The pros of investing in rental properties
Buying rental properties has some big benefits -- namely, that you get to take advantage of high cash flow, tax benefits, property appreciation, and recession-resistance.
One of the largest benefits of buying rental property is cash flow. Rentals are typically a long-term investment that can provide substantial passive income to the owner over time. Cash flow, especially creating passive income, is a significant contributor to building wealth and financial independence.
You can slowly grow your rental portfolio until you have enough passive income to exceed your monthly or annual expenses. Residential rentals are one of the more common forms of income property, but there are other types, like commercial real estate.
Owning real estate, especially rental properties, presents several tax advantages. Rental property owners can deduct expenses relating to the operation and maintenance of the property, including property management fees, property taxes, mortgage interest, and other expenses. They can also depreciate the property over the duration of ownership.
Depreciation deducts a portion of the property’s value over time to account for wear and tear. There are other tax benefits available, depending on the number of rentals you own, but in most cases owning a rental property offers favorable tax advantages.
Appreciation is an increase in a property's value over time. While not always the case, most properties increase in value the longer they're held. Since rentals are typically held as a long-term investment, this lets the owner collect cash flow, gain tax benefits, and potentially cash in on an increase in the property's value over time.
Less risk in a recession
Cash-flowing assets are more likely to sustain themselves during an economic downturn because the investor isn't relying on the value of the home to support the investment. The cash flow supports the property.
The cons of investing in rental properties
Of course, rentals have some downsides, too. Specifically, you have to deal with long-term property management and upkeep and you may find yourself with high vacancy rates.
Long-term management and property upkeep
Being a landlord isn't for everyone. There's a lot of work that goes into maintaining a successful rental property. Finding quality tenants can be tough, things break or need to be replaced, and tenants could stop paying.
You can hire a property management team that handles the active management for you, but their services can cut into your profits and not all third-party management companies are considered equal. Before buying a rental property, make sure you understand what goes into running a rental property and determine if you're willing to commit time and effort to becoming a landlord.
Higher than expected vacancy rates
Rental vacancy is a natural part of owning rental real estate. It's the time in which a property goes unrented and can range from a few days to a few months. Most landlords strive to keep their vacancy rates as low as possible, but sometimes the property can remain vacant longer than expected because of economic conditions, low demand, or asking too much for rent.
Not accounting for vacancy or not having an accurate vacancy rate in your rental analysis can lead to a much lower return on investment.
Flipping houses vs. buying rentals -- which is better for you?
There's no blanket answer to which is the better investment strategy. It's based on your investment goals. If your goal is to earn income quickly, flipping houses may be a better option for you. If your goal is to build your cash flow to earn passive income, buying rentals may be a better option.
Assess how much time you can dedicate to your investing business. While both investment strategies require dedication, effort, and time, rentals often require less time, especially if you use a third-party property management company.
Also, keep in mind the amount of capital you have to invest. If you're short on funds and don't have enough money for a down payment on a rental property, you could flip a house or two to help you earn enough money to buy a rental. It's a common strategy in real estate investing to flip two or three houses and then buy a rental property. This lets you participate in the benefits of both flipping and renting while building a diverse portfolio.
Don't forget to think about your personality and preferences, too. Do you have what it takes to be a good landlord? Or would you be better suited for flipping because, for example, you have a strong eye for design? Weigh the pros and cons of each investment strategy and choose the method of investing that best aligns with you and your financial goals.