Investing in rental property can be a very sound strategy to achieve financial goals. Not only does the property generate monthly rental income, but the real estate investor can take advantage of numerous tax breaks that encourage this form of investment. Investors can use leverage to purchase a home, making only a partial down payment but earning 100 percent of the rental income immediately.
Home prices have risen over the decades, so if the investor properly maintains the property over a period of time, they should, if they wish to do so, be able to sell it at a profit.
Real estate, including rental property, is also a good hedge against inflation. And experts say that a diversified portfolio, including real estate as well as stocks, bonds, and other alternative assets, is the best way to guard against various kinds of financial ups and downs.
Mynd offers a free rental property returns and income tax calculator that investors can use to calculate cash flow. The investor enters data such as purchase price, rental income, taxes, and financing to determine profit and loss, net operating income, and return on investment.
Positive cash flow can allow the investor to pay off a mortgage and build equity in the home, and, ultimately, reinvest in another rental property, expanding their portfolio.
But factors such as vacancies, higher than expected operating expenses, and unexpected renovation and maintenance costs can present rental property investors with daunting cash flow calculations. What once was a portfolio of income producing real estate can send the investor from the black into the red.
How to optimize income producing real estate
Real estate investors have numerous ways to increase cash flow from their income producing real estate, decrease operating expenses, and stay in the black. Among these strategies are optimizing rental income, adding revenue streams, increasing the rentable space, replacing inefficient appliances and fixtures, and investing in more affordable markets out of state.
1. Optimize rental income
The most basic way for investors to increase cash flow on a rental property is to ensure that they are charging market rates for rent, thus maximizing rental income.
Owners of rental properties who provide a good place to live shouldn’t shy away from steady increases in rent. Many rental property owners fear that residents will leave if they raise the rent, but if the increases are reasonable, residents may well find that the costs of moving outweigh the costs of staying.
Of course, real estate investors should be aware of local laws that regulate how frequently or by how much rents can be increased. But raising rent is the most obvious and direct way to maximize cash flow.
2. Add revenue streams
Rental property owners can increase their cash flow by charging separately for features that can generate revenue, such as a detached garage, which can be rented for an additional $100 or more per month in many real estate markets.
Near a downtown core, even outdoor parking spaces can command a monthly rental fee. Rental property owners who do not have a covered garage on their property may find it would pay to add one. A large parking pad could also provide space to park an RV.
3. Upgrade the property and add amenities
While rental properties are vacant, it's true that they are not producing cash flow, but owners can undertake projects to make the property more attractive, and it may generate more monthly rental income.
These include replacing flooring, renovating the kitchen(s), and renovating the bathroom. The improved cash flow may mean the projects pay for themselves over a measurable amount of time.
If the real estate investor pays the utilities, it may pay for itself to replace outdated fixtures. Old windows leak heat. Furnaces can be inefficient and may be replaced with environmentally friendly heat pumps. More efficient shower heads and toilets use less water. Adding insulation can reduce heating costs.
There are federal, state and local rebates and grants to reduce the costs of such upgrades.
5. Furnish the space
Furnished rental properties can command a higher monthly rate. A furnished home may be ideal for medium-term renters such as divorcees or those visiting the country (or the area).
6. Ratio Utility Billing Systems (RUBS)
RUBS prevents owners from absorbing the cost of utilities in multifamily properties.
RUBS is a customized system for allocating utility costs to residents for most utilities, including water and sewer, wastewater, trash, electricity, and gas, based on predetermined criteria.
What’s more, the Environmental Protection Agency (EPA) and the National Apartment Association (NAA) say that RUBS encourages conservation. It also incentivizes residents to report problems such as leaky faucets or toilets.
It’s important to convey information to residents clearly and in a timely manner about any changes in billing systems.
7. Use a different rental strategy
Depending on location of rental properties, they may be more beneficial to rent on an annual basis or on a monthly basis, or it may be best to convert them to short term rentals (as with Airbnb). An investment property close to tourist locales or convention centers, for example, may be more lucrative if put into the market for short term rentals.
Investors who live in markets where home prices are high, and rental income may not generate positive cash flow, can consider investing out of state. In an age when homes can be sold with 3D floor plans and online walkthroughs, more and more Americans are getting accustomed to the idea of remote real estate investing.
Real estate investors living in San Francisco, for example, where the median home price is well above $1 million, may find that their available resources will take them much farther in making a down payment in markets such as Indianapolis or Memphis, where home prices are as low as $200,000.
10. Increase rentable space
Converting a garage into an additional bedroom can increase the rentable space and have an immediate impact on rental income, as can finishing a basement or adding an Accessory Dwelling Unit (ADU). Collecting monthly rent on additional units can turn a negative cash flow rental property into a more profitable investment property.
11. Appeal property taxes
Property taxes generate needed revenue for municipalities, but rental property owners do have the option of appealing increases. If the rises threaten to make a positive cash flow rental property into one that is losing money, it may be worth taking this step.
If comparable homes in the area have not sold at prices as high as the value put on the home in question at the time of the assessment, an appeal may be successful. But it's important to know that an appeal can go either way.
The new assessment typically includes information about how to appeal the increase, including a deadline. Some municipalities give a window of 45 days, while others offer a window of only 30 days.
It might help to get a third-party assessment. A local real estate agent will typically provide a comparison with other homes in the market.
According to the National Taxpayers Union Foundation, only about five percent of people ever appeal an assessment.
12. Re-amortize the mortgage
Amortization refers to the period of a mortgage (30 years, 15 years, etc.), and also refers to the fact that at the beginning of the term of a mortgage, most of the payment is going toward interest, while at the end, most goes toward the principal. Longer-term mortgages mean lower monthly payments but also incur more interest over time.
If the investor’s top priority is to have more cash at the present moment, and they have maximized rental prices and kept the rental property expenses down, converting to a longer-term mortgage with lower payments now may make sense.
There may be downsides to re-amortizing the mortgage, so investors would need to discuss the plan with their financial advisor.