Everyone – almost everyone – knows that owning rental properties is one of the best ways to begin your journey toward a life of financial freedom. But what most people who like to talk about property investing don’t know, Reside Rentals points out, is how a rental property makes money for its owner.
As an aspiring property investor or existing investor looking to improve the returns on your rentals, this is vital knowledge for you. Why is that? If you don’t know what influences the profits you make on a rental property, how can you know what levers to pull to improve those profits?
Today, we will talk about the different ways you can make money on a rental and what you can do to improve these income streams.
How does a rental property make money?
There are four primary ways that investors can make money from a rental property.
1. Cash flow
Cash flow refers to how much money you have left each month after you deduct your expenses from the rent. You want your rental to be cash flow positive from the outset. A rental property is cash flow positive when it generates more money than you need to spend to keep it running. How can you be sure that a potential rental property will be profitable before you buy it?
That depends on the characteristics of the area where the rental is located rather than on the physical condition of the property. As a rule, you only ever want to invest in locations with low crime rates, top-tier school districts, access via multiple roads, booming local economy, lots of amenities, and high demand for the kind of rental property you own.
Since cash flow is the primary way you earn money from a rental property, you should also look for opportunities to improve cash flow. Here are some of the tested ways to do this:
- Reduce tenant turnover: Long-term tenants help you save and earn money.
- Furnish the apartment: Certain categories of renters prefer a furnished apartment and are willing to pay more.
- Offer add-on services: These services can be part of the rent or charged separately.
- Consider short-term rentals: Short-term rentals typically make more money than long-term leases.
- Add extra storage: Most rentals are short on storage space, and renters are often more than willing to pay higher rents for additional storage.
- Allow pets: The majority of landlords have a “no pets” policy. Tenants who have pets are usually affluent enough to afford higher rents.
- Optimize for remote workers: Remote workers will pay more if a rental has a well-lit space that is quiet and away from the rest of the apartment.
2. Tax credits
Another way that landlords make money on their rental property is by taking advantage of tax benefits. These benefits exist because the government recognizes the role landlords play in meeting people’s housing needs. Tax deductions are offered as a way to reward landlords for their services. Landlords can make tax deductions on a host of expenses for their rental.
Some expenses that qualify for tax credits include interest on mortgage payments, repairs & maintenance, insurance premiums, utility bills, depreciation, HOA fees, professional fees, and marketing & advertising costs, etc. To ensure you are not passing up opportunities to make money via tax credits, you should talk to a qualified accountant.
3. Property Appreciation
Property appreciation is any increase in the market value of your rental property. The rate of appreciation largely depends on the state of the housing market in the locality where the rental is located. If your property is in an area with potential for future growth, you can expect the value of the property to appreciate rapidly within a few years.
Aside from market forces, it is also possible to take direct action to improve the market value of your property. You achieve this by renovating the property in a way that improves its functionality and aesthetics, thereby making it more attractive to renters.
4. A source of capital
One well-managed rental property can serve as a springboard to help you buy more properties. Firstly, the rent you earn from the property will help you pay the mortgage. In other words, apart from your down payment when you bought the home, you do not need to put any more money into a cash flow-positive rental property.
Secondly, consistently paying the mortgage on your property allows you to build equity. After some years, you can use the built-up equity in the rental to finance the purchase of another rental property. Essentially, the rental not only pays for itself, it enables the acquisition of another investment property.
To conclude, from the above, it is clear that a rental property is a viable instrument for laying the foundations of enduring wealth for your family.
Would you like to learn more ways to make money from a rental property or how you can execute the ideas in this article?