REAL ESTATE AS INVESTMENT
Some investors prefer real estate as investment for long term investing, even though the work is difficult and the costs are very high. Even with property management its hard work. Property management firms are expensive, and when they quit you have to do the work until you find the next manager. You have to rely on property management to show up, tenants to pay their rent and both to properly maintain the property. Every time a tenant moves there are repair and replacement costs, sometimes those cost are huge. You get tax deductions for rental property, but not nearly as much as for owner-occupied property.
Some owners are surprised to find that even if they a have mortgage on rental property, the rents are considered income, and the rental income is taxed. Landlords have to file a schedule E (supplemental income and loss for landlords) to get all of their deductions associated with rental real estate. To keep tract of everything you are encouraged to keep a spreadsheet. You can get one online, free, one is google drive if you have a gmail account.
It takes a special person to own and maintain real estate as investment in the form of rental real estate. Depending on the cost, type and area is what depends on the difficulty of owning and making a profit off the real estate. Since the cost are very high (and if you get a loan – it is leveraged with debt), it could take a few decades before you see a profit.
The advantages of residential non owner-occupied rental real estate as an investment:
- It is possible to have high returns when held long-term, if you hit a time in history when real estate is selling and is scarce.
- You can depreciate the property (this is far more advantages for property purchased prior to 1987 though, the depreciation deduction is much less after that year).
- You get a deduction for up-keep, but it is much less than the deduction you get for owner-occupied property.
Disadvantages of residential non-owner occupied rental real estate as an investment:
- Non owner-occupied mortgage loans carry a higher interest rate than owner-occupied loans.
- Required down payment for non owner-occupied loans is much higher than owner-occupied loans. In many cases requiring 20%, compared to an owner-occupied loan of 3%-10% down.
- You must pay capital gains tax on profits, when you sell.
- Yearly maintenance cost for residential non owner-occupied real estate is usually much higher than owner-occupied cost. Most people simply do not properly maintain property that does not belong to them, and some are very destructive.
- Long-term maintenance cost can be phenomenally high.
- It is difficult to find reasonably priced properties in quality neighborhoods.
- Neighborhoods with a lot of “four rent” signs are particularly difficult to avoid vacancies, it also sends a message.
- Lost rents are not deductible.
- A low quality neighborhood (that with high unemployment), brings a low quality tenant, i.e. the default rate on rent payments are high.
- The debt carried when the rental is leveraged with a mortgage.
- The constant turnover of new tenants is expensive due to fix up costs each time a renter moves.
- You have to keep your fingers crossed, that when it comes time to sell, the prices in the are will be high, the type of real estate you own will be in demand, and there will be enough appreciation
The combination of an owner-occupied/non owner-occupied residential real estate can be a viable consideration for those who feel some form of non owner-occupied rental real estate is a must, as an investment. An example of a combination of residential owner-occupied and non-owner occupied real estate is a four-plex where you live in one unit, and rent the other three.
The advantages of the combination owner-occupied/non-owner occupied real estate investment:
- You can qualify for the lower interest owner-occupied mortgage loan.
- You can qualify for the lower down payment of 10% allowed with yourowner-occupied real estate.
- You can deduct the repairs and up keep on the rental portion.
- You are present to monitor the repairs and encourage maintenance.
- You can depreciate the rental portion.
You have a better probability of purchasing a property in a quality community since your initial cost are lower than a non-owner occupied property. A quality community brings a higher probability of a quality tenant. Attracting quality tenants is probably the most important aspect of residential non-owner occupied investments. Real estate as investment works when there is a high demand for rental real estate in an area. You will then have a large number of people to choose from.
Disadvantages of the combination owner-occupied/non-owner occupied real estate investment:
- Your tenants may know where you live, if the property is titled in your name.
- You can only deduct expenses for the rental real estate portion of upkeep, but not your own.
- You will be liable for normal capital gains taxes on the non-owner occupied portion when you sell. There is a capital gain exclusion on the owner-occupied portion.
- If you actively participate in rental activities, you can deduct $12,000 in losses if you are single and $25,000 if you are married on all properties you own.
Getting all of your IRS benefits are possible when you keep a spreadsheet of every single income item, expense and money returned to your tenants.
Laws change on just about everything, yearly. Consult directly with current Internal Revenue publicationsfor the latest changes
about Real Estate as Investment.
See IRS publication 527 atwww.irs.gov: Residential Rental Real Estate Property (includes vacation property)
IRS Schedule E – Supplemental Income and Loss From Rental Real Estate
Lois Center-Shabazz | Course Delta Agency
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