Calculating Your Earnings From Renting Out Your Home

When it comes to buying stocks, the common advice is to “buy low and sell high.” This principle isn’t just for stocks; it’s about spotting opportunities in general. Even though the value of my home seems to drop year after year, maybe there’s an opportunity here. Walking my dog around the neighborhood, I notice many houses for sale, often at prices much lower than what I paid for mine. This makes me wonder: Is now a good time to buy a house to rent out? Real estate is still on my “investment bucket list” for My Money Design, and it’s hard to ignore the buzz around it. Many personal finance blogs claim that rental income is a fantastic source of passive income. Plus, many financial gurus have made their fortunes through real estate. Granted, these claims come from various places. Locally, I’ve heard horror stories about being a landlord, especially with bad tenants who don’t pay. However, I believe good opportunities exist if I’m willing to seek them out. A country house or another local option might be worth exploring. But let’s crunch the numbers to see the potential return on investment. Let’s consider a smaller ranch home in my neighborhood: a recently built 3-bedroom, 2-bathroom house, around 1,250 square feet. Assuming a 20% down payment and a 30-year mortgage at 4.00%, the payments would look like this: – Sale Price: $79,900 – Down Payment (20%): $15,980 – Loan Amount: $63,920 – Interest Rate: 4.00% – Monthly Principal and Interest: $305.16 – Annual Property Taxes: $1,782 – Annual Hazard Insurance: $420 – Annual HOA: $360 – Monthly Loan Payment: $519 – Monthly Rent: $800 – Monthly Profit: $281 – Total Annual Profit: $3,372 By investing about $15,980, I’d get roughly a 21% return in the first year. That’s better than the 8% from a stock market index fund, but is $3,372 per year a great return? If I put the same effort into my blog, I might earn that much through advertising with less capital investment. So, why take the risk? Wait a minute! Is $3,372 really all I’d be making? Of course not! The house itself is also an asset. Here’s a closer look: At the beginning (Year 0), my Balance Sheet would read: – ASSETS: House Value $79,900 – LIABILITIES: Mortgage Debt -$109,859 – EQUITY: Net Equity -$29,959 What would I be doing with those $800 rent checks? Paying the $519 mortgage and keeping the $281. By the end of the first year (Year 1), my Balance Sheet would change to: – ASSETS: House Value $79,900 + Total Annual Profit $3,372 = $83,272 – LIABILITIES: Mortgage Debt -$109,859 + Twelve P&I payments $3,662 = -$106,197 – EQUITY: Net Equity -$22,925 – Change in Equity: $7,034 (a 44% return on that $15,980 down payment!) How does that 8% return on a stock index fund look now? Pretty meager, right? But hold on; this example is overly optimistic. We ignored: – Closing costs – Income taxes on the rent – Administrative and legal costs – Changes in the market value of the house – Different mortgage terms – Not having 20% for a down payment – Charging less than $800 per month – Unrented periods – Non-paying or problematic tenants – Repair costs – Appliance breakdowns – Security issues, like needing a home security system Although this exercise was to crunch numbers, you must consider qualitative factors. All investments carry risk. These points aren’t deterrents but should be taken seriously, as each one can significantly impact your return. The goal is to consider all risks before jumping in. Do you own rental properties? How much return do you achieve? Are your tenants reliable or troublesome? Would you recommend this as a good investment strategy?