There are different strategies for investing in real estate. One favorite strategy is buy-and-hold real estate investing. With this method, you purchase a property with the plan to hold it for several years before selling.
To help you determine if this strategy is right for you, let’s examine how it works, the benefits, and how to be successful with a buy-and-hold real estate strategy.
What is Buy and Hold Real Estate Investing
Like flipping, buy-and-hold investing involves finding properties below market value and sprucing them up to make them more valuable. (Sometimes, you can find income property renovated to like-new condition but still below market value. For properties like this, we highly recommend using our REAL Income Property™ Standards during the due diligence process to avoid making mistakes.) However, the difference between buy and hold is that instead of selling your “flipped” property for profit, you hold onto the property for a while. During that time, you rent out the property to generate monthly income.
Eventually, you might choose to sell the property or do a 1031 exchange. But, in reality, you can hold for as long as you like, depending on market conditions. In a short-term buy-and-hold, you sell your property within five years. If you hold the investment property for over five years, you employ a long-term buy-and-hold strategy.
Benefits of Buy and Hold Real Estate Investing
1. Consistent Income
Rents from tenants pay your mortgage and still leave you with cash in hand as a buy and hold investor. Buy and hold real estate investing offers predictable cash flow since real estate markets aren’t as volatile as the stock market. And you can expect payouts from rents to continue throughout the duration of holding.
However, the buy and hold strategy isn’t always passive. As a landlord, you’ll be responsible for handling property marketing, tenant vetting, rent collection and property maintenance on your own unless you hire a property management company or work with an investing club like RealWealth that connects its members to turnkey property providers who sell single family and multi-family investment properties with property management in place.
2. Leverage
If you have stellar credit and can afford a 20% down payment, you can easily own real estate in the US. The best part is that you not only get to own that asset, but you also get rental payments from that asset.
If you fix up the property and find paying tenants, their rent payments go toward paying off your loan. Moreover, this piece of real estate can be used to get financing for other projects. This is because long-term buy and hold investments add stable net worth that lenders want to see.
3. Tax Benefits
You can minimize the taxes you owe through depreciation. With depreciation, you can deduct the cost of improving the property over its useful life. On residential properties, that’s usually 27.5 years. Other expense deductions include:
- Property taxes
- Mortgage interest payments
- Property insurance
- Management fees
- Advertising
- Office space, legal and business equipment
- Travel costs
- Cleaning and maintenance costs
- HOA dues
All of these can add up to tens of thousands in tax savings. A qualified tax accountant can help you determine how to use depreciation and what expenses can be deducted for your rental property.
4. Home Value Appreciation
Real estate, for the most part, increases in value over time. This is why investors have always used appreciation as a long-term exit strategy.
Let’s say you bought a property in Jersey City, New Jersey, for $170,000 in 2013. If you held it till 2022, at an average annual appreciation rate of 6.24%, the property would be worth $311,407 today. This means that you’d net $141,407 (almost double the starting price) in profits when you sell. You could also defer capital gains taxes if you put the proceeds from your sale into a like-kind property via a 1031 exchange.
Even if you aren’t planning to sell, the gain in home equity can be leveraged to get financing for other investment opportunities or renovation projects.
5. Generational Wealth
High-net-worth investors typically invest in real estate because it enables them to preserve and accumulate wealth. Cash loses some of its value over time through inflation, but inflation actually has the opposite effect on real estate since the value of homes rises with inflation.
Moreover, the ultra-wealthy invest in real estate so their heirs can benefit from what is called the stepped-up in basis. Bascially, this is the fair market value of a passed-down property on the day the benefactor dies. So, for a property worth $50,000 in 2010, if the benefactor dies, the stepped-up in basis becomes the current fair market value of the property. Usually, upon the sale of the property, without using a 1031 exchange, you’re expected to pay a capital gains tax. With the stepped up in basis, you can eliminate this tax altogether for inherited properties.
Short-term buy and hold vs Long term buy and hold
The difference between short-term and long-term buy-and-hold is obvious—the holding period. With short-term buy-and-hold, you generally do everything you want to with the property within five years. That is, you buy and fix, bring in new tenants, improve cash flow, and then sell—all within five years.
However, since you’ll be spending a lot of money and making significant changes within a short period, short-term buy and hold might not deliver as much cash flow as LTBH.
The majority of real estate investors skew towards long-term buy-and-hold strategies. This is because committing to the long term allows them to weather fluctuations in cash flow and periods of widespread volatility. With the long-term buy-and-hold strategy, an investor holds on to a property for five to ten years before selling. Over time, since real estate runs in cycles, investors benefit from rent increases and higher appreciation rates.
How To Buy and Hold Real Estate (Formula for Success)
1. Assess the Local Market
Unlike flipping, with buy and hold, you’ll need to fill up your property with high-quality tenants. Therefore, you want to identify areas with high population growth and high home appreciation rates. This signals a growing job market which is a green light.
Ideally, you want to look for expanding markets since you can snag good deals in these markets. Make a list of potential markets to analyze since choosing the wrong market means dealing with high vacancy rates, which would hurt your cash flow. It could also mean that you have to face negative property appreciation rates at the time of selling.
Well, we’ve done some of the work for you. As per Realwealth’s research, here are the best markets to buy rental properties.
