There are a lot of homes for rent in the section of Baltimore where I own a row house. (Mine isn't one of them.) Some are barely wider than a car and yet the asking rent is $1,400 a month. Slightly larger ones, with more amenities, go for $2,000. Rents on apartments in not-so-new suburban clusters are also four figures.
This isn't San Francisco or New York, where you have to be rich to buy any property. In my city, if you can afford $300,000, you can buy very well and your mortgage payment won't be more than these rents, plus you can deduct the interest and taxes. Someone must be making out like a bandit on these rentals. It's not the tenants.
Then again, if being a landlord is such a sure thing, why aren't millions of people quitting their jobs and doing it full-time?
Does it make financial sense?
A story In December's issue of Kiplinger's Personal Finance, "21st Century Landlords," lays out the details on investing in income property. Essentially, it's this: If you buy a single-family house with three bedrooms or a two-unit property for the price of one dwelling, and you keep the place occupied, you can make $300 or so a month after expenses and taxes -- if you pay about $150,000 for a place and rent it for $1,000 a month.
That's not cutting it so close as to be impossible, but don't sign a contract on the first rental your friend's brother's wife's co-worker puts on the market. The property must be capable of generating enough rental income to make the transaction pay off.
Buying a house to rent isn't at all like investing in stocks or mutual funds. If you sell, say, at the end of five years for the same price you paid (plus enough to cover the cost of the sale), will that be an adequate return for the risks and work of being a landlord? If not, how much will the place have to appreciate to give you a just reward? Is such appreciation reasonable?
Start with income, which will mainly be the rent but you could also add in parking or utilities. Look in the classifieds for similar rentals for an idea of what you could charge.
On the expense side of the ledger: the mortgage payment (you'll probably want to make as small a down payment as possible) and property taxes. Then there's insurance, routine maintenance, landscaping, utilities (if you'll pay them), the cost of advertising or paying a real estate agent to get tenants, and a management fee if you'll pay someone to handle those "the toilet's stopped up" phone calls at 2 a.m.
But many of these out-of-pocket expenses are deductible on your tax return. And, for tax purposes, residential real estate is depreciated over 27.5 years, letting you write off each year about 3.6% of the property's tax basis.
Are you landlord material?
The idea of landlording comes to different people in various ways. Here's my thinking:
You're buying a new house and wonder if it's better to keep the old one or sell it. Clearly, if you need money from number one to close on number two, you can't. If you don't, I'd consider this option -- if you are confident you can rent the old place for more than enough to cover your out-of-pocket costs and you don't need to put a lot of repairs into it. Housing values will keep rising. Maybe, someday you'll want to sell the more expensive place and move back.
You're sick of the sideways stock market. That's not good enough. I've met people who have gone into property for that reason, and if you don't know more about managing real estate than you do about holding onto mutual funds, you're jumping from one headache to another. Besides, Kiplinger's thinks the stock market's ready to make a move and real estate is due for a slowdown.
You hate paying taxes. Yes, rental property is a sweet tax deal. You can depreciate your investment in a rental over 27.5 years, a deduction that may take $5,000 off your taxable income. That depreciation is allowable even if the value of the property is appreciating. You can also deduct the mortgage interest, the property taxes, utilities if you pay them, and all your maintenance expenses. But this is not a total tax dodge. When you sell, it's a capital gain and could be a whopper because your basis will be reduced by all that depreciation.
Your real house is worth a fortune. Now you're getting warmer. If you think you have too much locked up, a cheap equity loan can let you buy a rental property in effect for cash by borrowing from yourself. If you do this, though, buy a new house in another area that you know will be occupied. If it's vacant, you're like an airline flying empty seats across the country. But if you have the money and time to look for the right property, you can be choosy.
The smartest part-time landlords are patient buyers. They take a new house off a strapped builder, or make a private offer to a property owner who suddenly needs to sell, or put some labor into the place and combine sweat equity with income and tax savings. The tenant, of course, doesn't know this. Odds are if you pay for the house at a discount and don't mismanage it, such as by being greedy with the rent or acting like a jerk every time the tenant does something minor, you'll be fine. Just don't count on collecting $2,000 a month rent in a neighborhood where one can buy for $1,500.
GETTING STARTED
