Investing in Single-Family Homes
Throughout my career, I’ve engaged in a few debates over the power of investing in single-family homes. I’m passionate about real estate investing, and combine that with my opinionated nature, I’m liable to engage in a good debate on the subject often. Single-family homes are often overlooked by the average real estate investor, yet I believe they can play a crucial role in any active portfolio of rental properties.
Any Google search done on investing in single-family homes will turn up dozens of articles on institutional investors buying up portfolios of homes for rentals. One statistic even states that over 15% of all homes nationwide are owned by investors. It’s clear that investors of this caliber chase return and thus further proves my theory on the value of single-family residential investing.
In Maine, the median sale price for single-family homes is over $300,000. That means there are a ton of homes selling below that figure. Let’s create a scenario to better understand the benefits of investing in this type of property. Let’s take an average location, style, and price point for Maine’s residential market. For example, a 3bedroom, 1bath Ranch in Androscoggin County was recently on the market for $189,000 (based on a property search conducted in Maine Multiple Listing Service). Now , if we were to purchase that property and to use as an investment property, we would most likely put $11,000 into freshening up the property. Then we would have a great ready-to-rent single-family home for a total investment of only $200,000.
One unique benefit of owning a single-family rental property is typically an owner can obtain higher quality tenant, one who will help maintain the property. Single-family tenants are also typically responsible for paying their own utility costs, thus relieving the owner of such expenses. I’ve also found that single-family tenants often stay in the same rental property for several years at a time. My longest tenant has been in a home for 13 years and counting.
As the owner, we are responsible for covering the property taxes, insurance coverage and major mechanical and maintenance of the property. We can assume an average rent on a home of $1,600/month. If we obtain a mortgage for the property for $160,000 (80% of the invested total) at 4.50% interest rate over 20 years, our payment is $1,012.00 . Include another $400.00 a month for taxes and insurance and we have a total of $1,412.00 being paid every month. This leaves us a profit of $188/month, or $2,256/year. That is a 5.6% cash-on-cash return on our investment.
Ok, I can hear you now. “But Kevin, I can make more than that in the stock market without the headaches!” Yes, I know, but bear with me, we aren’t done yet. We are also going to be paying down the principal on this mortgage every month. Or should I say, our tenants will be paying down the mortgage for us, right? For the first month, the principal reduction is $412, or $5,000 the first year alone. Throw that on the $2,256/year we made in cash flow, and we now have over $7,000 in a return, or 17.5%.
A look on the Federal Housing Finance Agency tells us appreciation rates on a home purchased in 2001 would have appreciated 111% in Lewiston/Auburn. Since this home was tenant occupied over that 20 year period, the tenants helped pay off the mortgage of $160,000. If we account for the appreciation rate of 100% over 20 years, our home is now worth $400,000. What is our rate of return now? 12% NOT including the positive cash flow of 5.6% or any increases in cash flow from rental increases, giving us an annualized return on the investment of over 17.5%. This is also before we discuss any tax benefits of owning rental properties.
Now, I can hear the critics suggesting that I didn’t account for vacancy or any capital expenditures like repairs, etc. and that is true. Investing is more complex than just an outline of an article, and each individual investor is different. A more detailed analysis is certainly suggested, but the basis behind the strategy is very real and is something that I believe everybody can participate in.
I have personally been investing in single-family properties for over 20 years and have helped investors with this strategy for just as long. Homes are a great investment that anyone can do. I encourage you to consider this strategy and reach out to me for a consultation about this approach and how it may fit into your investment portfolio.
Written by Kevin Fletcher, CCIM, President of The Fletcher Group
