Residential real estate rents are on the rise, interest rates are low and the stock market is scary. So is now the time to buy that residential investment property?
Nationwide, landlords raised rents by an average of 0.8 percent to $1,083 a month in the most recent quarter, according to a report by Reis Inc., a real-estate research firm. Rents climbed 3.2 percent for all of 2013. Also, many financial institutions and other investors bought properties at the bottom of the economic recession and are now ready to unload. Urban areas in particular are beginning to see rental and real estate prices that are back to pre-recession levels.
This is the time that some individual investors see putting some of their money in one or more rental properties. They understand that the return on investment can often be better than the stock market or certificates of deposit at the local bank. Some of those would-be investors watch one or more of the myriad of cable television shows that make it seem that buying, rehabbing and selling real property is a relatively easy and exciting proposition. If that bug is nibbling at you, then you should be aware of some of the techniques to finding and managing just the right property.
Assuming that you have either the cash and/or cash and credit to buy a rental property or two, there is a process that you should be aware of and adhere to. It is based on interviews with residential real estate investors, review of current readings on the subject and the personal experience of the writer.
One of the first things you need to do is decide whether you are cut out to be a landlord/property manager. It is not always for the faint of heart. Sooner or later, there will be calls in the middle of the night, late payments, tenant complaints and a host of other issues that you have never thought of. On the other hand, if you like dealing with people, attention to detail, working with physical things and keeping good records, then being a property manager may be just the thing for you. If not, but you still want to invest in residential real estate you can do so by hiring out the property management function. It will decrease your return on investment, but it may well be worth it because you will not have to be involved with the aforementioned issues.
The next task is to find the property. Doing so means finding the right neighborhood. You want a neighborhood where property values and rents will rise in the future. One thing that can drive rental rates is the presence of institutions such as hospitals, colleges or major employers. People who work in such institutions often have a need for rental housing because they are going to be in the area only temporarily. This creates demand as well as turnover in the affected neighborhood. This can be a good thing because it affords the opportunity to adjust the rent to current market conditions. It also means more work for the hands-on investor because the property will need to be cleaned or refurbished after each tenant vacates the premises.
Neighborhoods have a life cycle. The stages of the cycle are growth, stability, decline and renewal. During the growth stage property values are rising, there is a high rate of home ownership and properties are well-maintained. It would be unusual to discover a suitable rental investment property in the growth stage of a residential neighborhood. The second stage is one of stability. Prices have leveled out and homeowner rates still remain high. The decline stage begins as homeowners attempt to sell their properties, but are unable to immediately do so. Those homeowners are probably moving up to better and newer neighborhoods. Market conditions have caused values in the neighborhood to begin declining and deferred maintenance is becoming evident. One of the things to look for is the condition of roofs. That is because replacing roofs is relatively expensive, and owners tend to spend money on items that will make the property more appealing to renters.
Thus, one of the first things you want to do is to find the right neighborhood and learn as much as possible about it, especially real estate sales prices of properties that sold and rental rates of properties that are on the market. And it is not just current rental rates, but those for at least the past 18 months. Finding that information will involve talking to real estate agents, scouring old newspaper advertisements and doing as much research as possible online. A trip to the local recorder’s office to see how much turnover has occurred in ownership may even be in order. Learning about the neighborhood should give you enough information to make a determination as to which stage of the life cycle the neighborhood is currently in.
Once you find the right neighborhood, it is time to narrow the search down to the ideal property or properties. That takes patience and the ability to act quickly because there are other investors who are doing the same thing in one form or another. In general, if your goal is increase in property value in the future then you should buy the worst house in the best neighborhood from a distressed seller. And you should never pay market value.
In part two of this column we will look at how to find the best house in which to invest in your chosen neighborhood.
Phil Hardwick is coordinator of capacity development at the John C. Stennis Institute of Government. Pease contact Hardwick at firstname.lastname@example.org.