How much profit should you be making from an investment property? It’s a question every real estate investor has asked themselves at some point in time. The answer depends on your investment situation. There are a lot of different reasons to buy an investment property. Some people are trying to make a living as a landlord, while others are looking to make sound long-term investments.
Your purpose for buying will determine how much money you should be making. If you want to be a full-time landlord, you should be making a salary's worth of profit on your properties. But if you're looking to hold the properties over time and use the rents to pay them off, it might not be as important to you to turn an immediate profit.
Is there a rule of thumb for how to make a profit on investment property?
Yes! The 1% rule. The 1% rule basically says to only buy property you can rent at a rate of 1/100th of the total price of sale. That is, if you have a three-bedroom you’re renting for $1800 a month, then you’d want to purchase the property for no more than $180,000.
Unfortunately, while this is still a nice rule of thumb for purchasing long-term profitable properties, it’s not always possible these days to try to abide by it. Average home prices in the country are nearly $500,000, but the average rent prices are nowhere near the $5,000 a month the 1% rule would call for.
Is the 1% rule even feasible these days?
Surprisingly, yes. In the most affordable areas of the country, you can still find property that fits the bill, especially if you're willing to purchase duplexes and triplexes. Another option is to shift your attention to commercial property, where the leases are often signed for longer periods of time, with yearly lease increases. The risks of commercial property are different than those of residential property, but the cumulative rents can be higher and there are more ways of structuring deals with corporate partners than with individuals.
A good investment, even without immediate profit
To turn a profit, your revenues need to be more than your operating costs. The simplest way to achieve this would be to purchase your property outright. Without a monthly mortgage to pay, your rental revenues will easily outstrip your operating costs—property management, maintenance, insurance, etc.
But, this isn’t feasible for most people. Most buyers will be purchasing properties with a mortgage, and it’s pretty much inevitable that, month to month, it’s going to eat up the majority of your revenue. Still, if you buy smart, following best practices, your property can still be a good long-term investment, even if it just breaks even for a while. Breaking even as a landlord means someone else is paying your mortgage, and that's still real value!
Some thoughts on making a career as a landlord
Some final thoughts for those of you out there considering a career or second career as a landlord. Perhaps all this talk about tight profit margins has made the idea of owning property seem too arduous? If so, remember, there are lots of successful landlords out there, and most of them aren't billionaires. The secret is to buy smart and control costs. You can do that by following these rules of thumb:
· Buy locally: Become an expert in your local market. Owning more of the same market helps you use your resources more efficiently. You don't need two maintenance companies, two property management companies, and so on. In fact, if you have the skills, you can manage a lot of this yourself.
· Handle basic maintenance yourself: If you're a full-time landlord, you'll save a lot of money by doing the simple things yourself. Mow the lawn, fix simple leaks, clean and perform upkeep on the gutters and downspouts, etc.
· You need a lot of tenants to make a living: Even if you find a steal of a deal, you may be surprised to find yourself making $500 a month on the property at first. So, if you want to make a solid middle-class living, you'd need 10 to 12 properties. You shouldn't consider making being a landlord a career unless you can afford to quickly expand your real estate portfolio.
Turning a profit in real estate is easy enough if you’re smart about how you approach it. Depending on the property type, time horizon and strategy, you’ll need to make smart decisions about how you pursue passive income from your investments.