In these markets, it is very popular to look for a more secure retirement investment than the stock market. You may have a nice 401(k) or 403(b) package at work, but where else should you invest for your retirement. Have you considered rental properties? Maybe it is time that you did. With historic low financing rates and the value of homes at a ten-year low, it seems like the perfect time to buy if you are stable enough to weather a difficult financial market.
The Basics
While there are a lot more details to consider when purchasing a home to rent, the basic idea behind making a profit with rental properties is that as long as you can rent the house for slightly more than the monthly payment (and the cost of maintenance), you are building up wealth in a home. Essentially, someone else is paying down your mortgage on your house. If you find a home in a great market and great mortgage rates, you should be able to earn money even before the mortgage is paid off. It is after the mortgage is paid off that you will make the most money from rental properties because your expenses will be very low.
Potential for Retirement Income
In fact, this is the approach that many small investors take to ensure a retirement income. By purchasing multiple properties over the course of one’s life, one can secure a reasonable amount of income that supplements any other form of retirement income that you may have (Social Security, 401(K), etc.). This may be hard to grasp without any hard figures. Let’s say that you purchase five homes and are able to pay off all of the mortgages before you retire by renting them out to individuals. For a conservative figure, let’s say that you were just breaking even while you were paying off the mortgage. Let’s also say that each rental property rents for $1,000 per month. As long as you have someone renting each of the houses during your retirement, you would be earning $5,000 per month or $60,000 per year. It is expected to have some maintenance costs, but most likely you would still be clearing $50K per year.
Another great feature of rental properties is that the price of rent increases with inflation. Each year or every other year, you can raise the price of rent by a small percentage. This may not sound like a lot, but over time this small increase can make quite the difference. In addition, you have 5 houses that you could sell if a financial crisis ever came up. In fact, if you later discover that you do not want to deal with the hassle of finding good renters or keeping up with maintenance, you still have options. You can hire a rental management company, which usually charges 6-10% of the rent or you can sell your properties and live off of the return on the money that you received from selling your rental properties.
This not only serves as a great supplemental retirement income, but for some it is the sole source of income. Many use real estate to retire early. As soon as you are able to generate enough income (rent – expenses) from rental properties to satisfy your expectations for a retirement income, why not retire early?
What are your plans with rental properties? Is there a particular approach that you take? If you are interested in learning more details about rental properties, why not check out my guest post, ‘Two Approaches to Real Estate Investing’ at Life and My Finances. You can also check out: Rental Properties: Where to Begin?
I’ve long been interested in getting into the rental business and at some point, I’d love to talk to you more about it (I even have a business plan put together).
However, I wanted to add to your great points above. I’ve noticed, when I read blog posts on rental property, that often people forget to include the tax advantages of rental ownership in the beginning years. Because of the way mortgage payments are structured and the way tax laws calculate depreciation, you can often take large loss deductions in the first years even though cash flow is positive. These deductions can really add up. It’s worth mentioning because there are few businesses like this; where you can claim losses even though you are making money. In my perspective it makes the investment even more attractive.
The tax advantages are also a big sell if you want to take on investors. You can use an LLC to spread the accounting loss around to the other investors.
That is a great point Shaun. Maybe I will write a post about the tax benefits of real estate investments sometime in the future. Although, it sounds like you would be just as qualified (if not more so) to write on that topic. 🙂 Thanks for the comment.
Maybe we should start a Yakezie real estate investor LLC… With the recent tax packages passed, the depreciation losses that can be taken on real estate are even bigger this year and next year than they have been.
The real estate clients we have often *never* show gains because the depreciation expenses are such a big part of their income statement.
I am working on this as we speak. My goal is to first purchase my own home and maybe get a roommate to help with the mortgage. Then after two years, trade up and continue to rent out the first house. I will keep doing this until I have a nice steady cash flow.
Nice. This sounds like a great plan!
We purchased our current home a couple years ago with the intent of renting it out down the road. We know that we will need to increase the size of our house as we expand our family but we don’t want to lose our current investment. We live in a pretty popular area so we are hoping we get a decent traffic of want to be renters when the time comes.
We bought a duplex so half of our mortgage would be paid by the renters, we live in the other half. Our plan for retirement is to own 3 duplexes as rentals.
Lizzy, that is a great idea. I am thinking about this plan as well. I like the benefits of a single family home (especially with the ease to sell if if you ever needed to), but I am liking the duplex idea more and more for starting out (you don’t have to travel to visit the rental property and can keep a close eye on the renters). Be sure to let me know how it goes.
And you don’t have to be in *direct* contact with your tenant every day, the way you have to if you rent a room in your house. I’m looking at some duplexes now, but they’re in a neighborhood where most of the duplexes have been renovated into single family homes, and the remaining duplexes are not in great repair. I have my eye on a really nicely renovated one now.
That sounds great. Good luck grabbing it. Be sure to let me know how it goes.
Me and the GF looked at this, but unfortunately most affordable duplexes for us were run down or not in the best locations! This could be a great idea if the price is right.
I agree. It always depends on situation to situation. I think the best policy is, as you said, to make sure the price is right and wait for it. Don’t get too excited because you will probably buy too soon or pay too much.
Never thought of this, one thing I worry is what kind of tenants will I have? and how will I deal with them if situations arise?
Yes, that is a concern for many. Proper steps can be taken to avoid damage to the property. Or, there is always the choice of hiring a rental management company.
The prices in Canada are still pretty high, so when I did the calculations, if you were lucky to be cash flow positive then you might be doing 3% or so a year. Your overall return would be higher as that includes debt repayment, but as your margin decreased eventually so would your return on equity.
That and the tenant headaches and the near impossibility of evicting bad tenants… and I lean toward REITs instead 😉
I agree that rental properties seem to suggest a modest return rate in certain markets. I do need to investigate REITs more as well. Real estate investment does have the huge benefit of leverage, being able to invest in a lot of house for little initial investment.
Great post. Should really try and take advantage of these low rates. Thanks for the reminder!
Thanks. Yes, it really is the time to buy.
A good way as a beginner to get into investing in rental to properties is to buy a 2 to 3 unit property. You can live in one unit and rent the other one out.
If you have a good down payment and interest rate, your renters will be paying the mortgage and taxes for you, and you end up with a free place to live also.
Yes, that is a great alternative. It definitely varies by location, but if you can find a great market, that isn’t beyond reach.
Real estate is clearly an important part of my plan. I plan on having the renters pay off the houses and then enjoy the income. They are scheduled to be paid off in my mid-60’s, but I would like to have them mortgage free sooner than that and be able to purchase some more.
That sounds like a great plan. I agree that if it is possible to have them paid off sooner, you should try to do that.
I’m retiring at age 57, and part of my income is from a duplex I bought when I was 30?. Paid 70K for it back then. I paid it off in 12 years, and currently clear about 13K/Year after taxes/maint. I’ve got a management company to run it day-to-day (screen tenants, minor repairs, etc). They charge 6% of the gross for this service, well worth the no-hassle aspect of it.
I thought owning rental property was a great way for me to prepare for retirement…until the market crashed. This highlights one key risk with this strategy. However if you have long time frame and are willing for the market to return, this should not be an issue.
I personally think that investing in real estate and renting it out is a good idea. Just be diligent in looking for good renters and you will have lesser landlord problems.