Investment in real estate has produced and continues to produce some of the world’s wealthiest personas. For a considerable amount of time, rental properties have been a method of passive income generation. Although, like any other business, this housing industry also faces some potential threats and ripples. Let us discover them!
The economy will never benefit from an uptick in evictions as it would result in a loss of income for landlords and housing marketers, who may already be short on cash due to the eviction moratorium. Due to the fact that landlords receive income from rent, these landowners may have less money available to pay for mortgage. In addition, landlords may have a difficult time finding a new tenant if they remove a tenant from an apartment during a recession.
The economy and housing market as a whole may suffer in reaction to the increase in the number of evictions from rental properties. Therefore, In this article, we will be telling you whether the rental investments are efficient or not. Also, the ways how evictions and foreclosures put the housing market in the red zone and how you can prevent it. In addition, we will look at some pro tips that will help in booming your rental home investment.
Are Rental Homes A Good Investment?
Naturally, you might be wondering if a rental property is a good investment considering the federal moratorium, skyrocketing real estate prices, and the stock market is about to enter a recession. Rental homes can be a good long-term investment if you have your finances in order, especially as interest rates rise. The initial income from a rental property comes every month, even if it is only a few dollars.
Make sure the property you’re considering is right for you by doing all the calculations. If done correctly, rental housing investment can allow you to sell your property for significantly more than the purchase price in the future, and you can earn a recurring passive monthly income.
An in-depth look at the advantages of purchasing a rental home follows:
Attractive Flow of Cash
You get a monthly cash flow into your account when you invest in rental properties. Rental properties bring in a steady income that can be counted on for many coming years. It can be a great way to have extra cash in the bank or ensure financial security before retiring. The cash flow gets multiplied if you plan to buy a rental flat building. The cash flow is greater when there are more tenants.
Passive Income
You won’t have to get up every morning to go to work because you will be putting money into your bank account passively. A lot of investors choose to hire a property manager to truly generate passive income. And, if you only own one or two properties or low-maintenance ones, there is typically not much work involved. However, one of the best strategies for accumulating wealth over time is through passive real estate investment.
Property Value Appreciation
Real estate properties increase in value over time. This indicates that as the property’s value increases over time, you will earn more and be able to pay off your mortgage more quickly. When the time is right, you can also choose to sell your home for a fair price.
You’re in Charge
Investments in rental properties are not the same as stock investments, where your ownership is managed by someone else. You are responsible for your rental properties. You alone can choose who controls them. You are in charge of everything when you invest in a rental property.
You alone get to pick
- the sort of property
- the occupants
- The strategy to deal with your speculation.
Depending on the location, you can create residential houses, short-term vacation rentals, emergency rental assistance or rental offices. All depends on you and what you choose.
Demand from renters and unprecedented rent prices
Over the past few years, global rent prices have risen at a rate that has never been seen before due to shifting patterns and rising demand for housing. When you make an investment in a rental property, you stand to collect rent more than at any other time in history.
Remember that even if the economy slows down soon, renters will always need a place to stay because fewer Americans will buy a home. As a result, a rental investment in the right neighborhood will continue to bring in residents over time.
Rental Property Economics & Values
Investors in real estate place a different value on a rental property than regular homeowners do. Investors buy rental properties not only to provide tenants with a nice livable place but also for the potential monthly rental income and a long-term increase in the value of the property.
There is no right or wrong way to value a property. In order to generate a variety of potential values, investors may wish to employ multiple methods for valuing rental property.
However, Real estate investors use the following five approaches to estimate a rental property’s potential value:
Sales Comparison
The sales comparison approach, also known as an SCA or comps, compares comparable homes recently sold over a predetermined period. Appraisers and real estate agents use the sales comparison approach to look at recent comparable sales to determine a home’s value.
Homes with features similar to the property being appraised as accurately as possible in terms of age, square footage, number of bathrooms and bedrooms, and lot size make for the best comparable sales.
The sales comparison method does not value an owner-occupied property differently than an investment property for all intents and purposes. For instance, A 1,500-square-foot rental property with comparable features to the comps would also be valued between $225,000 and $240,000 if five homes used as primary residences that are comparable to one another recently sold for between $150 and $160 per square foot.
Income Approach
When determining a rental property’s value, the income approach takes into account the property’s current net operating income (NOI) in relation to its purchase price or value. The normal property operating expenses that are included in NOI do not take into account capital repair costs, depreciation, or mortgage and interest payments.
The percentage return that is calculated by dividing the first year’s NOI by the property price is referred to as the cap rate. It is also referred to as the capitalization rate or cap rate approach.
| Cap rate = NOI / Property value |
Let’s say a $175,000 home’s annual rental income is $20,000 to show how the income approach is used to value rental properties. Operating costs make up 36% of annual revenue, resulting in a NOI of $12,800.
The following is an estimate of the rental property’s percentage return using the income approach:
| $12,800 NOI / $175,000 property value = 7.31% |
In general, a rental property’s cap rate—or potential return—is a good indicator of its investment potential.
