In a nutshell, a rental property is any real estate asset that belongs to a person or organization and is let to tenants for a fee. Both commercial and residential real estate, such as office buildings, retail stores, and industrial spaces, can be rented out. Residential assets include houses, apartments, and condominiums. The ultimate goal of rental properties is to bring in money for the owner via tenant rent payments.

In turn, property owners are in charge of upkeep, repairs, and adherence to rental regulations. To put it briefly, rental properties are a popular type of investment since they provide chances for both steady rental income generation and possible value growth.

Real estate of all kinds is included in examples of rental properties. For instance, townhouses, apartments, single-family homes, and vacation rentals can all be classified as residential rental properties. In contrast, office buildings, retail establishments, warehouses, and industrial facilities make up commercial rental properties. This also includes multi-family dwellings like apartment buildings and duplexes. Specialized real estate can be rented out, such as holiday homes, senior living complexes, and dorms.

Property owners benefit from a consistent stream of rental income from their rental properties, which improves cash flow and stability. Furthermore, because of property appreciation, rental properties provide investors with the chance to make sizable financial gains over time. Another excellent strategy to spread risk throughout an investment portfolio and protect against inflation is to own a variety of rental properties. Put simply, passive income and appreciation from well-managed properties can create long-term wealth.

Pros and Cons of Rental Property

It may seem appealing to purchase a house or apartment to resell for a profit. However, there are ups and downs when purchasing a rental property for income and long-term capital growth. For example, location, supply and demand, and the state of the economy can all affect the housing market.

Due to the actual risks involved, the financial return on the rental property must exceed the return on conservative investments like bonds and dividend-paying blue-chip companies for it to be considered truly lucrative. Furthermore, not all people are capable of managing real estate and tenants.

Pros of Rental Properties

There are several benefits to owning a rental property. They include:

• 1. Strong Returns

One is that Rental Property can produce strong cash flow compared to other investments like bonds, annuities, dividend stocks or even real estate derivatives like REITS.  The right property, at the right deal, can produce some amazing returns.  

• 2. Low Market Correlation

Second, is that there tends to be a Low correlation to the stock market and even to rental derivatives like REITS.  Owning the property yourself lowers the correlation to the stock market, which means you have better diversification.

• 3. Rentals are Passive Income

The third advantage is that rental income is a Tax-advantaged passive income. It’s not subject to self employment taxes, those dreaded social security and Medicare taxes.

• 4. Rentals are Tax-Advantaged with Depreciation

Fourth is that there are Additional tax benefits with depreciation and cost segregation, and now bonus depreciation.

• 5. Buy with Leverage (borrow with a mortgage)

Fifth is that rental real estate investments have the ability to use leverage to acquire them.  You don’t have that ability with most investments, particularly if you a regular jack or Jill without a ton of pre-existing wealth.

• 6. Start with Owner Occupying & Use Living Expenses To Invest

Sixth is that owner-occupants, people who live on one side of a rental,  not only get you use leverage to borrow to get the investment vehicle, but they also get to  Leverage their Living Expenses to help build up their portfolio.

• 7. Land and Property are Finite – They Tend to Appreciate

seventh is that land and Property is finite, so there’s a tendency to appreciate in value.  Nobody is printing more land, and property just has a tendency to increase in value, partially because it’s difficult to create.

• 8. It is a Perfect Work-From-Home Business

Eighth is that It can be a perfect business activity for yourself and your family members, allowing you to have all sorts of tax deductions and write offs as you pursue profits!  

Read Also: Generating Passive Income With E-books and Online Courses

You can leverage bonus depreciation for company trucks, and leverage all the other tax benefits associated with running your own home business…. In fact, you can even hire your kids in the business to help with the property, and then pay them up to the standard deduction and it would be tax-free to them!

• 9. It’s Great for Estate Planning

And the ninth and last benefit is that it’s a powerful estate planning tool since there’s a step up in basis for inherited property even after it’s been fully depreciated.  In other words, it’s a VERY tax-advantaged wealth transfer tool for multigenerational estate planning.

