An investment property has the potential to become a tangible source of income over the years – but the benefits go beyond basic rentals or re-sales.
If your investment property is close to local businesses, in a popular commuter town, near a transportation hub, convenient to local employers or features access to popular amenities, you could see a good cash flow from renting your investment property. Rental income can offset – either partially or fully – the costs of your mortgage, as well as expenses like utilities, maintenance costs and homeowner association fees. Your goal as an investor is to have income on top of these offsets.
Potential Tax Benefits
Tax benefits on investment properties can include mortgage interest and property tax deductions. In addition, depreciation options may provide tax benefits. Consult with your tax advisor to learn which ones might apply to you.
Other things to consider
When buying an investment property, you’ll have many of the same considerations that you’d have with a home purchase – plus many additional factors.
Your Investment Plan
- Think long-term: An investment property can be part of an investment plan that spans decades. Tenant damage, a vacant property, a poor market or legal issues can all add risk to your investment. It is not uncommon to plan for the full lifespan of the investment, including an exit strategy. What will you do with the property in a few years? Do you have a plan B and plan C – for instance, rent instead of sell if the market isn’t where you want it to be?
- Examine risk: The type of property you choose depends on your tolerance for risk. Any investment is a risk, but different types of investments present different degrees of uncertainty. How comfortable are you with a fixer-upper or an unfamiliar neighborhood? How long can you wait to realize return on investment (ROI)? You may want to explore these questions on your own or with an advisor.
Location, Location, Location
Examine location with an eye toward what will make a good investment, either for a steady stream of reliable renters or for a good resale. Here are some factors to consider:
- Consider the surroundings: As with many real estate investments, your satisfaction with your investment property will be affected by such factors as quality of local school districts, vicinity to shops and restaurants, and desirability of the area. If you’re considering the property for rental income, you should also research tourism factors. Is the area booming or in decline? Are there busy tourist periods that might conflict with your vacation or rental plans
- Research the rental market: In addition to the basic strategies of visiting the property at different times of day, getting to know the neighborhood and looking at comparable properties, you’ll also want to research local vacancy rates. This gives you a better understanding of risk and helps you plan for possible vacancies or time on the market.
Other considerations with investment properties involve how you structure financing. Here are some scenarios:
- Look at fixed rate advantages: A fixed rate mortgage, with its steady monthly payment amount, may be a good choice for buyers who plan to own and rent their investment property over a long duration. It may also be good for investment buyers on fixed incomes. Finally, predictable payments can make your risk and return projections easier to calculate.
- Check your amortization terms: Whether you choose a fixed rate or adjustable rate mortgage, the amortization terms have great importance because the duration of payments will affect your overall investment plan. A short-term loan may work well for investors who plan to sell within a few years, while a long-term loan may be good for an investor buying for a long-term rental.
- Have cash on hand: Buying an investment property can involve meeting different lending requirements than those of a primary residence. You may need a larger down payment or pay a higher interest rate. Some costs may not carry tax benefits and may need to be paid soon. Make sure you’re comfortable with these other financial factors and consult with your tax advisor.
- Factor property management costs: You may need to travel to the location more often during the selection and buying process – for instance, to be present during the inspection and closing. An investment property can take up your time and resources into the future as well. Have you anticipated the regular trips to check in on the property, or the phone calls, emails and other details involved in dealing with renters? What about homeowner association dues, utilities, office supplies and more?
- Decide who’ll act as rental agent: Are you comfortable handling rental duties yourself, or would you work with an agency? This can make a big difference in your day-to-day life and your expenses.