Cost Approach
When valuing rental properties where recent sales are difficult to locate and the cost approach is frequently utilized when the property is not currently producing income. The notion that a real estate investor will not pay more for a property that is being sold for resale than it would cost to build the same house from foundation to roof is implicit in the cost approach.
The following formula is used to determine the cost approach’s value for a rental property:
| Value of property= Cost – Depreciation + Land value |
Gross Rent Multiplier
Also called GRM, the gross rent multiplier approach is one of the least complex ways of deciding the honest valuation of a property. Simply divide the gross annual rental income by the current property’s market value or purchase price to determine GRM:
| Gross Rent Multiplier = Property Price or Value / Gross Rental Income |
For instance, the GRM, for a single-family rental home with an asking price of $185,000 and an annual gross rental income of $20,000 is as follows:
| •$185,000 property price / $20,000 gross rental income = 9.25 |
Capital Asset Pricing
The capital asset pricing model (CAPM) is probably the most difficult approach to income-based property valuation.
The Corporate Finance Institute defines CAPM as a model that compares the risk of investing in an asset to the expected return. The risk-free return divided by a risk premium is the expected return.
The age, site, condition, rating by the community, operating costs, potential revenue from rentals, and following net cash flow are all taken into account when valuing rental properties using the capital asset pricing model.
Eviction Statistics & Its Effect On Housing Market
Nationwide, nearly two-in-five tenants, particularly low-wage workers, are at risk of receiving eviction notices, based on the analysis of an investment consulting firm called Stout Risius Ross. On average, 3.6 million eviction cases were filed each year between 2000 and 2018. The southeastern states were particularly prone to evictions. Additionally, there were significantly fewer filings in states with eviction notice requirements for landlords than in states without such requirements.
The wave of evictions could develop into a financial crisis, affecting other sectors too. However, the effects of eviction on a broader housing market and landlords are as follows:
Trouble Covering Property Taxes
When inhabitants skip installments on their lease, it denies landowners of cash that could be useful to them to make good on their property taxes.
Inability to Make Mortgage Payments
A landlord cannot make mortgage payments if they have a tenant who cannot pay. Due to the fact that landlords receive income from rent, property owners may have less money available to pay for mortgages.
Deprioritized Fees for Maintenance
At times, many landlords have been able to keep their properties in good condition. Currently, some landlords are forced to postpone expenses for property maintenance and neglect their properties.
Foreclosure Statistics & Its Effect on Housing Market
Compared to last year, the number of properties with foreclosure filings has increased by 153% in the U.S. According to Rick Sharga, executive vice president at ATTOM, “foreclosure activity across the United States continued its slow, steady climb back to pre-pandemic levels in the first half of 2022.” Even though overall foreclosure activity is still significantly below historical averages, the dramatic rise in foreclosure starts suggests that normal levels may be reached by early 2023.
According to RealtyTrac, approximately 2 million homes are in the midst of foreclosure. The majority of these have not yet been put up for auction, and nearly a quarter of them are owned by the mortgage providers or buyers. The Mortgage Bankers Association reports that the number of mortgages in foreclosure or more than 90 days late is at an all-time high of roughly 4.2 million. This large number of houses in foreclosure or close to foreclosure has the potential to significantly affect house prices.
The major effects of foreclosure on the housing market are:
Reduced price
Most of the time, foreclosed homes sell at a lower price because the owners didn’t keep them up or because lenders are willing to mark them down to sell them faster.
Affecting neighbourhood
Foreclosures tend to bring down the prices of other nearby homes. It has been estimated that the price of a single-family home has decreased by approximately 1.3% for each foreclosure filing within a 0.05-mile radius over the past year.
Owner’s mortgage payments are at stake
It is common knowledge that if a house’s value decreases, the owner is more likely to default on their mortgage, especially if the owner is “under water.” The house’s value is less than the loan’s remaining balance.
Lower credit rates of landlords
A foreclosed house adds one more house to the inventory, but it does not increase demand because the previous owners typically have a lower credit rating, which limits their demand in the housing market. In the end, housing prices continue to fall, albeit progressively.
How To Avoid Eviction During A Recession?
A recession is typically defined as a brief period of economic decline marked by a decrease in trade and industrial activity, typically reflected in a decline in GDP over two consecutive quarters.
Property owners are becoming more concerned about how a recession might affect them as national inflation rises. In spite of the fact that rentals normally offer preferable security over different interests in a slump, they’re not totally resistant to downturn.
“Vacant units” are one of the biggest and most obvious concerns of housing marketers. The following are a few situations that could diminish the probability of encountering vacancy in a downturn and can likewise decrease extra difficulties for land owners.
Make sure your rents are not exceeding market rate
Evictions can be avoided by charging rents that are less than your competitors’. If your rents are high, the recession might cause your tenants to switch to cheaper options instead of renewing their leases.
For property owners, this could be a double-edged sword: They run the risk to evict tenants who would otherwise be able to pay their rent and tenants who are already unable to pay due to job loss.