Cons of Rental Properties

There are also drawbacks to owning a rental property. They include:

• 1. Lack of Liquidity

Real estate is not a liquid asset. Even in the hottest market, it can easily take several months to complete a sale. And if your timing is driven by an emergency or other unexpected event, your need to sell fast might not garner the best price.

• 2. Rising Taxes and Insurance Premiums

The interest and principal of your mortgage may be fixed, but there is no guarantee that taxes will not rise faster than you can increase rents. Insurance premiums may also spike, as they have in the wake of natural disasters. 

• 3. Difficult Tenants

Despite your due diligence in vetting prospective renters, you could wind up with tenants who are not ideal. For example, they could be needy or demanding, pay late, forget to turn off the water, and so on. Or they could be destructive, in which case the depreciation allowance in the tax code may be sorely inadequate. You can, however, always add a rider to the standard lease form that spells out rules about occupancy, pets, smoking, tenant insurance, and the like. A security deposit can also be helpful here.

• 4. Neighborhood Decline

In an ideal scenario, your investment property will flourish amid other well-maintained dwellings and local amenities will improve. As a result, your cash flow will increase steadily and your costs remain stable. However, neighborhoods can change and your investment could depreciate over time. You should pay attention to the local politics where you invest, just as you would where you live. With some due diligence, you can minimize this exposure. 

• 5. Unfavorable Changes to Tax Code

The tax code is not immune to change. It could change in ways that would either reduce or eliminate some or all of the tax benefits for homeownership and flow-through businesses.

• 6. Landlord Role

Being a landlord is not for everyone. You may feel shy about increasing rents or be protective of the way others treat your property, which can lead to conflicts. You may even become friends with your tenants or they already may be family or friends. If you cannot be firm about rent increases or property care, for example, you could wind up collecting rent that is well below market price, or with a property that is undervalued.

• 7. Upkeep

In maintaining a property, minor and major repairs arise. Some property owners can save money by doing the work themselves. However, most lack the time, tools, or skills for home repair. Expect to shell out periodic contractor fees.

How do you Flip Real Estate?

Regaining popularity is house flipping. In fact, almost 9% of all house transactions in the first quarter of 2023 were flipped, according to property research provider ATTOM Data Solutions. This is the second-highest percentage since at least 2000.

After their first purchase, the average flipper made a profit of almost $56,000, or 22.5%.

But that’s only the median. When flipping a house, your exact earnings will vary depending on the property you select, the tasks and repairs you take on, and other elements. Do you want to guarantee the success of your house flip? Here’s how the professionals advise approaching it.

1. Determine how you’ll pay for it.

Unless you have enough cash to pay for a home outright, the first step in home flipping is to determine how you’ll pay for the property. If you already own a home or other investment property, a home equity loan could be an option. These let you borrow from your property’s equity, giving you a lump sum payment in return.

Many flippers also use hard money loans, which are short-term loans designed for investment properties.

“If you don’t personally have hundreds of thousands of dollars lying around, you can consider using hard money lenders,” says Danny Johnson, a longtime home flipper and owner of Danny Buys Houses in San Antonio. “Hard money lenders lend on distressed properties.”

In the event you do need a loan, find a lender early, and get preapproved first. This will give you an idea of what you can spend, as well as what interest rate you’ll pay. You should also find out what documentation you need to gather and how long the process might take.

2. Build your team.

Home flipping is usually a team effort. You’ll need a contractor, a lender, an inspector and, often, a real estate agent, too.

“One of the first things you should do if you’re preparing to flip a house is get your team in order,” says Zach Steinberg, general manager at real estate investment platform New Western in Dallas. “Find experienced contractors that are familiar with working with investors and have solid references. If you’re using financing to purchase the property, make sure you shop around and get lenders that can close quickly.”

You also may need specialized laborers, like plumbers or electricians. Usually, though, if you choose an experienced general contractor, they’ll have connections and refer you to these specialists.

3. Find a property.

Finding the home you’ll flip is the next – and arguably most important – step in the process. Not only do you need to find a home that’s affordable and offers you plenty of room for profits, but you’ll want to focus on the location and eventual marketability of the property, too.

