Summary: In this article you’ll learn about the pros and cons of investing in out of state rental property so you can decide if this strategy is right for you. This article is based on Chapter 3 of Kathy Fettke’s best-selling book, Retire Rich with Rentals.
If you’ve ever listened to an old-time landlord or read an outdated book on real estate investing, you’ve probably heard of The 30-Minute Rule. It states that you should never buy a property that is located more than 30 minutes away from your home. The reasoning for this is that investing in properties near where you live allows you to check up on them regularly. You can drive by to make sure everything is still in good shape. If repairs are ever needed, and they will be, you can get to the location very quickly. While there is some sound logic behind this ideology, it absolutely depends on where you live. After all, not all real estate markets are strong places to invest today, and investing in the wrong market at the wrong time can really hurt you.
4 Benefits of Out of State Real Estate Investing
At RealWealth, we regularly help our members (many of whom live in high-priced real estate markets like San Francisco and Los Angeles) invest out of state. While there are some disadvantages of investing far from home, the benefits often outweigh the disadvantages. This is especially true if you have the right local team in place to help you. We’ll talk more about that later in the article, but for now here are a few key benefits of investing in out of state rental property:
- Affordability and Cash Flow
- Higher ROI Opportunities
- Less Risk Due to Diversification
- Hiring a Property Management is Often a Better Option Anyways
Affordability and Cash Flow
In order to enjoy the dual benefit of an affordable rental property that simultaneously generates a positive cash flow, you need to first understand two critical markets factors.
An affordable market is one where the average home price is no more than three or four times the average income. In this type of market, you can find great cash flow where the average home price is only double the average income. However, in non-affordable markets there is little cash flow and the average home prices are often 10 times more than the average income. New York City, San Francisco, and Los Angeles are three examples of non-affordable markets where cash flow is low and the investment is high risk. Being able to move away from high risk areas by investing in affordable markets that break the 30 Minute Rule can lead to opportunities for higher cash flow.
Higher ROI Opportunities
Did you know that many states have pockets of real estate gold that are just waiting to be discovered and mined? These pockets typically meet a few critical criteria. They are in a desirable neighborhood, near jobs, have local amenities, and are within a good school district. If you purchase in this type of area at the right time, then you can not only benefit from higher cash flow, but you can also expect to receive a higher ROI.
With this in mind, if you want to achieve the highest ROI then you will need to invest in undervalued markets that are experiencing a boom in population and job growth. Take for example, Jacksonville, Florida. The area has experienced a population boom over the past 10 years (the metro area has grown a whopping 24.1% since 2000) to create pockets of real estate gold in multiple zip codes. Now, with the expansion of the Panama Canal is brining even more new jobs into the Jacksonville area ports. It’s no wonder why future job growth is predicted to be 39.21% in the area over the next 10 years. The moral of the story is simple, more jobs plus a population boom, equates to higher rental prices and a subsequent higher ROI for the savvy real estate investor.
Less Risk Due To Diversification
Diversifying your real estate portfolio lowers risk. This might seem like an obvious cause / effect; however, far too many people still adhere to the 30 Minute Rule, which means that they are creating higher risk due to a lack of location diversification. Through out of state rental properties, you can not only diversify your portfolio, but you can also make it more manageable and lucrative. A property manager can help you with the latter goals by clearly outlining the pros and cons of each “buy and hold” area where you might want to purchase a rental property. By understanding the nuances of each “buy and hold” market, you can effectively determine if owning a rental property in the area will positively reduce your risk, diversify your portfolio, generate a higher ROI, and create a good cash flow. (Source: Forbes)
Hiring a Property Manager is Often a Better Option Anyways
The plain and simple truth is that whether you live near your properties or far away, self-management is a full time job. In this vein, managing real estate properties is not a viable solution for many investors – especially those who already have a full time job or those looking for passive retirement income. This line of thinking begs the question, “if you already trust your local team to manage an in state rental property, why wouldn’t you have the same trust for an out of state team?”
To help you answer the above question, and further determine if self-management is a good option for you, here are five other questions that you must carefully consider.
5 Questions To Ask Yourself Before You Choose To Self-Manage
- Are you available, and willing, to manage your property on a full-time basis? In other words, can you take on property management as your full-time job?
- Are you up-to-date on local landlord laws?
- Are you able to manage contractors and ensure that they are doing high-level work?
- Are you able to run your tenants credit and perform background checks?
- Do you honestly believe that you are the most qualified person to manage your property?
If you answered “no” to any of these questions, then you should strongly consider hiring a professional property manager regardless of your proximity to your investment property.
3 Challenges of Buying Houses Out of State
As with many things in life, there are a few challenges that you’ll face when buying houses out of state.
