Real estate investing is a bit tricky at times so it can be difficult to determine whether a rental property would make a good investment. This informative video will show you several tricks to make it much easier to figure out whether a rental will generate cash flow and be profitable.
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How To Know If A Rental Property Is A Good Investment
Joe: Hey, it’s Joe Crump. Another question. “Hey, Joe, how do I know if a rental property is a good investment?” Well, I’m going to take this particular question in a very specific direction because there’s a lot of ways I could answer this. But, let’s take it in the direction of turnkey packages.
Joe: Let’s say you’re buying a turnkey property, because I’ve sold a lot of turnkey properties to people, usually in values under $100,000, for cash, to an investor who buys rental property. What is an acceptable return on investment?
Joe: You know, is 7% okay? Because I can do 7% almost anywhere. I could buy almost any property under $250,000 and get about a 7% return on my investment with rent that’s coming in. But I’d like to get more than that. I’d like to get 10%, 11%, 12%, 15%, 20%. If I’m selling a property as a turnkey package, they typically have a return on them after taxes and insurance and property management costs, not including vacancy, of 10%, 12%, 14%, depending on the property, depending on where they’re at.
Joe: It also depends on the rent to price ratio. So, the lower the price property with the higher rent, that’s good. So, if I sell a property for $60,000 or $70,000 that has $1,000 a month of income, that’s better than buying a property for $120,000 that has $1,000 a month income. So, it just has a better return on the investment, a smaller investment to make and not a bad deal.
Joe: Now, when I sell properties that are turnkey packages, I typically will sell them for their full market value. But I will sell them in good condition, because we fix them up and we’ll put a tenant in them. We’ll pick a good tenant. We’ll have a professional property manager that takes care of that property. And all you have to do is come in with the cash and then you’ll be able to get that 10%, 12%, 14% return on your cash assuming that we don’t have the vacancies.
Joe: And then, of course, you’ll also get, the value will go up over time. And you could sell that property on a lease option if you wanted to. You’ll also get the depreciation on the property, on the improvement of the property. You can depreciate the improvement of a property over 27.5 years which is 3.64% of the improved value. So, if you’ve got a $150,000 property and $100,000 is improvement, $50,000 is the lot, you can depreciate the $100,000 by 3.64% every year, so that’s $3,600 that you can deduct from your taxable income.
Joe: So, if you’re in a 30% tax bracket that’s about $1,200 a year in savings on your taxes. So, that’s the depreciation on the property. So, you’ve got the depreciation, you get the appreciation, let’s say it goes up 3% a year. It’s $150,000 property, that means it goes up $4,500 in a year, so you get that appreciation. You get the buy down on the note, if there is a note on it, so every month the principal is paid you get that buy down.
Joe: If you don’t have a note on it and you paid cash for it which is typically what I’ll do, because I only sell properties for cash, because they’re all cheaper, under $75,000. If you’ve paid cash for it you won’t have that. But, if you paid more then you’ll get the buy down on the note every month. You’ll also get the cash flow that comes in on that property every month. So, if it rents for $1,200 a month, you have to pay taxes and insurance, so maybe you get $1,000 net. Maybe $900 net after you pay for property management, and you have that income on that property.
Joe: So, you multiply that by 12 months and so now you’re at $10,000 with that. So, in all, on a property something like that, you’re ending up with $14,000, $15,000, $16,000 of return plus appreciation, plus all those other things on $150,000. That’s a 10% return on your money. So, not a bad return on that high price of a property. On cheaper properties you’re going to have a higher return than on the more expensive properties. You might be able to get that up to 15%, 20% investment return if you include all the other pieces of the investment pie that you get on a real estate investment, that you don’t get if you just had it in stocks.
Joe: In stocks it’s just one number. You don’t have to worry about it. You don’t have to worry about all this other stuff but you also don’t get the benefit of depreciation. You don’t get the benefit of appreciation. You only get the cash flow and the income on that property based on what that stock happens to perform.
Joe: Now, there’s lots of different ways to buy rental properties and different ways to look at it, but ultimately it comes down to what’s your cash flow, what’s your equity position and how do you get into those positions, and then how do you keep those and are you going to keep it long term? Do you keep it on a lease option, or do you keep it with a rental? And I suggest that lease options are good because they’ll bring you more money, they’ll give you extra down payment which is nice, which will give you, when it goes vacant, you’ll be able to sell it again, if you have to sell it and you want to keep it, that’s okay, too, to do a lease option, because you can do a 1031 exchange which is like kind exchange that defers the taxes.
Joe: So, as long as you buy another property of equal or greater value, you can actually exchange that and not pay any capital gains on the sale of your property. And it’s very likely that if you bought a property and got a good deal on it to start with, maybe bought some equity into it, it’s likely that you could buy another property with more equity in it as well. So, you not only get the profit that you’ve made selling that property at a premium on a lease option, but you’d also buy another property at a discount so you get all equity as well.
Joe: So, those are things to look at when you’re buying rental properties and deciding on how you’re going to either keep them or sell them on terms over time.
Joe: All right. Hope that helps. Don’t forget to subscribe. JoeCrumpBlog.com, PushButtonAutomarketer.com and ZeroDownInvesting.com. Check them all out. I’ve told you before what they’re for.
Joe: I’ve been doing a lot of these today. All right – thanks.