First time real estate investors will get off to their best start by avoiding purchases in expensive rental markets. While the temptation for making high returns on rental fees may seem appealing there are pitfalls associated with this strategy. Here are some of the reasons why it may be a good idea to stay away from this market and alternate strategies for making investments with a higher potential for the best financial outcomes.
Buy low and sell high
This is an old adage used by the majority of people who invest in anything, and real estate is no exception. Purchasing real estate in an expensive market could spell trouble if the market slumps and values decrease. You could end up owing more on an investment than its total value. What is worse, you may need to decrease rent to keep tenants on a regular basis. Once you’ve signed the agreement, you’re locking in and financially obligated so proceed with extreme caution.
Appearances can be deceiving
Because of lukewarm movements in wage increases, there’s not a lot to talk about because the situation is fairly stale with wages staying about the same or increasing slightly. The job market is still unstable and people do abruptly become unemployed. Having said this, the cost of homes is decreasing insome areas which makes this a great time to invest in real estate for rentals if the given market conditions in your area of investment are reasonable. If you’re new to real estate investment then this information is for you. Just because you can get in on what appears to be a good deal in real estate, particularly for single family residences with high rent potential, there are other factors which can make it a poor investment choice over others.
High demand for rentals vs affordability
While it is true that there is currently a high demand for housing the caveat here is that affordable housing is in the highest demand. Homes which have the potential for high rent may not necessarily be as attractive as something that is more within the means of the renters. If you get lucky, you my be able to attract renters who are willing to pay the estimated rent value of the property you’re purchasing, but with the current outlook on wage averages, the odds are more in favor of the need to lower rent to attract tenants. You may well end up with a high end rental that remains vacant for a period of time. This is doubly the case if you purchased while the market was expensive and the situation turns around.
The annual property taxes and other state and local assessments will be higher on real estate bearing a higher assessed value. You will be required to pay them whether you have tenants or not. This is an important consideration when making any investment. While it is reasonable to assume that a portion of the rent will cover these expenses, there is no guarantee of continuous income streams unless you have a signed lease and renters who have quite well paying and secure employment.
Maintenance and repair costs
Depending upon the type of heating and cooling systems installed in the home or units, repair costs may be very expensive. This is particularly true of homes which have been recently updated with new units and especially for those which feature state of the art technology features. There are also plumbing concerns, electrical wiring and any landscaping that needs to be tended to. The more upscale the rental, the higher the maintenance and repair bills will be. You’ll need to be prepared to pay them as they arise. A burst pipe, a gas leak, evidence of previous damage including dry rot or sewer issues can become cost prohibitive fairly quickly. Unless you’re a jack of all trades and able to make the repairs yourself, this is an important consideration to make when choosing your real estate investments, the market conditions for the area and the desirability of the area.
Acts of God
Most insurance plans do not cover natural disasters. If the real estate that you’re planning to purchase is in an area that is subject to flooding, severe weather including wind, rain, hail, range fires or earthquakes, you put yourself at a significant financial risk. Coverage for these type of events is very expensive if it is even offered at all. Most insurers will consider their risk for loss in addition to yours.
Distressed homes with high potential
We see thousands of once beautiful and upscale homes now on the foreclosure list and offered as fixer uppers. While there may be a tremendous potential for successful repair and updating, it’s important to get a close idea of how much it will cost to accomplish your goals of restoration. This needs to be weighed against the value of its rent potential, the average median household income in the neighborhood and the average rental prices which are being asked for and successfully acquired in the community. The livability scores of the specific neighborhood can also have a tremendous impact on the rentability of the investment property that you are considering.
Timing is everything
Purchasing real estate when the market is expensive is like paying full price when you can wait a little longer and buy something when it comes on sale. With fluctuations in real estate markets, it’s best to enter into any investment deal at the best possible time. Avoid investing during a seller’s market because you’ll become contractually obligated to pay more. Wade into investment when it becomes a buyer’s market because the conditions will be in your favor for achieving long term success.
Is it possible to get a good deal in an expensive market?
The answer to the question is yes, it is, but they are few and far in between. What may appear to be a good deal may in fact be, but there are generally reasons why a property would sell below market value. These are the things that could end up costing you in the long run. In general, new investors should avoid buying under expensive market conditions, but there are some exceptions. It pays to be vigilant and check out all of the small details before you make the final commitment.