Filling vacant units too quickly
In a recession, it can be tempting to rent out vacant units as quickly as possible to make up for lost income. However, it is much better to be more careful than usual when conducting background checks on potential tenants.
If they have a history of renting, carefully examine their credit report, income documentation, and rental history to see if they have a good track record of paying rent on time. It’s better to let a unit sit empty until you find a suitable tenant in the long run than to rent it out right away to someone who isn’t a good fit.
Not only offering standard lease agreement
During a recession, it is common practice to provide new and existing tenants with a standard lease agreement. However, why not negotiate a longer lease period at a rate that is slightly lower? That rate cut might make your unit more appealing to tenants and get them to sign a lease. Fee exemptions, deductions, or removing restrictions like pet-free zones are additional appealing choices.
Try negotiating with tenants
During the recession, companies cut back, and there are fewer jobs overall, making it harder for renters to pay their bills. Consider negotiating payment plans with struggling tenants rather than the time-consuming and costly eviction process.
The use of your tenant’s security deposit as rent, a rent freeze until a particular date, or temporary partial rent payments are all options for negotiation. You could even ask new tenants to pay a security deposit for more than one month, increasing your cash reserve and extending your guaranteed monthly income a little.
Minimize costs other than rent
A tenant’s ability to pay rent and additional monthly costs like utilities are also affected by recessions. Replace the insulation, install better windows and thermostats that save energy, and do anything else that might help tenants save money and be more likely to be your tenants for a longer time.
Tips For A Recession Proof Real Estate Investing
A recession is approaching somewhere far off, especially in the US. And as a real estate investor, you probably have a lot of questions, like how to protect your investments from the recession.
The real estate market typically undergoes a change when a recession is imminent. The market shifts from a seller’s market to a buyer’s market as real estate prices fall. People find it more and more difficult to purchase and sell homes as borrowing becomes more stringent. However, Changing your approach to investing can help you weather a recession.
Here are our top strategies for a recession-proof real estate investing:
Maximize cash flow
To endure an economic downturn, it is essential to maintain a steady cash flow during any recession.
It is easily done when the rent increases. Another is finding low-cost ways to increase revenue, like offering pets for an additional fee or coin-operated laundry machines.
Consider risk and yield
According to the federal reserve bank, banks will reduce their lending requirements and interest rates ahead of an economic recession.
An inexperienced real estate investor may be tempted to enter high-risk transactions in anticipation of higher short-term returns. When a recession does occur, investors typically suffer the greatest losses. Therefore, prior to a recession, reduce your debt and avoid high-risk investments.
Buy and hold real estate
During a recession and the inevitable shift in the market, buying and holding real estate properties will keep your business profitable and stable. Keep the real estate investment property you purchased and rent it out for monthly revenue. With these rental payments, you can pay for speculation costs and home loan installments.
Set up long-term lease agreements with your tenant if you work in commercial real estate.
Reduce your debt
Pay off as much of your loan balances as you can while you have lower interest rates. As a result, your cash flow will improve, and you will have enough equity to withstand price drops.
Invest in primary markets
Take advantage of your drawn-out returns by putting resources into essential business sectors like Boston, New York, San Francisco, and others.
In general, the value of real estate is higher in primary markets like these than in secondary markets like Las Vegas or Phoenix.
Check Out 3 Tips For Recession Proof Real Estate Investing:
FAQs
Should I Buy a House in a Recession?
You can get a better deal on a house if you buy it during a recession. In most cases, this results in a rise in the number of homes on the market as well as a decrease in the cost of a home. Buying a home during a recession can be a good idea, but only for those with stable finances. With fewer qualified buyers and less competition, home prices may also fall as mortgage rates fall. However, despite the possibility of widespread layoffs, any economic downturn still carries a significant risk. Therefore, if you have less money, it might be better to wait it out.
What Is The Best Time of Year To Rent out a House?
The national rental home council says, depending on where you live, the peak rental season typically occurs between May and September. You can typically charge more during those months because that is the time of year when there is the greatest demand for rental properties.
There are a number of factors to consider when making a list like where you live and what kind of property you have. Most places have peak rental season during the summer because people are more likely to move during this time of year. As a result, if you list during the peak season, you’ll have more tenants to choose from and may be able to get the most money for your rental.
When Will Apartment Prices Go Down?
Economists’ predictions about when and if the housing market will crash or simply “correct” itself from the double-digit percentage rises in home prices over the past year are mixed. In a real estate market slump or federal eviction moratorium, you would normally see a 20% to 30% drop in home costs and a decrease in home deals by 2023 — definitely far more than what’s going on right now.
Final Thoughts
The mass residential evictions can cause serious problems to both the state economy and landowners. In case of eviction moratoriums, you should employ certain tips and strategies to lessen the rate of tenant vacancy.
By keeping in consideration the eviction and foreclosure statistics, you can avoid the potential effects that might be harmful to your investment. So we hope now you know how will evictions affect the housing market, if you still have some questions please explore Buttonwood.