Generally, you’ll want to pay attention to these things when choosing a market to invest in:
- New Jobs and number of Fortune 500 companies
- Population growth
- Vacancy rates and homeownership rate
- Home affordability rate
- Property tax rate
- School district
- Walkability
- Number of restaurants and malls
You will manage your rental property in this place for years, so ensure you do careful due diligence.
2. Check the Building’s Condition
Once you’ve done your homework on the area, you should assess the building itself. Some houses are not suitable as rental properties. They might seem like a great deal, but you must put yourself in your tenant’s shoes. Would you love living here?
You can have a real estate agent help you with a comparative market analysis (CMA). If you’d like to take a stab at it, here’s how to do a CMA. If the property had been used as a rental before, check the cash flow, rents, vacancy rate and expenses.
Instead of seeking bargains as a new investor, you should pay attention to potential cash flow. With limited resale inventory today, investors are searching for deals in turnkey and new construction. Investing in a turnkey property that generates good cash flow is usually less stressful than buying a rehab. If you have to make a lot of upgrades and fixes on the property after purchase, then it’s probably not a suitable candidate for a buy and hold strategy.
As a new investor, you should be willing to pay a slightly higher price to find income-producing properties unless you have some experience handling large-scale home repair projects.
3. Add Value to the Property
Yes you want to find properties in decent condition. But ideally, you shouldn’t be paying market value. Buy and hold investors typically look for off-market deals and then add value to them by updating floors, kitchen and bathroom hardware, painting and improving the landscaping.
Purchasing a property and adding value to it over time (e.g., increasing rents, renovating the property to improve its condition, decreasing operating expenses, etc.) pays dividends in terms of increased cash flow. You can raise rents by up to 30%. The market value of the property also rises, which helps whenever you want to sell or refinance.
With turnkey and new construction, you need to do a thorough home inspection. Ensure that any type of turnkey buy and hold you invest in meets the REAL Income Property™ Standards. You want to squeeze out as much value as possible from the property.
4. Know How To Find Good Tenants
The success of a buy and hold investment depends on having reliable tenants. So it’s imperative to learn how to market your property, vet tenants, and keep vacancy rates low.
Some of your tenants will leave at any point due to relocation, downsizing, upsizing or homeownership. One or two may need to be evicted. You’ll need measures in place to attract and vet new tenants as fast as possible.
Here are some strategies for marketing your rental property:
- Place a “For rent” sign in the yard
- Advertise on Zillow, Craigslist, Trulia and Realtor.com
- To attract high quality tenants, take professional photos of your listing.
- Conduct a move-out inspection with the outgoing tenant.
- If necessary, hire professional cleaners and contractors.
This guide to marketing commercial properties offers some insights on marketing your rental through social media ads.
You can also hire a flat-fee realtor to help list and market your home. These realtors will help with specific aspects of marketing your property. Depending on your negotiations, they could also assist with tenant screening. You should have a written contract detailing everything your agent will do and the fees you will be charged.
Do a good job of screening out problem tenants and anyone who might have problems making payments. Be sure to state your tenant requirements in your rental ad without violating fair housing laws. Do a background check, check their credit score, employment history and eviction history. All of these can be stressful, which is why many investors hire a property management company to take care of marketing and screening tenants.
5. Work with a Reliable Team
Some investors find it easier to handle property management with one or two properties, but as their portfolio grows, their time gets spread thinner and thinner. Eventually, to avoid overwhelm investors will need to start building a team to help with upkeep, maintenance, and tenants.
While hiring a property management company will cut into your profits, you’ll also be able to sleep well at night without worrying about clogged toilets. Aside from handling tenant complaints, you’ll need to find tenants, screen them, collect rents, handle evictions, and do periodic property maintenance, We always recommend building a team, especially if you’re in it for the long term. Your team should include a real estate agent, a handyman (or property management company), and a lawyer.
6. Prepare for Unexpected Expenses
There will be bumps along the way while managing your rental property. A couple of major expenses may suddenly pop up. You might have to deal with vacancies. Without sufficient reserves, you will run out of steam. Tap into personal funds, money earmarked for other projects, or high-interest credit cards if necessary.
Moreover, it would be best to get landlord insurance since homeowner’s insurance doesn’t cover losses incurred when renting your property out. Landlord’s insurance covers property damage and lost rental income and protects against liabilities.
Using a Buy and Hold Real Estate Calculator
A ROI of 5%-10% is also acceptable.
You’ll need to estimate your costs and forecast potential income from your rental. Some of these costs include maintenance, mortgage, HOA fees, taxes, pest control, landscaping, among others.
When analyzing your property, you can use the 50% rule to estimate operating expenses. That is, 50% of your gross rental income (yearly income from rents) goes towards operating costs. While the 50% rule is used for quick deal analysis, you might need to do more analysis. Input all operating expenses in this buy and hold real estate calculator to assess your potential ROI.
How RealWealth Can Help You Find Buy and Hold Rental Properties
The safest, most stable way to create generational wealth in real estate is the buy-and-hold strategy. But as with any investment, don’t expect the big bucks right away. You need to do your due diligence and work with an experienced team. Since 2003, RealWealth has been helping its members find and locate profitable turnkey investment properties. We provide education and connections to help you build a real estate portfolio, plus membership is 100% free! Join RealWealth today to see properties and pro formas.
