Some retirees have found the perfect second career: landlord.
At a time when stock investments are uncertain and many homes are not selling, some retirees and near-retirees are keeping their money in rental property and banking on a steady second income.
“Real estate can be a wonderful asset to have in retirement, because when you have tenants, you have money coming in every month and, if you don’t have pensions, that’s important,” says Barbara Pietrowski, a Certified Financial Planner in Roanoke, Va.
Ups and downs of rental properties
- Generates cash flow each month
- Income tax advantages
- Income rises with inflation
- Potential of capital appreciation
- Monthly expenses largely stable
- Leveraged investment
- Fluctuating maintenance expenses
- Potential for vacancy
- Dealing with problem tenants
- Cash flow not guaranteed
- Poor liquidity
Just like any other aspect of real estate, the key to being a successful landlord is location, location, location.
A region where there are “a lot of plant closings” is probably not a good place to invest in rental property, says Ron Phipps, broker with Phipps Realty in Warwick, R.I. “If your goal is to generate income, you have to make sure the economics for the area are good,” he says.
What you want, ideally, is a place where there’s a strong demand for housing. For that reason, some retirees look for rental houses in college towns — where they find a large pool of well-qualified potential tenants, says Phipps.
Along with the location, you want to look at the home itself. While not every property is ideally suited for producing a rental income, what can be considered a “good” prospect for a rental will change depending on the demand and demographics of the area.
If you’ve already bought the home and are leasing it successfully, relax. But if you’re searching for a potential property, (and you haven’t purchased it yet), a little advance research can make your new job easier.
For the most part, it’s simply old-fashioned good sense, says Phipps. “Retirees just need to use the same basic rules of real estate,” he says.
Elements of a successful rental
- Single family home
- Good school system
- Stable, mid-priced neighborhood
- Area with demand for housing
- Enough land — but not too much
- Less than 10 years old
But that’s only part of the story. Every area has its demographic quirks. In some places an abundance of retirees or college students may cancel out the need for good local public schools. Or a preference for a low-maintenance lifestyle could make small yards or condo-style homes a more popular option.
So start with the demographics. Who lives there, and what properties are renting? What’s the vacancy rate for rental properties in the area? Local real estate agents can be a great source of information, says Phipps. And many offices have an agent who specializes in the rental market.
One landlord shops for three-bedroom ranch homes in college towns. “He rents out each bedroom for $500 a month” to students, Phipps says. But the landlord was savvy enough to first check the zoning and make sure it was legal.
When Kim and Robert Kiyosaki started investing in residential real estate, they selected homes in middle-class, moderately priced neighborhoods. The couple reasoned, “People need places to live and will probably look for middle-of-the-road rents,” says Kim Kiyosaki, author of the book “Rich Woman: A Book on Investing for Women.” And she believes that’s still a smart strategy in the current economy.
Bottom line: Research the area, the demand, the renters, and the zoning. And listen to your gut instinct.
Not a liquid asset
Rental properties, however, also come with risks. Banks often require a larger down payment and charge higher interest rates for rental property than they do for owner-occupied homes.
And never forget: Real estate is not a liquid asset. If you need to sell quickly, especially in a down market, you could have trouble getting the price you want or finding a buyer at all.
In addition, if you’re without a tenant for a period of time, the investment goes from cash cow to cash drain. For that reason, it’s a good idea to set aside about six months of monthly expenses, says Walter Molony, spokesman for the National Association of Realtors.
And when you find good tenants, treat them well, says Kiyosaki. If a tenant is “problem-free, paying on time,” she says. “Keep them happy — that’s priceless.” If they make reasonable requests, respond immediately, she says.
Do the math
After you’ve done your homework on the area and the property, it’s time to sit down with a calculator and run the numbers.
First, you need a good idea of what rental prices comparable properties are fetching in the area, says Phipps.
Then total what you’d pay each month for the mortgage, insurance, and 1/12 of the annual property taxes. Include any expenses that you’re paying, like water, maintenance or community dues. If you’re not managing the property yourself, include the management fees. This is your monthly cost.
What you want to see on that balance sheet: a positive cash flow of at least 6 percent, says Pietrowski.
In addition to income you can get a break on your income taxes. The Internal Revenue Service lets you depreciate the building portion of your property (minus the value of the land) over 27.5 years, which means much of your cash flow will be tax-deferred, Pietrowski says. If you ever sell the property, you’ll have to pay taxes on that depreciation, she says. But if you don’t sell it, “your heirs don’t have to pay it,” Pietrowski says.
And realize that this is not a short-term investment, she says. “You have to be in it for the long haul.”
Before you consider buying a rental property, get an inspection from a certified, professional home inspector. That way, you know exactly what you’re getting and what, if any maintenance issues you may have. Also, especially in the current financial climate, be prepared for “all those negative emotions” from people on the sidelines telling you not to buy. “The people who are telling you this, I guarantee they are not investors,” says Kiyosaki.
While owning rental property can be challenging at times, says Kiyosaki, “I think the rewards are really worth it.”