When it comes to buying rental property, there seems to be one thing that concerns or deters potential investors the most: how much will it cost? Of course, this concern is valid. After all, buying rental property is a major financial and investment decision; one that could help you get rich, one might add.
There are many costs associated with buying rental property, all of which can impact an investor’s decision to buy. So, for the aspiring real estate investors out there who want to get an idea if they can afford buying rental property, here’s a list of the costs to consider:
1.) Down Payment
Probably the most fundamental cost to discuss is the down payment. Whoever came up with the idea of down payment, bless your heart. Because of down payments, investors do not need to purchase a property fully in cash. Instead, a loan can cover a large portion of the payment, while the investor pays initially only a much smaller percentage. This percentage might vary, but most loans have a down payment of 20% of the purchase price. If a real estate investor has had 4 mortgages or more already, the down payment will boost to 25%. Of course, paying back the loans comes with an interest rate. The rate depends on the loan amount and the number of years to pay back. For instance, most 15-year fixed loans have an interest rate of over 3.4%. Be sure to consider the costs of the down payment and the interest rates of the mortgage when deciding whether buying rental property is affordable at the moment or not.
2.) Property Taxes and Homeowners Insurance
Property taxes and homeowners insurance are two costs that will partially depend on the location of the property. Property tax is a tax that is particularly paid on real estate. The tax is used to fund services like removing garbage, fixing roads, and building schools. The rate of property taxes will depend on two things: the market value of the property and the property’s tax rate. Both values are influenced by the property’s location. For instance, some areas even within close proximity have higher property tax rates than others.
On the other hand, homeowners insurance is a type of property insurance that protects one’s property. This insurance will cover damages that could result in major losses for a real estate investor otherwise. Rates for this insurance will also vary depending on the property. A property’s location can influence the rate, too. Properties in areas prone to natural disasters will have higher rates. Assess your location, and see if it significantly impacts your ability to buy a rental property. If so, you could look into other location options including out-of-state real estate investing.
3.) Homeowners Association Fees
Here’s another cost that will depend on the area of your property. Homeowners Association fees are fees an investor must pay if the property is part of a planned community. Some communities include condominiums, single-family homes, or multiple units. These fees are paid monthly, so they definitely affect one’s decision related to buying rental property. The fees are used to help maintain the community’s properties or add shared amenities to the properties, like a swimming pool. The fee could vary. Usually it is in a range of $100 to $700, but the average is about $200. If you plan on buying rental property in a planned community, consider these association fees.
4.) Maintenance and Vacancies
Once you have tenants, costs for maintenance will start to pile up. Maintenance should cover up anything that allows the property to run properly. The costs of maintenance will depend on the condition of the property while it is rented. A good starting base is around 10% of the rent. Having good tenants and good property functionality should lower the costs of maintenance.
When a tenant leaves and the property remains unoccupied, you have a vacancy. Vacancies will hurt your cash flow, so it’s always a good idea to set some money reserved for when a vacancy occurs. The cost of vacancies will depend on how long the property is vacant for and the condition of the property. About 1% of the property’s value would be a suitable cost to cover the vacancy.
5.) Repairs and Utilities
Covering repairs and utilities is an ongoing process. Whether the property is occupied or not, you will have to cover these costs. The costs of utilities tend to be pretty straightforward, depending on what services you will cover and what is covered in the rent. The costs of repairs, however, is not as constant. Features and items will need repairs at random times, and they must be repaired immediately, especially if a tenant is occupying the property. Most investors tend to underestimate the costs of repairs, so when you plan on repairing, go ahead and overestimate the costs.
6.) Closing Costs
Closing comes into play when an investor is buying rental property. Doing so brings along some closing costs. Closing costs typically include interest, appraisals, title insurance fees, recording fees, tax certificates, and more. Collectively, closing costs could cost around 2-3% of the mortgage loan amount.
Buying rental property sure does require a significant amount of money, but it definitely pays off in the end. There are tons of financial benefits to owning a rental property, including long-term rental income, equity, and tax advantages. The initial costs might be hefty, but keep your head high and aim for positive cash flow!
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