If you are reading this blog post, there is a very good chance you are a rental property owner, or, that you would like to be at some point. But as you know (or will soon find out), owning rental properties is not cheap, fun, or easy.
Most of us get into rental real estate to generate more passive income. To elevate our lifestyle while building our overall wealth. But in a lot of cases some real world stumbling blocks come along to ruin your vision of property ownership and drive away a lot of would-be investors.
Buying in a hot area can be exciting, but also dangerous. Let’s take Los Angeles for example. Purchasing a median home in LA county today costs you $610,000.00. Now if this looks like a ton of money, you would be correct, but let’s not fret on the purchase price quite yet. In rental real estate the only thing that matters is how you can transform a liability into an asset. So the question is, can we take this purchase and make money with it?
Let’s assume you put down 20% on a single family (anything less is flirting with defaulting in a hurry) with another $14k in closing at a rate of 4%. You would need $136,000.00 in cash, and be looking to pay $2981.70 per month in mortgage costs, plus any other insurance, utilities or etc you might need. All-in, we are paying $3200 per month to carry our new property in Los Angeles.
As of today the median rental price in the San Fernando Valley is $3577 (source: www.swanprop.com). If you’ve done your homework and bought somewhere right in the middle this gives us a profit margin of $377….. Ok, this is not going to be a get-rich-quick scheme apparently.
Now let’s get into maintenance, legal and other issues… Ok, mercy. Chances are if you bought a house in Los Angeles with any kind of financing, you are already underwater.
So how do all of these property managers turn a profit? You have a few choices here. Buy with cash on a non-traditional sale, buy multi-unit, or have owned the house so long your home costs are WAY under market.
If you live in a city like LA or similar, your goals as a real estate investor get squashed before they’ve even begun. But there is hope! There are plenty of great markets all over this country with much better purchase price to rental ratios. Let’s zoom all the way across the country to the little known Hamden County MA.
Hamden County is home to the city of Springfield MA and the Basketball Hall of Fame. It’s got it quirks, and it’s charms, but most importantly it has opportunity, unlike some of the hotter real estate markets. Median home prices in this market are $186,000.00.
Let’s assume the same factors as our last example in LA, you would need roughly $42,000 in cash. You would end up paying a monthly cost of $964.56 plus incidentals. Let’s say, for math we carry the property at $1,100.
Rental prices are right in the middle at $1600 per month and give us a profit margin of $500. Still not getting rich quick.
But wait, we have another wrinkle to this math that might make your eyebrow raise. While it’s true $500 doesn’t seem much sweeter than $377 you have to consider the ROI (return of investment) compared to the amount spent. If you spent $610,000 on an LA home and you profited $377 your annual ROI would be roughly .74%. But, if we take the MA example you would have an annual ROI of 3.22%. Now we are getting somewhere. If you took the same $610,000 invested in Los Angeles and invested it in a more rental skewed market you would find your annual profit to go from $4514 to $19,642. As well as your profit, you would also see equity wealth accrue.
Ok, so almost $20k of passive income is starting to look pretty sweet! Now the burning question… “How can I, an LA native, buy and maintain property outside of LA?”. This is the major turn off to investing out of your home area. And indeed, can be fraught with danger and risk. But a little homework and investigation can go a long way to mitigating those risks. Finding financing, if you are qualified, is not a particular challenge, but managing your new asset effectively is quite an ordeal. From taking rent to servicing your property you might find all of that passive income isn’t as passive as you had hoped. But, we are living in the year 2000 and something and there is always a way.
Using a company like Swan (www.swanprop.com) makes it easy to manage your rental from a distance. You can set up the unit to effectively run automatically. Swan lets you set up your property to function 100% online. That means taking rent is easy, online and automatic. The system even does the dirty work for you and enforces all late terms and other fee related items set out in your lease. When it comes to turning over your rental and taking new applications, leases and more, Swan does the whole deal. It is designed to manage rentals from afar.
When it comes to rentals you need to keep a keen eye on your profit to cost ROI. Even if profit amount isn’t that great does not mean it wasn’t a great investment. Do the math. If it doesn’t make sense on paper, you will likely find yourself in a world of hurt down the line.