Back in the days, you could just buy single-family homes and rent it out to long-term tenants, minimizing turnover, transactions, decision making, renovations, etc. Even if you were a crappy landlord, this model can work out in the long run. Any mistakes you make will be offset by the increase in property value. Today, the average house in a metropolitan area can costs $1 million, necessitating an $ 8,000 monthly mortgage. Purchasing the house and renting it out for $ 5,000 per month would create a net monthly loss of $ 3,000. In most metro areas (where real estate returns are highest), this model is no longer viable.
Old Rule #1: Make money renting out your old house. A decade or two ago, with lower home prices and rock bottom mortage interest rates, anyone who owned a home could choose to rent out their old home when buying a new home. For the most part, assuming they stayed in the old home for more than 5 years, the rental rate would more or less cover the monthly mortgage. Today, with high interest rates and increasing home prices, buying a home and hoping to rent it out in a few years will not yield a profit. The math just does not work out in most cases.
Don’t get me wrong, there is still money to be made here. There is more money than ever to be made in being a landlord. None of them quite as easy as just renting out your old house. They all involve some active involvement. Instead of renting out your old house, you could purchase a fixer-upper at a low price in a decent neighborhood. If you get it fixed up doing smart renovation, you will most likely be able to make a profit renting the property. At the same time, you will ride the real estate market’s double digit growth.
Old Rule #2: Buy a multi-family property and have it pay for your mortgage. When I purchased my first multi-family apartment I asked my contractor what he thought about the investment and he said: “What’s there not to like, you have people paying for your mortgage!”. Sadly, for the same reasons as Old Rule #1, this is no longer true.
Again, there is still money to be made — and more than even, especially for multi-family investments. There are plenty of multi-family properties that are not living up to their potential. You just need to understand where a particular property stands in the market and your strategy for profit. With multi-families, becoming an owner occupants can turn your place of residence into a money making machine.
Old Rule #3: Hands-off property management. Actually, I’m not sure hands-off property management has ever worked that well. But it definitely does not work in today’s market. Professional property management have become much more expensive in the last decade. All they do to fix problems is hire contractors. However, labor costs especially in the construction industry have skyrocketed, making repairs and updates expensive. The landlord gets hit with two increased cost burdens, the contractor and the property manager. But the real cost of hands-off property management is that they choke a landlord’s profitability and forces him to forgo critical long-run updates that would appreciate the value of his property. This in turn results in lower rents which further depreciates the value of the property. In fact, purchasing a multi-family that is currently being run by a property management company is often a recipe for success for a competent hands-on landlord.
Old Rule #4: Full Remodels For Profit. It used to be that you could hire a general contractor and have them do a “full xyz remodel”. They give you a quote, you sign off and they handle everything. In today’s market conditions, hiring a general contractor to do an entire kitchen or bathroom will be too costly to recoup in a rental. By the time you recoup the cost of the renovation, it will most likely be time for another update. This throws the landlord into a sisyphean cycle of constantly recouping expenditures (a.k.a losing money).
The new rule is never, ever, do a full remodel with a general contractor. Instead, a landlord must learn to (1) do smart remodels and (2) learning to be a general. Smart remodels means strategically deciding to update and what not to. And choosing the highest ROI methods and materials for the update. By learning to take the place of a general, the landlord can cut costs significantly and also reduce time to renovation.
Old Rule #5: Real Estate Investment Is A Passive Endeavor
Due to shifting economic factors, the traditional passive income-generating concept of landlording is becoming obsolete. The meteoric rise in property values has turned cap rates upside down, making it no longer possible to turn a profit from purchasing a house and renting it out. In most metropolitan areas, hiring contractors and handymen has become notoriously difficult and expensive. To put it simply, managing your rental property in the old-fashioned “passive” way of thinking is a sure way to lose money in both the short and long run.
Landlords who are willing to actively participate in the business of landlording will reap higher-than-expected rewards than ever before. What I mean by actively participating is the good old, roll up your sleeves and git’em mindset. As my mortgage broker friend once said to me, “America is built on sweat equity, that’s how my father managed his properties”.