What Are the Rules for Buying Rental Property?

Save yourself property management costs by learning the basic regulations surrounding rentals.

There are no "rules," for buying rental property, per se. But there are some guidelines you might want to consider to help you narrow down worthwhile potential property prospects. Not surprisingly, most of the guidelines have to do with the bottom line -- money. If you are buying rental property to increase cash flow and net worth, these are the issues that matter.

Cash Flow

Some time before the housing bust in some parts of the country -- notably in the high-price states like California -- some casual investors bought rental property based solely on an expected appreciation rate derived from past performance. In good times or in bad -- especially in bad -- this is a big mistake. No matter what has happened to the market in the past, you have no idea what will happen in the future. Ensure your solvency by buying a property that throws off money. That is, buy a property that brings in more in rent than you will have to spend on carrying costs -- mortgage, insurance, taxes, utilities and maintenance. Not only will this property shield income from taxes through depreciation, it will put money in your pocket year in and year out, no matter what is happening in the larger housing market.

Sweat Equity

If you are handy around the house, especially if you are capable of tackling a kitchen or bathroom remodeling, look for a light fixer: a building that is visually, but not functionally, worn down with outdated kitchens and bath, and in desperate need of some paint. These are some of the easiest and most cost-effective improvements you can make. They will allow you to raise rents immediately and they will add to your equity in the property. Avoid properties that will need system upgrades like new heating and plumbing systems. Costs are high and these improvements will have negligible effect on rents.

Value Added

Sweat equity will add value to your property, and so will a number of other actions. If you understand zoning and your property straddles two different zoning districts, an approved application to change the zoning designation of your property could have a strong positive effect on the property value. If you legalize a formerly illegal dwelling unit, expand occupied floor space into an attic or basement, or organize a neighborhood street-tree planting effort, you will have boosted your property value with relatively limited costs.

Location

You know what to answer when someone asks what the three most important things about real estate are: location, location, location. If you buy a property a million miles from anywhere, no amount of sweat equity and value added will help you. And even if you buy with a positive cash flow, once your tenants leave, you will have a very hard time finding new ones because you will still be a million miles from anywhere. Buy a property close to jobs, schools and public transportation, with a low crime rate. If you can find one that's also close to other amenities like public open space, attractive commercial shops and maybe a selection of religious facilities, you will have hit the jackpot.

References

• Realty Times; Real Estate Investment 101; Broderick Perkins; September 2009
• The Part-Time Real Estate Investor; How to Generate Huge Profits While Keeping Your Day Job; Dan W. Blacharski; 2007