The First Commandment of the Flip: Buy at a Discount
This is good advice because it preserves your options: If you can buy at a discount, you not only have every advantage going into a flip, but you’ll have a much easier time renting it out for more than you are paying out in mortgage, interest, maintenance and taxes. It’s simply much easier to create a cash-flow positive property from a house you buy cheap than from one for which you pay full price.
Many times, you actually have an option: You can continue flipping the property, or you can rent it out and use the proceeds to finance future acquisitions – or for yourself. Which is better?
The answer, for most, is either one, but not both! At least, not at the same time. Few people excel both at being a property flipper and a landlord. The two require different mindsets: The flipper is a hunter, always on the lookout for his next deal; the renter is a farmer, looking to cultivate his farmland to provide a generous yield every year.
Both approaches can generate very good results over the long haul – if you do them right. But before you get involved in playing landlord, ask yourself a few questions:
Do I Have What it Takes to Evict People I Like?
If you’re in the landlord game long enough for enough properties, sooner or later you’re going to have to make the difficult choice to evict a sympathetic tenant. We’re talking single mums, kindly grandmothers, nice families with a breadwinner out of work, and the like. In some cases they could be friends or relations – which is doubly tricky.
Sure, you can step out of the process altogether and have a property manager handle the eviction based on protocols you define – but that doesn’t absolve you of the responsibility to make the difficult decision. It only isolates you from the consequences for the tenant.
But if you are a real estate investor, you have to be willing and able to do this. Indeed, if your tenants know you will, your chances of having to do so are lower.
Do I Want the 3 a.m. Phone Calls for Plumbing Emergencies?
Being a landlord means you’re always on call. You can never really be “on vacation” because when the phone call with a big maintenance problem comes, you still have to deal with it. If you’re flipping houses and you want to take some time off, you can do so. Just don’t buy a new place right after you sell one. But being a landlord is a 365-day commitment every year.
Can I Handle the Risk?
You have heard it said that flipping real estate is risky, and there’s a big chance of loss. But I say that rental real estate is at least as risky as flipping, for one simple reason: liability. Your risk is minimal if you’re flipping unoccupied houses, or you don’t own them for very long. But your risk is substantial if you are renting the place out to clumsy, careless or irresponsible people. If someone gets hurt and they can attribute it to your property, they’re coming after you.
Mitigating against this risk takes careful planning, well before the potential lawsuit occurs. For example, you definitely should be speaking to an attorney about using entities to separate your properties from one another – so that one person who slips on a tile floor cannot sue you and unravel your entire enterprise. But even if they win a lawsuit and attach just one property that’s a pretty big ding on any small real estate investor.
Who Will My Likely Tenants Be?
The better the neighbourhood, and the more substantial the home, the better your tenant quality is likely to be, and the fewer the headaches. Potential issues that landlords encounter include:
1. Late-payers
2. Partial rent payments
3. Crime
4. Drugs and drug labs
5. Depressed property values
6. Drama
This has nothing to do with area. This is true in all neighbourhoods, not just those usually associated with lower socioeconomic status or higher unemployment rates.
All these issues will not just generate risk: They will also create demands on your time. You must compensate by demanding a lower price, higher rents, or some combination of the two. You can also expect any future buyer will also demand price concessions for the same reasons.
Do I Know the Landlord/Tenant Laws in My Area?
Some areas are much more tenant-friendly than others. One key factor: How long does an eviction take? Some areas can clear out your property in a few weeks with a legal eviction order. Other jurisdictions let the process drag out for months – during which time you aren’t getting rental income, but still on the hook for your own mortgage, taxes and insurance payments.
You also need to take into account any rent control provisions, zoning restrictions on the number of people who can live in a given house, restrictions on security deposits, and access restrictions: You can’t always just walk into a home you own.
Working with a good attorney early in the landlording process is a must – from the property acquisition through the development of the lease agreement and through the eviction process. The rules are extensive, vary by jurisdiction, and it takes a full-time commitment to keep up with them all.
Tenant screening is hugely important. Indeed, it’s a make-or-break issue for rental property owners. But the rules are complex, and it’s easy to get in trouble over discrimination and fair housing rules. Make sure you know the rules going in.
Advantages of Renting
That said, there are significant advantages to renting: You get a steady stream of passive income – which you can use to borrow against to enhance your flipping practice. Renting a cash-flow positive property can also buy you time with a difficult flip: You have an income cushion to see you through if a flip takes longer than anticipated. You can also be a little pickier when courting buyers: Your rental property will still put groceries on your table (though you shouldn’t be cutting it that close).
Successful renters can also relax a bit more between deals. The pure flipper is a hunter – and must always be hungry and on the prowl for the next deal. The renter is a farmer. If he cultivates his fields, they will provide.
Rental properties are also a nice hedge against disability, illness or life changes. The day may come when you can’t put in the time and relentless energy it takes to flip properties anymore. A rental portfolio is there, through disability, illness, unemployment, and nearly any other economic hazard you can name … except perhaps a collapse in rent payments!
Finally, a nice rental portfolio is a beautiful thing to pass on to the next generation. You cannot pass a flipping business on to the next generation, unless they are dedicated flippers, too. And if they are, they don’t need you to do it. A rental portfolio, though, is a potential source of income, security and wealth for generations to come. Indeed, historically, landownership is the most long-lasting and reliable legacy and source of family wealth, going back to the ancient world.
That said, combining the two approaches is very difficult. The more time you spend attending to landlord problems, the less time you will have for flipping. So if you are a die-hard hunter – if you were born for the hunt – be wary of getting sidetracked too early in your career. But at a certain point, you might want to plan a transition.
By Jason Van Steenwyk
Read More: http://www.realestate.com
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