While some landlords genuinely enjoy their responsibilities, the rest of us are in the game for one reason: we want to strike a profit. Property ownership is an investment opportunity, first and foremost, so maximizing profitability should be your top concern.
But profitability in property management isn’t as straightforward as you might think. There are actually two dimensions of profitability you’ll need to consider: rental income and property appreciation. With rental income, you’ll strive to collect monthly rent payments that exceed what you’ll pay in mortgage payments, property insurance, taxes, and ongoing expenses like maintenance. With property appreciation, you’ll rely on the steady growth of real estate prices to eventually net you a return on your investment.
When searching for a new property, you can optimize your decisions to favor one of these profitability modes over the other. For example, you could pick out a property that you know you can charge high rent for, despite knowing that home prices are high compared to valuations. Or you could choose a property in a high-growth neighborhood where you’ll currently break even on rent.
So which of these dimensions is more important to favor?
Why Rental Income Is Important
First, let’s consider why rental income is important:
- Cash flow. First, rent is going to help you stay cash flow positive. You’re going to be spending money every month on your mortgage, property taxes, and insurance, so you’ll probably need some kind of income to offset those costs. Even if you can afford to buy the property outright, the extra line of income will help you break even and ensure some degree of financial stability for the present; you’ll only reap the rewards of property appreciation when you go to sell the property.
- Cost mitigation. Rent will also help you cover any unplanned expenses for repairs and maintenance that may arise. Even if you inspected the property thoroughly before buying, you may discover a need for a major repair, such as a roof replacement. The extra cash will ensure you can cover those costs.
- Property occupancy. Focusing on adequate rent also means ensuring your property stays as full as possible, and occupied buildings tend to fare better than unoccupied buildings. Tenants are there to prevent some break-ins and crimes, and pay attention to minor repairs that can be proactively fixed before they turn into big repairs.
The Case for Property Appreciation
There’s also a case for property appreciation being more important:
- Reliability in value. Historically, property values have risen across the board fairly reliably. Finding the right tenant at the right price may be a bit of a battle, but as long as you purchase a property at a fair price in a decent neighborhood, your return on investment will be sure to earn you a profit. If you prioritize property appreciation, you could end up seeing a return far higher than what you’d make just in rental income.
- Long-term focus. Property appreciation is also a strategy made for the long term. Rather than scrambling to make sure you remain cash flow positive every month, buying a property you know will pay off eventually can help you put your mind at ease.
- Liquidity of tenants. Relying too much on tenants can be risky. There’s no guarantee your tenants will be willing to pay the rent prices you need to remain profitable, and there’s no guarantee they’re going to stay for longer than the terms of your lease indicate. That makes property appreciation a less volatile option to optimize for.
Variables to Consider
Obviously, both rental prices and property appreciation have their merits, but there are some important variables that could swing the pendulum either way:
- Rent prices. If the rent prices of a given neighborhood, compared to what you’d be paying on a mortgage, are exceptionally high, it’s definitely worth optimizing for rent. Even if it means seeing a lower return on your property in terms of appreciation, you may be able to charge more than 5 percent of the property’s value. If an area is that in-demand, it’s definitely worth pursuing.
- Personal wealth. You’ll also want to consider how much personal wealth you’ve already accumulated. If you’re able to make a substantial down payment, your monthly costs will be much lower, and you won’t have to worry much about cash flow. You’ll also have a built-in safeguard against unexpected repairs and maintenance, negating another benefit of focusing on rent. In this case, it may be better for you to focus on properties with the highest potential rates of appreciation.
- Time investments. Managing a property to ensure minimal tenant turnover can take hours of your time, but it will cost you even more time to repair a property in pursuit of “flipping” it. Depending on how much time you have to spare (including whether you already have a full-time job), you may lean toward one option over the other.
- Goals and vision. Different people enter property investing for different reasons. If the idea of actively managing a property appeals to you, focus on the rental aspect. If you’re more interested in cultivating a valuable home, property appreciation may be a more enjoyable focus for you.
The Bottom Line
The bottom line is that both rental prices and property appreciation are important to consider if you truly want to maximize your profitability. Without a steady stream of income from rent, your mortgage could drain you dry or put you in a compromising financial position. Without steady growth in your property’s value, your rental income could cause you to barely break even. If you’re new to the game, try to choose a property with a fair balance between these dimensions.
While you’re at it, you’ll want to minimize your risk and make sure everything at you property runs smoothly. If you don’t have much experience, one of your best options is to hire a property management service to handle things for you. Contact Green Residential today for more information about how we can help you maximize your property’s profitability!