- You Don’t Know the Market
- You Don’t Know the Local Laws
You Don’t Know the Market
The first challenge in purchasing rental properties out of state is that you don’t know the local market. In short, you don’t know the best neighborhoods (or the ideal streets within those neighborhoods). You also don’t know the economic trends, how the population has changed (from a demographic and numbers standpoint), or the local politics that might influence further development. Simply put, unless you are pounding the pavement, you don’t have an intimate understanding of the local market.
You Don’t Know the Local Laws
The second challenge involves local laws. If you are a homeowner, you are probably familiar with the legal procedures involved in purchasing or managing a rental property in your home state. However, real estate regulations vary from county to county and state to state. The good news is that a local property manager will know the ins and outs of the local laws, so that you don’t have to constantly fret about staying up-to-date or spend the time researching copious amounts of government sites, legal paperwork, and local tenant laws.
The third challenge is one of distance. If you choose to purchase an out of state rental property, and want to self-manage, then you will need to set aside the time and money needed to regularly check on your property. Additionally, you will need to visit the property at least once before you sign on the dotted line. Once again, a local property manager can save you some time and money by conducting multiple property visits at different times and on different days before you arrive. In this way, the property manager can give you a better picture of what life in the home looks like and inevitably if it will be attractive to renters.
Fortunately, with the help of a trusted local team the above challenges can be overcome. Your trusted real estate advisor will also help you consider the following five factors.
How To Buy a House Out of State: 5 Things To Consider When Choosing an Investment Property
While there is no golden rule when it comes to choosing an out of state investment property, there are five factors that should always be considered.
1 – Is it located near a big city?
Big cities have a lot to offer. They have job diversification, convenient shopping, great nightlife, and culture. In fact, cities with more than one million residents also offer a large pool of potential tenants for your new rental property. Additionally, an estimated 40 percent of the population rents, which means that in a city of one million residents you’ll have access to 400,000 potential tenants. As an added bonus, big cities often mean great suburbs; and as we all know, the suburbs attract an entirely different sector of potential tenants. Keep in mind that people like to live within driving distance to a large city and don’t want to be longer than a 30 minute commute to their jobs. In other words, don’t buy too far away from the big city … fortunately, your property manager can help you select the most desirable in-city neighborhoods or booming suburb.
2 – Is it in a good market?
A good market is defined as being “affordable” or “non-affordable.” For an investor, it is also defined by whether it is in a buyer’s or seller’s market. Every area in the country will have a different average Days on Market (DOM). However, a good rule of thumb is as follows: 30 days or less is a hot market, 3 – 6 months is a normal and healthy market. Additionally, a balanced market will have a 5 – 7 month supply available, while a buyer’s market has more than a 7 month supply and a seller’s market has less than a 5 month supply. Finally, you will want to check the market for rental demand. Are prices increasing or decreasing? Are properties sitting vacant for months on end, or are they being snatched up? A local property manager can help you to answer these questions and more as you determine the health of the local real estate market.
3 – Is it in a booming market?
As its name suggests, a booming market occurs when the prices are rapidly rising. Generally speaking, you should try to avoid investing in booming markets due to their unpredictability and instability. With this in mind, if you are interested in a high risk (but possibly high ROI) investment, then you might consider a booming market if you plan on getting in early and getting out in time. The latter strategy can best be applied to vacation and retirement areas, where employment doesn’t play a factor, but desirability does. Once again, a local real estate agent will be able to help you determine if the booming market is a bubble that is about to burst, or if you can jump in at exactly the right time to make a profit.
4 – Does the area have a low median or average home price?
A median home price represents the middle of the road, while an average home price is calculated by adding the prices of sold homes and dividing by the number of homes that have been sold. Together, median and average home prices tell the story of the market. Remember that an affordable market will have an average or median home price that is 3 or 4 times the average income. A non-affordable market will have average or median prices that are 10 times higher than the average income. Ideally, you want to purchase out of state rental properties that are in affordable markets so that you can increase your cash flow and anticipated ROI.
5 – How strict are the local landlord laws?
In most cases, high priced markets tend to have liberal tenant laws. For example, both San Francisco and New York have rent control laws that benefit the tenant, but negatively impact the landlord. In these types of areas, many of the laws are designed to protect the tenants as the cost of living continues to increase. While this is great for the tenant, it can negatively impact profits and investment opportunities for landlords. With this in mind, a lower risk strategy is to invest in rental properties that are in landlord friendly areas. While no one wants to think about evicting a tenant, you do need to think about protecting your investment. The first step towards protecting your investment is to purchase a rental property in the right area.
Conclusion: Investing In Out Of State Rental Property
The moral of the story is simple, with the help of a trusted local team, you can successfully diversify your portfolio by investing in out of state rental properties. To make the right investment choices, you will need to carefully weigh the pros and cons as they apply to your financial well being. While there are challenges associated with purchasing an out of state rental property, the benefits tend to outweigh these risks. With the help of a trusted local property manager, you can make an affordable out of state investment that offers higher ROI opportunities, lower risks, and an increased cash flow.