Many people think that it is easy to become a landlord – you know, you buy a property, sit back, collect rent every month and enjoy the income. The popular belief is that once you buy a property and rent it out, then you are all set for the next 30 years or so. At least that’s what I was told before I bought my rental property in Philadelphia.
When the real estate market was booming and New York property was already overpriced, many New Yorkers rushed to Philadelphia to look for undervalued properties. The trick was to buy a property before the real estate market prices skyrocket in Philadelphia. My parents’ friends had bought properties in Philadelphia when the average single-family houses were in the sixty thousand dollars range. Luckily for them, they had double their initial investments in less than 5 years.
I had several friends who participated in this “Philadelphia Craze.” One friend told me, “Buy the property now. Sit back and collect rent.” It turned out that many people I know had joined the real estate craze in Philadelphia and bought a property. They all bought a house and rented it out. It seemed like a great opportunity for the people in New York who could not afford New York real estate prices. I certainly couldn’t afford New York properties, and so I searched in Philadelphia. In less than a month, I bought a property there.
At first, I had good tenants. I received rent from them on time in the beginning of every month. It was like a dream come true. I paid down payment for the property and then I get paid every month. I almost believe in the myth that I could just sit back and collect rent for the next 30 years.
Just when I thought it was easy to be a landlord, my luck struck out in 2008. My good tenants moved out. The new tenants were terrible. They did not pay rent for many months and would not leave the property. They also caused a lot of problems. I tried to evict them in court but they exploited loop holes in the legal system to postpone court dates. They played games to delay and avoid paying rent.
Owning a rental property is like owning a business. It requires time and energy. Even if you have good tenants, you need be ready for any problems that may arise. Most of us do not start a business and think we can make money by doing nothing. Instead, we would expect that starting and running a business take time and hard work. The same mindset should go for owning a rental property.
Owning a rental property can be hard work and time consuming. Below are some myths about owning rental property.
Myth #1: I just need enough money for the down payment to buy a rental property.
There are many costs associated with a rental property apart from the initial down payment. You would definitely need extra money for the rainy days. The house may be in need of sudden repairs and you would need to have some cash to back yourself up. Also, it’s no guarantee that you can always rent out the property. Sometimes it may take months before you can find a new tenant after the old one leaves. In events like that, you should have adequate savings to help you ride through tough periods for the time being.
In my situation with the bad tenant, I did not receive rent payment for 9 months. I had to dig into my personal savings and pay mortgages and other costs associated with the house. My cash flow was negative for many months. Therefore, I would suggest landlords to have approximately 12 months of rent money for backup.
Reality: Down payment is usually not enough for buying a rental property. You need about 12 months of rent money in addition to down payment and closing fees.
Myth #2: I can sit back and collect rental payment every month from my tenants.
Many people think that once you buy the property, everything else goes on autopilot. You think that you would sit back, cash checks and get fat. More often than not, you would be busy dealing with tenants and making regular repairs to the rental unit. You can hire a real estate agent to take care of it for you, but it will cost you money. And even with an agent, you cannot just sit back and forget everything. Since it is your property and not your agent’s, your agent will not be too concern about your property if you don’t care much about it. Be prepared. Rental property owners should be hands-on with managing the property.
My friend had hired a real estate agent to look after her property. She told me that all they do was collect the rent checks, deduct the service fees and pay the difference to you. If there were problems with the house, the agents would not always react right away. Often they would call you for a decision. In which case, they would suggest calling a third party, recommended by the agent, to make repairs. My friend thought that her real estate agent was useless, because even after hiring the agent, my friend was on the phone several times a day whenever there was an issue in the house. She was doing the same amount of work regardless if she had an agent or not. She canceled the service and save on the monthly service fees.
Reality: A rental property requires your attention and prompts for your actions. You have to be proactive.
Myth #3: I will buy a rental property and get rich.
Many people think that buying a property will help make them rich soon. They may have seen other people get rich from buying property and is always the exceptionally good news that travels down everyone’s ears. For example, your friend tells you that he had purchased a house at some place and made a phenomenal return on his/her money. Hearing that story, you would definitely make as much as him/her and rushes to buy a house.
I admit it; I was one of them when I bought my house in Philadelphia. I heard many people made 100% or more returns when they sold their properties in Philadelphia. The rumor at that time was that the housing market in Philadelphia would increase significantly. The local economy was thought to be booming and the job market seemed to be doing well. My friend told me that real estate prices would most likely double in two years. I thought about it and it seemed like a good investment at the time.
Unfortunately, I got in the real estate market at near the peak. The prices had dropped since then. The current value of my property is probably 30% lower than what I had paid for it.
Now I am in debt with a mortgage that is probably worth more than my house. I also have other monthly expenses associated with the rental property, such as insurance, real estate tax, etc. I have not seen positive cash flow for a very long time.
Reality: Buying a rental property is not a guarantee that you will get rich.
Myth #4: The house will care for itself
People think that if they buy a property and successfully rent it out, then they are all set. It’s easy to forget that the house goes through wear-and-tear each year. The house needs maintenance every year or so. There are many things to be checked. For example, the roof needs re-coating every two years. The heating system and house equipment need to be checked regularly. It is in your best interest to detect problems early on. Usually finding out the problems and fixing them soon help save money for you.
For my property, I had repaired and replaced many things. To name a few things, I had bought a new stove and a new washer machine. I had to shell out a lot of my money in my savings account. This is also where some extra money can help. The rent money alone was not enough.
Reality: The house will need to be checked regularly.
Myth #5: My contractor will fix everything
People rely heavily on their contractors to do the work for them. The contractors will tell you something to make you believe that they are better than you and they will do the job right. And if you do not know any better, you would believe them.
I doubt contractors have your house in their best interest. Most contractors try to get the job done as soon as possible without you bothering them. Often, the quality of the work is mediocre. This is especially true if you are far away from the property, like I am. I learned that it is best to inspect the job after it is done by the contractor. This gives you an opportunity to examine the quality of work that was done by the contractor. And if the work was not done correctly, you would have to tell the contractor. It is your house, so you have to place your high attention to it.
Reality: The contractor does not have your house in his/her best interest at heart. You need to inspect the work and follow up with the contractor.
In conclusion, the myths present owning a rental property seems easy, but in reality, there are many hours of work behind the scenes. As always, do your due diligence before investing in the real estate market. And if you are seriously interested in getting your foot in the real estate market but do not want to get your foot dirty, there is an alternative option – real estate investment trust (REIT). REITs are securities that you can trade in the stock market. You do not have to deal with tenant problems in REITs and you will often receive a nice dividend for holding REITs. REITs are the preferred investment choices for investors who want to participate in the real estate market and do not want to deal with the hassles.