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Want to invest in real estate rental? Then know these facts!

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Investing in rental real estate looks like a great idea on paper. You just buy a place in a nice area, find tenants and let the cash roll in – right? Well, actually there are some matters you have to consider before buying a property and putting a “for rent” advert on it and in the newspaper (or online). It is advisable to know the pros and cons of owning rental property and understand a few tips on how to turn a profit as a landlord.

 

Advantages of Rental Real Estate

Many people who feel uncomfortable investing in financial instruments have no qualms about investing in real estate, as it is a tangible asset. This is a psychological distinction, as a bad stock and a bad rental property are equally capable of losing money. That said, here are the advantages that show up on paper:

Current Income. This refers to the rent money that is left over after the mortgage and related expenses have been paid. Current income is basically monthly cash that you did not have to work for – your property produces it for you.

Appreciation. This is the increase in value that properties generally experience as time passes. Appreciation is not guaranteed. However, if you own a property in a stable area (cities), the property will likely increase in value over the years. Even properties in sparsely populated and less desirable areas may appreciate due to general inflation.

Leverage. Rental properties can be purchased with borrowed funds. This means that you can control the whole property and the equity it holds by putting down only a fraction of its total cost – percentage of the total value. Also, the property you purchase secures the debt rather than your other assets. If you fail to keep up the monthly loan payments, you may lose the rental property, but you shouldn’t lose your own home.

Tax Advantages. Your rental income may be tax-free if you do not receive net cash flow after expenses are deducted. This means that your mortgage is being paid down and you own more of the total value of the property (rather than just controlling it), but you do not pay taxes on the money that is doing this for you.

In addition, you can also pull out tax-free money by refinancing your loan if the property appreciates and interest rates have fallen. Lastly, you may be able to avoid paying taxes on the sale of a rental property if you sell it and promptly reinvest the money in another property (called switching or tax-free exchange).

 

Disadvantages of Rental Real Estate

Liability. What happens if a stair breaks under your tenant’s feet? With the increase in frivolous lawsuits and the impossible to quantify nature of “emotional distress,” liability can be a scary thing. Providing someone with shelter in return for money puts you and the tenant in a relationship where both parties bear responsibility. You have to be certain that the property you are renting out meets all building codes and regulations.

Unexpected Expenses. What do you do when you pull up the basement carpet and find a crack that opens onto the abyss? It is impossible to prepare for every expense related to owning rental property. Boilers, plumbing and fixtures often need to be replaced and are not prohibitively expensive. However, faulty wiring, bad foundations and compromised roofing can be very expensive to repair. If you can’t pay for repairs, you’ll be left without a tenant and with the grim prospect of selling the property at a significant discount. Also, as building codes evolve over time, lead paint, asbestos, cedar roofing tiles and other materials that passed inspection in the past may be reevaluated to your disadvantage.

Bad Tenants. No one wants to have to use a collection agency to collect overdue rent. Unfortunately, almost every landlord has a story that involves police officers or sheriffs escorting his or her tenant out of the property – erasing all hopes of getting the five months’ worth of overdue rent. Bad tenants can also increase your unexpected expenses and even hit you with a lawsuit.

Vacancy. No money coming in means that you have to make monthly payments out of your own pocket. If you have an emergency fund, you will be able to survive vacancies with little trouble. If you don’t have one, you may find yourself scrambling to pay the rent to the harshest landlord of all – the bank.

 

Tips for Prospective Landlords

Minimizing the disadvantages of owning real estate is actually simple. Here are some guidelines that will help.

Keep Your Expectations Reasonable. Have the goal of positive cash flow, but don’t expect to be purchasing a new yacht at year’s end. If you keep your expectations in check, you won’t be tempted to jack up the rent and push out good tenants.

Find a Balance between Earnings and Effort. Are you planning to be a “hands-on” landlord? Or should you work with a firm? Current income doesn’t seem so great if you are putting in another full-time shift working on your rental property. Happily, there are property management firms that will run your property for a percentage of the rental income; you might consider engaging one.

Know the Rules. Federal and state laws outline your responsibilities and liabilities, so you can’t claim ignorance when something happens. You will have to do some reading; nevertheless, it is better to spend 20 hours in the library than in the courtroom.

Have the Property Inspected. One of the best ways to avoid unexpected expenses is to have the property inspected by a professional before you buy it.

Make Sure Your Leases Are Legal. If you make a mistake on the lease, you will find it more difficult to litigate if a tenant violates the terms.

Call References and Run Credit Checks. Too many landlords rush to fill a vacancy rather than taking the time to make sure the prospective tenant is a better option than an empty property. If you have time, you may want to drive by a prospective tenant’s current living space – that is what your property will probably look like when that tenant lives there.

Join the Landlords’ Association in Your Area. Joining an association will provide you with a wealth of experience as well as sample leases, copies of laws and regulations, and lists of decent lawyers, contractors and inspectors. Some associations may even allow you to join before you buy a rental property.

Make Friends with a Lawyer, a Tax Professional and a Banker. If you find that you like owning rental properties, a network including these three professionals will be essential if you want to increase your holdings.

Make Sure You Have the Right Kind of Insurance. After learning the rules, you will need to buy insurance to cover your liability. You will need the help of an insurance professional to select the proper package for your type of rental property; a plain vanilla homeowner’s policy may not be adequate.

Create an Emergency Fund. This is essentially money earmarked for unexpected expenses that are not covered by insurance. There is no set amount for an emergency fund, but 20% of the value of the property is a good guideline. Nonetheless, anything is better than nothing. If you are getting current income from a property, you can pool that money into the emergency fund.

