Buying a property is seen by many people as a great way to make passive income. However, deciding to buy a rental property is a decision that needs to be made objectively with emotions cast aside. While most people will focus on why someone should buy a rental property, the reasons not to are often overlooked. This article will focus on why a rental property may not be a great investment in 2022.
Let’s start by making one point clear; our aim is not to discourage you from investing in rental property. Instead, we want to help you recognize that any form of investment, including real estate, should result from a careful and objective analysis of risks and opportunities.
To ensure that we are all reading from the same page, let’s start by defining a rental property. Bankrate.com, the New York-based financial services company, defines a rental property as “real estate that you buy with the intention of earning investment returns through rental income...” If you buy the home intending to preserve or grow value, the property is also called an investment property. Bankrate.com acknowledges that “purchasing a second house deserves some serious thought.” The site adds, “After all, owning a rental property is more complex than plumbing in the occasional sink faucet or fixing the air conditioning when it collapses on the hottest day of the year.” Now that we are clear about what a rental property is let’s look at some reasons why investing in one may not be a great idea in 2022.
Many people buy rental property intending to get additional income. However, the anticipated income is not always guaranteed. This lack of guarantee can be looked at from two fronts. The first is when you can’t get a tenant to rent your property, and the second is when the tenant in your property fails to pay the rent.
According to 2022 residential vacancies and homeownership statistics published by Census.gov, the US national rental housing vacancy rate was 5.8 percent. This means that out of every 100 houses seeking tenants, six were empty at the time when data was collected. If you are paying a mortgage for your rental property and are part of the 5.8 percent struggling to get a tenant, the payment must come out of your pocket. This could drain your finances, especially if you also have to pay the mortgage for your primary home. For most owners, the stress comes from realizing that when their house stands empty, they are losing potential income every day.
Sometimes tenants fail to pay because their circumstances have changed. For example, they have lost a job. Sometimes a tenant wants to take a chance and see what happens when they do not pay. Whatever the reason for a tenant not paying the rent, the reality is that you will suffer financially in the short term. The challenge faced by a landlord caught up in this situation is captured by Nolo.com. This company offers legal and business advice. It says that a landlord cannot throw a tenant who fails to pay rent out into the street without a court order. Getting a court order is often a painstaking process that may cost you money.
Tenants who fail to pay rent are one problem. Still, you may have tenants who can afford the rent but will run down your property so that by the time they leave, you may need to use all the money you collected from them to repair your house. Of course, this is an extreme example, but you get the point. One major problem you should be prepared to deal with when renting out a house is tenants subletting without your permission. Even when tenants are not subletting, they may allow friends or relatives to stay who cause a nuisance to neighbors. Sometimes this could attract fines directed at you as the house owner.
Andy Rachleff writes for the asset management company Wealthfront.com. He argues that it’s hard to generate a compelling return from an investment property. Rachleff notes, “Not all home values appreciate, and that’s OK as long as you can afford your monthly payment and enjoy where you live.” He adds, “But an investment property that doesn’t appreciate represents an enormous opportunity cost because your down payment could have been invested elsewhere.” Rachleff acknowledges that to generate a compelling income, your property will need to escalate in value significantly. He also agrees that “it’s difficult to charge enough rent to offset the full cost of carrying the property and the real estate broker commission.”
According to the American nonprofit media organization, npr.org, “Low-interest rates, high rents and working from home combined to push many young Americans to buy their first home over the last two years.” While this may be desirable news for sellers, it isn’t good for rental property buyers because demand drives prices higher. Your mortgage is also likely to be high if the price is high. Recouping the high mortgage through rental income may be a considerable challenge. Considering that interest rates are likely to go up as the government attempts to slow down inflation caused partly by the escalating oil prices driven by the war in Ukraine, monthly repayments on mortgages are also likely to go up. However, negotiating to raise rent may drive away good tenants under pressure from rising inflation.
Usually, the down payment and other costs required to invest in a rental property leave you without much money to create a diversified portfolio. This means that you have all your eggs in the same basket. If you put your money in more liquid investments like stocks or bonds, your options are more flexible as you can quickly sell when you need cash. On the other hand, if you decide to offload a rental property, it may be months before you get a buyer.
In her article published by CNBC.com, Kathleen Elkins quotes an investment manager who says that “Buying a home is usually a terrible investment.” The investment manager Elkins cites is Peter Mallouk, a certified financial planner. Mallouk supports his idea by saying that owning a home is usually a bad idea because it drains your financial resources. He says, “You’re paying property taxes, you’re paying maintenance, you’re paying insurance. There are all of these other things that happen with your home that you’ve got to pay for.” Elkins notes that many people who buy homes have learned this truth the hard way. She also reports that the number one aspect that Millennials who own homes regret is that they overlooked the hidden costs. This could easily happen to you if you don’t think carefully before purchasing a rental property. This challenge can be mitigated by using a rental property calculator to compute every aspect of your rental property’s investment prospects.
There are all sorts of claims made by people selling different property investments, including the assertion that you are about to participate in a get-rich-quick scheme when you buy a rental property. If you are buying your property lured by such promises, we wouldn’t advise you to invest. Getting rich quickly in property investment – or any other investment that is not a lottery ticket – requires patience, knowledge, time, and effort that take a long time to
accumulate. Therefore, if you want to get rich from investing in property, you will need to be ready to work for it.
As we stated at the beginning of this article, our aim is not to discourage you from investing in a rental property. We hope that the article helped you to think carefully about whether property investment is for you. Like you would do before you decide to make any investment, you will need to do your research. As part of your research, look at the area where you want to buy the investment property, the time required to manage the property, and any other unforeseen issues you may face. If you indeed decide to go the rental property investment route, it is also vital to keep your expectations in check. Many people aspiring to go into rental property investment tend to focus on the best-case scenario, hoping that they will have tenants at all times and that such tenants will be willing and able to pay the rent charged.
An important aspect to consider is the maintenance of the property. No matter how good your tenants are at looking after your property, the reality is that wear and tear will always occur. Usually, these are expenses you will need to take care of. If you are not adequately prepared, they may jeopardize your finances. Getting an idea of the expenses you will need to take care of when investing in a rental property is relatively easy if you have a rental property calculator. It can help you determine your cash flow, how much of your mortgage will be interest versus principal, your rate of return per year, your total return, and your asset’s depreciation.