It’s always good to bring in a little extra money on the side, right? Making money outside your day job can give your net worth a boost—not to mention give you some extra peace of mind. Maybe you’ve also heard about passive income and that renting out a property is a popular way to do it.
But before you jump in feet first, there are a few things you need to know when it comes to rental real estate as a source of passive income.
Let’s break it all down.
How to Earn Passive Income From Rental Properties
First, let’s set the record straight on passive income. Passive income is money you earn from a source that doesn’t take a lot of effort from you to earn. It could be investments in stocks or bonds or income from real estate, just to name a few.
In general, passive income is great. It can boost your retirement savings, help you retire early, or simply help you reach your wealth-building goals faster.
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Now, there are lots to ways to invest in real estate, but let’s take a closer look in particular at owning rental properties and why it’s such a popular way to earn a passive income. Rental properties can be a great source of passive income once you get a rental up and running.
We mention that because it’ll take some effort at the start (especially if you need to make some updates at the get-go to make it rental-ready) so it’s not completely passive. But it can provide a monthly income flow without you having to participate in any kind of daily work.
Rental properties can be a great source of passive income once you get a rental up and running.
How Much to Spend
Listen: If you’re looking to buy a property to rent and you’re brand-new to the rental game, think modest, stable and middle of the road. Don’t get fancy with your very first rental.Plan to pay cash for the place you want to rent out. Going hundreds of thousands of dollars into debt in order to “invest” in real estate is never a good idea! If you can, buy something that’s priced at about 70% of what it’s worth in the current market. You’re trying to make money on the investment if at all possible.
Where to Buy
In general, homes in areas with good schools and a good reputation tend to appreciate better than lower-priced properties (like apartments or condos). Look for properties in a solid neighborhood where real estate prices have been increasing over the years.
It’ll also attract the kinds of renters you need—responsible tenants who are less likely to damage the place or be unpredictable when it comes to paying you rent.
Rentals that are close to public transportation or major highways into town are usually popular with renters. Keep your eye out for any big companies moving to parts of a city to open offices or other factories.
Local is usually best for your first rental property so you can keep a close eye on your investment. You don’t want your first rental to be out-of-state in a place where you can’t regularly check on the condition of the property.
Local is usually best for your first rental property so you can keep a close eye on your investment.
If that’s the case, you would need someone else to manage it (more on that in a minute). But if you choose a city with a good rental market and job growth along with reasonable state taxes, it can pay off in certain situations.
What to Buy
First, you need to decide what you want to get out of the rental. Do you want an apartment with regular renters and money coming in for a longer period of time? Or do you want a house that you plan to sell for a profit within a few years?
Buying foreclosures can be a good way to get a good deal on a property if you’re thinking about selling pretty soon after buying and renovating. However, you generally want to avoid money pits and fixer-uppers when you’re planning to rent a place. You want something that’s attractive and almost move-in-ready—not a huge project to take on during the front end of the deal. If you don’t plan to manage the property yourself, a property agent will handle almost everything for you—from collecting the rent to dealing with repairs and complaints and even evictions. You’ll pay a commission to the agent, but it takes the stress off you if you’re too busy to deal with these issues.
Always talk to a real estate agent about how much rent you should charge so you’re not expecting too much. And be sure the rent coming in each month adequately covers expenses like maintenance, HOA fees and homeowner’s insurance. Otherwise, you won’t make any money!
Happy Tenants Are Easier Tenants
If you do happen to manage the place yourself, do the right thing and contact your tenants every few months to make sure they don’t have any concerns. A simple email will usually work. Don’t call them every week and make unannounced visits. You should honor their privacy, but let them know you’re available if they have any issues. Before tenants move in, make sure the hot water and heating and cooling systems work well. If your rental is a house, get a professional home inspection before you rent it to fix any urgent repairs.
When Should You Consider Investing in a Rental Property?
We can’t stress this enough: You should be debt-free before you think about buying a place to rent. You should also have a fully funded emergency fund, which means 3–6 months of expenses covered.
You should be debt-free before you think about buying a place to rent.
Having an emergency fund when you’re a landlord is especially important because of unpredictable events like repairs, missed rent or periods in between renters.
And remember, being able to pay in cash is key to funding any real estate deal. You should also be investing 15% of your monthly income into retirement accounts such as 401(k)s and/or IRAs, and still be able to keep this up once you’ve bought your rental.
No source of passive income is worth it if it puts you into debt or cuts into any of your other financial goals!
Get Help From a Professional
If you’re still wondering if a rental investment is right for you and you’re not sure where to invest, then you need the help of a good real estate agent to guide you.
This is too big of a decision to make alone, and these guys are pros when it comes to the local market and all the details of buying and selling.
That’s why it’s a good idea to get connected with an Endorsed Local Provider (ELP) in your area who you can trust. Find a real estate agent today!
These are general guidelines. Your situation may be unique. If you have questions, connect with a SmartVestor Pro.