It’s a good time to be an aspiring property baron.
Mortgage rates are still hovering near record lows. And, for most parts of the country, it’s cheaper to purchase than rent, which means you can buy low and rent high. (Curious to see if your region is a hot rental market? Check out our map of the the best and worst places to be a landlord.
The time is also ripe right now for would-be landlords because the recovery in the housing market is accelerating. Real estate research firm CoreLogic reports that nationwide home prices were up 10.5% year-over-year in March, according to the latest data available. “While some former bust markets are experiencing rapid new home sales demand, due to the decline in distressed supply, the rebound in other markets is due to economic improvements, such as employment growth,” notes CoreLogic senior economist Sam Khater.
A rental property has a ton of financial advantages. It can appreciate in value over time, and provide you with income once expenses are paid. Rental property ownership also offers many tax benefits, including the ability to sell the property and buy a similar one without paying capital gains tax on the transaction.
But there’s more to being a landlord than simply purchasing property. ”Finding the right tenant, coordinating lease documents, handling maintenance … all of these things take time, energy and money,” says Ellen Derrick, a CFP® with LearnVest Planning Services.
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She should know: Derrick and her husband, John, own three duplexes, and they’re about to buy a single-family house to rent. Her husband also co-owns a property management company. “A lot of my knowledge comes from watching him over the last 13 years,” she says.
Dabbling with the idea of picking up a rental property of your own? Here are five key things you need to know well before you hand over the keys to that new tenant.
Location, location, location may be the most common refrain you’ll hear while real estate shopping. But Pierre Calzadilla, manager of apartment industry relations at online real estate marketplace Trulia, has more specific advice: Purchase property near universities, vacation areas and large workplaces. Basically, popular locales where renters tend to live.
His other tip: Avoid pricier spots that will cut into your profits as a landlord. “You’re not going to find great deals in a place like San Francisco, where buyers are paying 20% above asking price,” says Calzadilla.
But if you do live in a high-cost region, you can still find neighborhoods or nearby cities that provide value to landlords, Calzadilla notes. For example, Oakland, which has a median home sales price of $557,000, offers relatively reasonable prices for rental properties close to San Francisco, which has a much higher median home sales price of $815,000.
Boost Your Reserves
Owning rental property is a cash-intensive business. Even with the best maintenance, unexpected repairs can occur that cost thousands of dollars.
Banks can’t be relied upon to bail you out if you do get into a cash crunch. Eric Brown, owner of Urbane Apartments in Detroit, recalls, in particular, when loans were hard to come by in the aftermath of the financial crisis. “You can bootstrap it for a while,” he says. “But it takes capital to run a real business.”
The solution: You need to create an emergency fund for your rental property. “I would have about 1% of the property’s value set aside for routine maintenance each year, and another $5,000 or so in reserve for major emergencies,” says Derrick.
So if your property is generating income, put a portion of that rent in the fund each month to bolster your savings in a painless way.
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Choose Your Tenants Carefully
“Renting to the wrong person is the biggest mistake new landlords make,” says Calzadilla. It’s that simple.
Bottom line: Do more than a basic background check. Not only should you contact a prospective tenant’s current landlord, but you should also reach out to that person’sprevious landlord. Why? Because the previous landlord has no incentive to lie, says Portman. “You are turning over something very valuable to someone who could completely wreck it,” she adds.
Don’t have time to play detective with applicants? Use a tenant screening company, such as LeaseRunner or TVS. Many vendors charge less than $40 per screen—and it’s money well spent. These companies can access databases to check a tenant’s credit history, criminal record and past evictions.
Know Local Fair Housing Laws
The rules that govern tenants’ rights and fair housing aren’t always straightforward. You could have the best of intentions and still violate the law, says Janet Portman, author of “Every Landlord’s Legal Guide.”
Something as innocent as not showing a family of four a one-bedroom rental because you think it’s too small for them could be construed as discriminatory. ”It’s up to the prospective tenants to determine what housing is most appropriate for them, not a landlord,” says Portman.
Under federal fair housing law, you can’t discriminate on the basis of race, religion, national origin, gender, age, familial status and physical or mental disability, including past drug and alcohol addiction. Many states and cities also prohibit discrimination based on marital status or sexual orientation.
You can, however, reject applicants for legitimate business reasons. Bad credit, income that you think is insufficient to pay the rent or a history of missed payments are reasonable grounds to reject an applicant.
And your application standards must be consistent for everyone. “One of the common areas where people get into trouble is renting their place to a friend or a friend of a friend who doesn’t meet the standards that the landlord has set for other applicants,” says Portman.
Additionally, more than a dozen major metropolitan markets have some form of rent control. If you plan to own rental properties in one of these cities, check with your local rent control board about rules that apply to screening tenants and setting fair rental prices. You can also join a local landlord’s association to get a feel for the rules and potential pitfalls in your area.
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Find Your Niche
As a new landlord, you can get lost in the crowd. Brown’s advice: “Create a brand and set yourself apart from your competitors.”
When Brown bought his first building in 2002, he had a very loose policy on dogs because he knew that most apartment building owners in the vicinity had breed restrictions and size limits. ”Really good residents tend to have really good pets and take care of them,” says Brown. “My company now owns the local market for pet owners in Detroit.”
The moral of this story? Happy tenants mean there’s less turnover, which keeps the costs of being a landlord low.
Timely repairs also go a long way. “Your tenants don’t care what else is going on in your life or whether you have a full-time day job,” says Derrick. “When something is broken, they want it fixed quickly. So if a toilet is stopped up on Christmas morning, you’re on call!”
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