Why investors love rental homes

Today's real estate profit opportunities

By Robert J. Bruss Inman News

Depending on the residential rental demand in your community, rental houses and apartments may or may not be a superb real estate investment opportunity for your situation. Some towns have an oversupply of rentals (such as Phoenix, Ariz.) so rental houses and apartments obviously aren't great investments where there are too many rentals available. The same principle obviously applies to other types of properties, such as office buildings and warehouses, where there are lots of "for rent" signs.

Personally, I've done quite well with rental houses for many years. Overall, they have proven to be the safest and least risky long-term investment in most communities. I prefer single-family rental houses because they are so easy to buy, finance, manage and profitably resell. Also, if the local rental market is slow, there is always a strong market for lease-options. For more than 25 years, I have used lease-options to profitably buy and sell houses, including my personal residence.

The primary reason single-family rental houses have proven to be so profitable is their long-term appreciation in market value is driven by buyer demand for houses, not by their rental income (as is true for apartments and other rental properties). However, this leads to the primary drawback of most rental houses: they usually don't produce enough rental income to result in a positive cash flow.

EXAMPLE: When I began investing in real estate, the basic criteria to earn a positive cash flow from a small investment property of one to four units was the monthly rental income should be at least 1 percent of the property's market value. To illustrate, if a rental house cost $100,000 to purchase, it should produce at least $1,000 per month gross rent. Those were "the good old days." Today, a landlord of such a house is lucky to earn 0.75 percent of its market value in monthly rent. In other words, the prices of homes have outpaced the rental income that can be earned from them. The higher the residence's market value, the worse the disparity with attainable rent. Just a few days ago, I was talking with the owner of a house worth $1.2 million who wants to rent it to tenants. He told me the highest rent he can get is only $5,000 per month, not enough to cover his monthly mortgage payment of about $7,500.

Rental-house investors in small towns often have a big advantage where residence market values have not risen as fast as in most large cities, but the rents have kept pace with inflation. I know several investors in smaller cities who come close or sometimes even exceed the 1 percent per month of market value rent criteria. If you enjoy living in a small town, consider the advantages of owning residential rental properties there. Several excellent recent books on this topic include "Investing in Duplexes, Triplexes and Quads" by Larry B. Loftis; "Building Wealth One House at a Time" by John W. Schaub: and "Start Small, Profit Big in Real Estate" by Jay P. DeCima.

I do not recommend buying a second or vacation home in a vacation area. The primary reason is the demand can be very unpredictable in such areas. Currently, the buyer demand is strong in most vacation areas, but it is weak in a few others. The high price of gasoline is sure to affect demand for vacation homes in weekend resort areas.

If you decide to buy such a secondary personal residence, it is best to buy during the off season when buyer demand is low and sellers who have their properties listed for sale are usually highly motivated to sell. A good book to study on this topic is "The Cottage Ownership Guide" by Douglas Hunter. It explains the pros and cons of owning property in vacation areas, including renting, sharing and selling these specialized residences.