You are reading: How to Maximize Your Return and Income When Buying a Rental Property
In this article
Ah, the exciting world of rental property investment! It’s like having your own little money-making machine while building that glorious long-term wealth. To maximize your return and income, careful planning and strategic decision-making are essential.
In this blog post, we will explore key strategies and considerations that can help you make informed decisions when buying a rental property, calculate potential income and expenses, manage expenses efficiently, and develop strategies for your long-term goals.
What is ROI?
First, we need to establish what ROI is. Return on investment (ROI) is a metric that helps investors mitigate risk and compare expenses versus income to see if the investment (in terms of profit) will be worth their time, money, energy, and risk. ROI is one of the metrics real estate investors use before they decide to purchase a rental property.
How to Calculate ROI
There are a few formulas for calculating ROI. This is the most common one:
ROI = Net Operating Income / Cost of Investment x 100
The formula above is simple and easy to use. However, when you deal with real estate properties, you need to take into consideration a number of different variables, such as:
- Tax fees
- Buyer/seller fees
- Repair/maintenance expenses
- Amount of money borrowed (including interest)
Therefore, this next formula is more commonly used by property investors:
ROI = (gain on investment – cost of investment) / cost of investment
You take the gain on the investment, minus the cost of the investment, then divide that number by the cost of the investment.
What is a Good ROI For an Investment Property?
Anything below 7% is considered a poor return for a rental property, especially considering the stock market (S&P 500), under normal conditions, returns around 10% a year. A good ROI percentage for rental properties is anything around 10%, and an excellent deal will return you 12%-15%.
To increase your ROI from your rental property, you need to do four things:
- Make it a great place to live
- Advertise it, so prospective tenants know it’s available
- Develop an effective tenant screening process to acquire the best tenants for your property
- Create a good relationship with your tenants and offer incentives so they stay for the long-term
Steps When Buying a Property
Research and Analysis of the Market and Location
Before you start investing in rental properties, it’s important to do your homework. The first step is to learn about the area you want to purchase in. You may think that a certain neighborhood is ripe for opportunity, but it’s best to confirm that with data before making the commitment.
Take a closer look at the rental demand, vacancy rates, population growth, job opportunities, and amenities nearby. Knowing the local market trends and dynamics is like having a secret weapon in your arsenal. It helps you make a wise investment decision that has the potential for high rental demand and long-term appreciation. So don’t just dive in blindly – do your research and analyze the market before making a move.
Calculate Expenses and Potential Income
Accurately calculating expenses and potential income is crucial for determining the profitability of a rental property. Prepare for all the sneaky expenses that can chip away at your earnings. Think property taxes, the merciless insurance premiums, and the never-ending cycle of maintenance and repairs. Oh, and if you’re not up for playing landlord, throw in those property management fees as well. And let’s not forget the big one: the dreaded mortgage payments.
Don’t worry, it’s not all doom and gloom. Take a moment to think about your potential income. What can you charge for rent in your market? Are you in an upscale neighborhood where tenants will pay top dollar for luxury? Or maybe you’re targeting the budget-conscious crowd who just want a cozy place to crash. Either way, you’ll want to utilize tools such as cash flow analysis and ROI calculators to assess the property’s income potential and evaluate its financial viability.
Develop Strategies for Increasing Rental Income
Now that you’ve determined how much rental income you can feasibly acquire per unit, it’s time to figure out how to maximize it! Consider implementing strategies like:
- Regularly reviewing and adjusting rental rates to align with market trends.
- Adding value to the property through renovations or upgrades that justify higher rental rates.
- Offering additional services or amenities that tenants are willing to pay for, such as extra parking spaces, laundry facilities, storage units, and pet-friendly features like a dog washing station
- Encouraging longer lease terms to reduce turnover and vacancy costs.
Remember, you don’t want to go too high above market rates in your area. You’ll end up pushing tenants into nearby properties, and we don’t want that! Make sure your prices align with the market and accurately reflect the value you offer.
Managing Expenses and Avoiding Costly Mistakes
Managing expenses carefully at an apartment complex is of paramount importance for a few reasons. First, expense monitoring ensures the financial stability of the apartment complex. I’d say that’s pretty important, wouldn’t you? By monitoring and controlling expenses, property managers can maintain a healthy cash flow, meet financial obligations, and have reserves for unexpected repairs or emergencies.
It also directly impacts your bottom line. By minimizing unnecessary costs, negotiating favorable vendor contracts, and implementing cost-saving measures, property managers can increase the property’s net operating income. In turn, this boosts the overall profitability of the apartment complex and makes you a happy camper.
Effective expense management contributes to preserving and enhancing the value of the apartment complex, too. Regular maintenance and timely repairs prevent small issues from escalating into costly problems. This proactive approach ensures that the property remains in good condition, retaining its market appeal and value. When it comes time to sell or refinance the property, a well-maintained apartment complex will command a higher price and attract more favorable financing terms.
A robust tenant screening process can be a cost-saving superhero for property managers. By investing time and effort into thorough screening, property managers can avoid costly financial pitfalls down the road. A well-executed screening process helps identify tenants with a reliable payment history, reducing the risk of late or non-payment of rent. This means fewer instances of chasing down delinquent tenants or going through expensive and time-consuming eviction processes.
Additionally, conducting background checks and verifying employment history can uncover any potential red flags, such as a history of property damage, criminal activity, or unstable employment. By weeding out high-risk applicants, property managers can mitigate the chances of costly property damage, legal disputes, or disruptive behavior that can negatively impact other tenants and lead to evictions.
Even with a great screening process, some bad tenants could slip through the cracks. In recent years, applicants have learned how to alter their bank statements and pay stubs – making it look like they earn significantly more than they actually do. These fraudulent documents can be tough to catch. So what can you do?
You can implement document fraud detection software! Snappt’s software is designed to detect these fake documents and protect you from high-risk tenants. We help property managers throughout the country reduce evictions and bad debt by 51%! To learn more, check out our website or schedule a free demo.
Lastly, stay informed about tax incentives, deductions, and local regulations that can help reduce expenses. New laws go into effect every year, and some may benefit you and your property!
Long-Term Planning and Exit Strategies
Long-term planning for an apartment building involves considering the maintenance and upkeep of the property, as well as identifying potential improvements and upgrades to attract and retain tenants. Develop a schedule for routine maintenance tasks such as HVAC system inspections, roof repairs, and landscaping so you catch any issues before they become a big problem.
This plan should also include a budget for larger projects such as installing energy-efficient appliances, renovating common areas, or upgrading amenities like fitness centers or pool areas. All of these efforts aim to ensure the building remains attractive and functional for current and future tenants.
You should also revisit your investment goals annually. Do you want to hold the property long-term, or would you sell if there was a better opportunity? Plan for contingencies and establish exit strategies, such as selling the property for profit, refinancing to access equity, or exploring 1031 exchanges to defer capital gains taxes when reinvesting in a new property.
To Sum Up…
Maximizing return and income when buying a rental property requires careful planning, research, and strategic decision-making. Conducting thorough market and location analysis, accurately calculating expenses and potential income, implementing strategies to increase rental income, managing expenses efficiently, and developing long-term planning and exit strategies will help you make informed investment decisions and achieve long-term success in the rental property market. Remember, a well-researched and carefully managed investment can provide a consistent income stream and wealth-building opportunities for years to come.