Aimee Picchi| Special to USA TODAY
Leslyn Hall recalls that before she and her husband bought their first investment property in Burlington, Vermont, they did their homework about the city’s rental market.
“We looked at vacancy rates, we looked at average rents, what people paid for one- to two-bedroom apartments,” says Hall, 52, who runs a consulting company.
That research helped them find a duplex within walking distance of the University of Vermont and the city’s downtown, a desirable location for many renters. And they lived in one of the duplex’s units, while the rent from the second unit offset their expenses.
Hall’s approach of diving into research was right on the money, experts say. And just like Hall and her husband, many consumers are first drawn to investment properties for their cash flow, says George Ratiu, senior economist at Realtor.com.
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“Real estate is really a mix between a stock, where you invest for appreciation, and a bond, where you invest for a coupon,” Ratiu notes. “In most market situations, you are getting cash flow on a monthly basis.”
And that cash flow can seem attractive at a time when rents continue to rise. The average rent rose 3.3% in August from a year earlier, reaching $1,472, according to RENTCafe.
Butit’s essential to do the legwork before you make a down payment because of the complexities of real estate, which can range from the quirks of local tenant laws to handling problematic renters. Unlike an index fund, real estate can also carry emotional baggage, such as when a tenant asks for more time to make the rent.
Below are sixtips from real estate experts to help decide whether an investment property is right for you.
Do the math — with no emotion
Some potential investors might be attracted to properties because of home price appreciation, which has been strong in many regions over the last decade.
But market appreciation isn’t within your control, points out Paula Pant, who started buying investment properties about 10 years ago and now blogs and podcasts about investing at AffordAnything.com.
Instead, focus on the capitalization rate, often called the “cap rate,” which will help you determine a property’s rate of return. The calculation involves dividing a property’s annual net income — in other words, annual rent minus any expenses — by a home’s value. Calculators are available online to help determine this.
“You want to evaluate the asset by itself,” Pant says. She adds that she aims for a cap rate of about 5%.
Dig into your research
It’s important to get into the weeds when researching investment properties, experts say. That includes checking demographics like your region’s unemployment rate and typical incomes, which can help determine if you’ll find renters for your property, says Daryl Fairweather, chief economist of Redfin.
Learn the state and local laws
Laws governing rental properties can vary considerably between states and towns. Some states are considered friendly to landlords, while others have laws that provide strong protections to tenants. Get up to speed on your rights and obligations as a landlord beforejumping in, the experts say.
“In some states, a security deposit has to be in a separate account than rental money. A lot of landlords don't know that,” Pant says. “A lot of states require that owners pay interest on the security deposit.”
Be prepared for midnight disasters
Some investors decide to take care of an investment property’s maintenance themselves rather than hire a property manager to handle issues like leaks and other problems. That approach can lower out-of-pocket costs but eat up time.
“If something is going to stop working, it will go wrong at midnight on a cold night,” Hall says. “You have to go to deal with it. You can't wait.”
David Palmer, a Seattle-based real estate agent for Redfin, says it's important to buy landlord insurance, because, just like homeowners insurance, it can help protect your property. The cost varies depending on the home and level of coverage. In terms of advice, he says to have your current insurance give you a quote and then compare it against at least two others.
Set aside a cash cushion
Aside from surprise maintenance issues, other problems can crop up, like troublesome tenants or longer-than-expected vacancies. Because of this, investors should keep a cash cushion on hand to weather the loss of income, says David Palmer, a Seattle-based real estate agent for Redfin.
“You’ll want sixmonths of reserves if you have someone bail on you,” he says.
Hall and her husband took a financial hit when a squatter, the father of a former tenant, moved intotheir second investment property in Burlington, also a duplex. The stressful situation cost them six months of rent and about $2,500 in legal fees, she estimates.She and her husband had a cushion to absorb the costs, but the money came from savings they had put away to fix maintenance issues, such as repainting the property.
Keep a long-term view
The longer you hold a property, the more likely you are to earn a return, says Redfin’s Fairweather. And experts add that because real estate isn’t as easy or cheap to sell as a stock or bond, buyers should be prepared for a long-term investment.
“Buy it as a buy-and-hold income stream play, then hold it for as long as it makes sense to do so,” Pant says.