 

 

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Real Estate

BUY OR BUILD A HOME?

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The biggest concern these days relating to owning a home comes with either buying or building one. Many are left at the crossroads in making the right choice when it comes to knowing what to do between the two. A home is usually the single largest investment that a person makes. Most buyers end up spending lots of time and energy either searching for or designing “the perfect home” before signing any contracts. Location, price, market trends, property taxes, Homeowners Association fees and the condition of the property are factored into the house hunt. Also, each buyer typically has a wish list that includes specific needs (the things the buyer absolutely has to have) and wants (the features the buyer would like but could do without if necessary).

While the home-buying process involves a number of important choices, one of the very first decisions buyers need to make is whether to shop for an existing home or build a new one. Each path has its advantages and disadvantages.

Buying an Existing Home

There are two primary advantages to buying an existing home: convenience and cost. Once you are pre-approved by your lender, you can shop around, pick out a home and make an offer. A qualified real estate agent can streamline the process by helping you find appropriate properties, guiding you through negotiations and assisting with the paperwork. Once your offer is accepted, you may be able to close and move in within a month or two. 

Even though the process involves numerous steps – such as financing, viewing homes, making offers, home inspections and closing – the convenience of being able to move in right away is compelling enough for many people to choose an existing home over a build. This may be especially true for buyers on a tight schedule, such as those relocating for a new job or whose children will be starting at a new school.

Then there’s cost. In many (but not all) cases it’s cheaper to buy an existing home, according to research. Once you’ve found a prospective, existing home, use a mortgage calculator to get a better estimate of the total cost of purchasing that home based on today’s interest rates.

Convenience versus Customization 

Another reason an existing home may be a better option is if you would like to be in a particular established neighborhood – near work, school, friends and/or family. Odds are, too, that the home will have mature landscaping, so you won’t have to worry about starting a lawn, planting shrubs and waiting for trees to grow. And if you want to live close to town, your best bet will be an existing home since most, if not all of the land, will have already been built upon.

On the flip side, the biggest disadvantage of buying an existing home may be that you won’t get exactly what you want. You may not be in love with the floor plan and may wish that half bath on the first floor was a full bath or that there was another bedroom on the main floor. Older homes, in particular, may be functionally obsolete, no longer meeting the needs of most buyers. For example, an otherwise beautiful four-bedroom house may only have one bathroom, or the kitchen may be too small with no room for expansion.

Unless you find an existing home that has exactly what you want and is in perfect condition, you will have to spend additional money on remodeling, repairs, decorating and/or landscaping. These additional expenses should be factored into the overall price, especially when choosing among various properties or comparing the cost to building your own house.

Building a Home

Building a new home doesn’t offer the same convenience as buying an existing house. Not only do you have to find the land, which may not be in an existing neighborhood, you also have to factor in the time to find an architect or builder, and choose every element of the new structure. Joining an existing development can streamline the process, though it may limit your degree of choice. You also need to worry about systems, such as whether the land gives you access to municipal water and sewage, or requires a well and septic system, along with any environmental and other permits.

The big advantage is you are much more likely to get exactly what you want. For many, this factor alone is enough to choose to build over buying, but there are other advantages too. A new home is more efficient, especially with the new energy codes including better HVAC [heating, ventilation, and cooling], insulation and air filtration standards. Better efficiency is good for the environment and can save you money on your utility bills each month.

Another perk? A new house may literally be better for you. A new home is less likely to have the health concerns or toxic materials of an older home – things such as asbestos, lead paint, mold, etc. And it can be built with certain materials making it better for the environment such as Green appliances/Energy Star rated appliances, and more efficient toilets, plumbing fixtures, and electrical fixtures that allow one to build “green” for a more sustainable home in the long run. Also, there’s the option to install, sleeve and/or wire for future technology upgrades, such as home automation and solar. One can have more significant profits with the resale of a new home. A newer home is typically more appealing than an older home to most people. In addition, a new home will require fewer repairs and less maintenance, which can save both money and time. One will have a warranty with a new home, so even if something does go wrong, you may still be covered.

Money and features aside, building a house can lead to a level of satisfaction that one can’t achieve through buying an existing home. There is a definite feeling of an emotional connection to living in a new home that one has created. The new-home smell, no one else has stepped foot (or pets) on your carpet. This is your creation that matches your style and personality that you created from scratch.

Time and Money

The biggest drawbacks to building a house tend to be the higher costs and longer timeframe, both of which can increase throughout the home-building process. That said, you can limit the risk that your house will go over budget or take longer than you expected by working with a reputable builder and having a good contract in place. To be on a safer side, have a potential builder provide references and then check their past homeowner references. To avoid unexpected price increases, try to use a lump-sum contract, instead of a cost-plus contract. A lump-sum contract specifies a fixed price for construction, putting the risk of cost overruns on the builder instead of the buyer.

In addition, the contractor should work with you to help you reduce costs. The builder should provide a list of cost-saving items, if requested. Substituting different materials and fixtures can save a lot, so if costs are a concern, ask ahead of time if there’s a cheaper alternative. And keep in mind that anything out of the ordinary is going to cost more.

To control the timeframe, try to have a contract that includes a construction time duration. Avoid the open-ended deadlines, and have a game plan and schedule. In case you are not available, make sure your builder keeps you up to date with the progress. Request for progress photos on a regular basis, and determine who will be your main point of contact throughout the process.

In addition, to save both money and time, maintain good communication with your builder and make sure you are happy with the design/specs before the build begins. It’s not good for you or the builder if you change your mind about something that has already been installed.

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