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Investing in Rental Properties
Investing in rental properties include buying rental homes - collecting monthly rents and waiting for appreciation, buying commercial properties - leasing it to shops, restaurants etc, buying apartment complex - leasing to tenants and collect monthly rental bills. The choice depends on the individuals and their level of risk and comfort.
To see whether a rental property will generate positive cash flow, you need to know how to calculate the rental yield of the property.
Benefits of Investing in Rental Property
Cash Flow
It creates a positive cash flow as the tenant's payment on rental exceeds the monthly mortgage payment and expenses on the property.
Appreciation
The property appreciates overtime or by the improvements made by the owner, the value of the property increases. The equity on the property increases overtime due to mortgage pay down.
Leverage
One of the important factor to consider investing in rental property is leverage. You can buy with only a percentage of the total money required (usually rental properties need 25% down payment) but you will get the appreciation and cash flow for the 100% of the value of the property. The mortgage on the rental property remains constant for 30 years, but the value of the property and rent increase overtime. Proper planning and budgeting is required before getting into the rental property investing and should be taken with a long term perspective.
Control and Financial Freedom
You have the total control over the investment where you can decide where to buy, what renovations can be done, how much to charge as a rent, You have very little control over stock market and other investments. Though there are risks involved in rental investing, the volatility is much less compared to other investments. Once the mortgage is paid off, you can live off the rent from the tenants which helps achieving your financial freedom earlier. You can also use the extra money from the tenants to pay down the mortgage early.
Passive Income
Investing in rental property creates a positive cash flow through the rental payments collected from the tenants. Though being is a landlord requires consistent effort as the property has to be maintained for the tenants, you can involve the Property Management Company to delegate your responsibilities. It reduces a whole lot of burden on your shoulders, thus making it a passive income with minimal effort.
Capital Gains
When you sell a property, the profit is not taxed like the ordinary income. Tax rate for Capital Gains are usually around 15%, while the average income tax is around 30%. 1031 exchange is another way to defer capital gain taxes and depreciation recapture taxes.
Tax breaks
There are numerous tax benefits in investing in rental properties. You can write off Tax deductions on
Mortgage interest
Maintenance and repairs
Property Tax
Legal and Professional fees
Homeowner and Landlord Liability Insurance
Depreciation
Travel expenses
Home Office
Depreciation
IRS allows you to depreciate the value of the property over certain years even though your property is appreciating. The cost of the building is depreciated over 27.5 years if its a residential property and over 39 years if its a commercial property. This is the most overlooked and least understood benefit of rental investment. No other investment vehicle provides this benefit. You invest only 25% of the property, but you can write off 100% value of the property. You mostly likely will not be paying any income tax on the rental investment for a very long time because of this.
Inflation and Diversification
Investing in rental properties has a hedge against inflation compared to any other investments. Buying a rental property at a low interest rate also helps. Investing in rental also helps diversify your investment portfolio instead of putting all the eggs in a single basket. Stocks and long term bonds are very volatile to market fluctuations, which we have very little control over.
Investing in rental properties are not definitely a walk in the park. It requires a lot of knowledge, commitment, research, analysis of the properties, understanding market conditions, rental demands etc. But if you are eager to gain knowledge and invest in rentals, it can provide you numerous benefits and gains. In the long term it gives you financial freedom and time, which money can't buy.
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