Some real estate investors are interested in longer term investments as opposed to flipping investment properties. This could be in the form of a second home, or more likely—and affordably—a rental property. Here are a few tips, tricks and guidelines from a landlord and real estate investor who has invested both in short and long term real estate deals.
To begin, you’ll want to determine your risk tolerance. Investors who favor low risk and low returns would be well advised to stick to stable, middle-class neighborhoods that are already established. Those who are not averse to risk might favor lower-end neighborhoods that have a higher potential to shoot upward quickly, but also breed crime and may even deteriorate over time. For a humorous, irreverent look at slum landlording, see Diary of a Slumlord: A Lighter Look at the Darker Side of Real Estate).
The safer route
Take a good, hard look at the local school systems of the neighborhoods you consider for investments, as they prove a consistent indicator of the quality of the community. Also examine the stability of the job market in that area, along with age demographics (families and seniors are the safest demographics). Most parents will sooner put their children in a good school than be fifteen minutes closer to work, and families are far more stable than young professionals.
The riskier (and potentially more lucrative) route
Speculation on low-end neighborhoods is a little harder because they haven’t yet taken off and you’re effectively trying to predict the future. When urban neighborhoods turn the proverbial corner, usually the first troops through the gate are the young professionals who are less worried about crime than families. Young professionals generally want to be close to the following: nightlife (bars, clubs, restaurants), artistic institutions (galleries, museums), water (bays, rivers, harbors), sports stadiums, and subways/metro stations (but NOT buses). Successful speculators would be wise to listen attentively to any municipal plans involving any of these attractions to a given neighborhood, but remember that there are thousands of other investors listening just as closely, so sometimes it pays to wait until after the initial excitement fades off—it’s the second mouse that gets the cheese.
One final word for speculators: Don’t over-improve. That neighborhood you’re watching may well take off in five years, but between now and then, you still have to rent to low income people. They can’t and won’t pay extra for a hot tub on the rooftop deck, so wait until the yuppies start their invasion before writing extra checks.
Developing monthly income
Some real estate investors are interested, not in a one-time payout (now or in ten years), but in creating a consistent, monthly income from their properties. So where does one start, on this journey from working as a wage slave to earning income while tanning on a beach?
Start from the following concept: maximizing cash flow from each specific property. Because, as we’ve seen, landlords are targets for litigation (see Landlord Legal Guide: How to Protect Your Rental Property Assets), and every single property you own is a legal liability, fewer properties with greater cash flow from each is safer from a litigation perspective.
To start, look for neighborhoods with a gap between market rents and market sales prices. Try to spend no more than 60-70 times market rent on a property, if possible. This is easier said than done, because neighborhoods with better rents than pricing tend to self-adjust by market forces, but here are a few indicators to watch for:
- college towns/neighborhoods (side note: they usually pay rent on time, but they’ll trash your property)
- immigrant strongholds (statistically the population will grow faster here)
- gentrifying neighborhoods (see above, but make sure you’re in early and not late).
Additionally, take a long, careful look at multi-unit buildings. These tend to offer better cash flow, but be extremely careful about zoning and don’t assume that you can change it. Look for the number of utility meters in the basement, as that usually indicates the number of zoned units. Second, they cost more money upfront, which you may or may not have.
Here’s a good website offering free landlord rental forms, in case you need tenant disclosures, lease agreements, or property management software.
Investing in real estate can be fun, so try to enjoy it, while recognizing that there are genuine risks involved. Good luck, and remember there are plenty of other investors out there, so don’t hesitate to try to contact them.