintenance
- Chasing up late payments
They provide this service for a percentage of the rental that they
collect. It’s a good option for those who neither have the time for
administration nor the will for debt collection.
Final Notes
Investing in property is a time-honored step in building
generational wealth. It’s not entirely risk-free, but can be highly successful
if you’re willing to put in some effort. Choose the location for your purchase
carefully and be sure that you can afford the installments without a guaranteed
rental income.
Perform a thorough cost-benefit analysis and work from there to
achieve your goals. When you’ve got the hang of it, start the process all over
again. You’ll soon be able to build your real estate empire.
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