I love houses. I love that I can touch them. I love that I can feel them. But most of all, I love that I can make money with them.
Owning rental properties is one of my favorite long-term investment strategies. Holly and I have owned 2 investment properties for close to 8 years now, and they are easily two of the best investment decisions that we have made. Not only will they be able to provide us with a steady income during our retirement, they are also assets that will (hopefully) continue to appreciate over time. If history holds true, the value of real estate should continue to rise – meaning we make money on the front end (purchasing the homes at a discount), the middle (through rent payments), and on the back-end (on the sale of the property). Personally, I don’t know of a much more perfect investment vehicle.
Of course, not everybody shares my enthusiasm for buying rental properties. Heck, not everybody even agrees on how you should go about purchasing them. Should you get in on owning rental properties? If so, what is the best way to purchase them?
2 Ways to Purchase Rental Property
When it comes to buying rental properties, there are generally two schools of thought on how to do it. Some investors only purchase a rental property with cash, while other real estate investors don’t mind taking out a loan to purchase their properties. Both are valid ways to get exposure to the rental markets, and they both come with their own sets of advantages and disadvantages.
Buying Rental Properties with Cash
- Own the property free and clear immediately
- No risk of foreclosure
- No mortgage to meet
- Can keep the unit vacant until you have the right renter
- Can keep the unit vacant if repairs are needed
- Almost all revenue (rent) is profit
- Not paying any interest
- Long-term property value appreciation
- Harder for beginners to buy
- All income is taxable (minus expenses)
- Can’t take advantage of mortgage interest tax deduction
- Reduces cash flow which could be used for other investments
- Risk of property value depreciating
Buying Rental Properties Using a Loan
- Easier for young and beginning investors to buy
- Use the bank’s money to purchase property
- Renters pay off mortgage for you
- Allows you more flexibility with your money (better cash flow) to make other investments
- Can set rental rates high enough to pay your expenses (mortgage, taxes, utilities, etc.) in-full
- Take advantage of mortgage interest deduction
- Long-term property appreciation
- Large portion of revenue will not be profit and must be paid toward mortgage expenses
- Risk of exposure to foreclosure
- Less flexibility in regards to vacancies
- Income is taxable (minus expenses)
- Paying interest on the property
- Risk of property value depreciating
The Best Way to Buy a Rental Property
So, what’s the best way to invest in a rental property? In truth, the answer is different for each individual investor. Personally, we have always used a mortgage to pay for our rental properties. When we were younger, we didn’t have the money to be able to purchase our investment properties outright. If it wasn’t for being able to borrow the money, we would have missed out on two of the best investments that we ever made.
We also like using mortgages because it has allowed us to put only a small amount of our money at risk, initially. Then, we let the renters pay off the rest of the mortgage through their rent payments. When the houses are paid off, we will own two major assets that have been paid for by other people, costing us very little money out-of-pocket. Sure, it isn’t as fun or a sexy as getting a chunk of additional income from rent each month, but it works with our long-term investment strategy. That seems like a pretty big win for us.