“In order to choose the right property you have to be open-minded,” Steinberg says. “But the age-old real estate mantra is still very much alive – location, location, location matters.”

Johnson suggests buying in areas where properties sell within 60 days or less. This will ensure you’re not stuck with the property too long after rehabbing it.

You should also do your due diligence on the community. Is there an HOA or zoning rule that could impact your renovation? If there is, you’ll want to get the full details on those rules before buying there. As Matthew Roberts, a real estate attorney at Ligris + Associates in Boston, puts it, these “can drastically limit an owner’s right to perform certain upgrades.”

Once you know the area you want to buy in, you can use a real estate agent to help you find potential properties. Some flippers also target off-market properties and reach out to existing homeowners who may be willing to sell in their target area.

“To get the best deal, it’s best to look off-market,” says Mike Opyd, president of RE/MAX Next in Chicago. “Sending out flyers or letters to an area to entice people to sell is an idea, along with door knocking. The idea is to get a seller to sell at a discounted amount. A lot of times this means having to cast a large net to try and find a few diamonds in the rough.”

4. Run the numbers.

Once you find a potential property you might like to flip, it’s time to crunch the numbers. First, try to get an idea of what projects you’d like to take on, any repairs it need, and how much those would cost. To do this, bring your general contractor along when touring the home. They can help you estimate many of these costs based on a walk-through of the property.

“You may want to have a contractor do an initial inspection of the house with you to put together a rehab estimate,” Steinberg says. “Since you’re trying to make a profit on the house, the one thing you can control is the rehab, specifically which materials you use for the rehab. So having an expert contractor who has experience working with investors can help save you money in the long run.”

Ideally, Johnson says, you want to purchase and repair a home for 70% to 75% of its after-repair value – or what you expect the home to be worth once you’ve rehabbed it. This will ensure you can make a solid profit once it comes time to sell. If you’re not sure the home will be worth on the back end, your real estate agent can help, or you can use comparable sales from other homes in the area.

If the numbers work, then make an offer on the property, and be sure to include an inspection contingency, which gives you the right to have the home inspected before closing the deal. This will help you spot any hidden repairs or issues that might be below the surface.

“The best thing to do is to make sure the numbers make sense and that there is room in the budget for any unknowns that come up,” Opyd says.

5. Rehab the property.

Repairing and renovating the home is next. Work with your contractor and put together a comprehensive list of what needs to be done, as well as estimated costs and timelines for each. Make sure to include the time it will take to get any necessary permits or approvals, too.

From there, you and your contractor can purchase the appropriate materials and get to work. Just remember to check in often to ensure the project is staying on track.

“This is not a set-it-and-forget type of venture,” Opyd says. “A flipper needs to be very involved and on-site constantly to make sure the project is moving along how it should and also at the budget that is set. Every dollar and day counts.”

Once you’ve finished the property, consider having the home reinspected to make sure everything is up to snuff. Then, if there are any remaining issues, you can fix them before putting the property on the market.

6. Market and sell it.

Finally, it’s time to list the home. Your agent can assist with this step, putting it on the local multiple listing service and helping you set an appropriate sale price. They can also field offers and negotiate on your behalf.

Keep in mind, though, not every flip is successful. So make sure you have a plan B in mind in case you can’t sell the home for what you’d like. As Steinberg puts it, “If the flip doesn’t work out – do you have another exit strategy? Do you know if the property can be rented? It’s better to be prepared in case the unexpected happens.”

Takeaways

Here are six types of rental properties that can help you earn passive income and even begin building generational wealth.

• 1. Traditional investment properties
• 2. The accidental rental
• 3. House hacking
• 4. Built-for-rent
• 5. Mixed-use properties
• 6. Storage units

Technology has simplified property management, making it a more appealing and successful venture, regardless of the type of property you choose to rent out. Numerous repetitive, time-consuming procedures, including listing, tenant screening, rent collecting, and maintenance requests, are automated by property management tools and software. This implies that you can optimize your passive income while devoting less time to administrative tasks and more attention to life’s meaningful pursuits.