Renting was once a temporary housing situation until one could save money to buy their own home. But, today’s renters are increasingly former homeowners who no longer believe that owning a home is a wise investment. The Fannie Mae Q4 2010 National Housing Survey indicates that 28 percent of renters surveyed believe that renting makes more financial sense than owning a home, up eight points from January 2010. There’s also been a five-point rise since January 2010 in current renters who say they’re more likely to rent for the long-haul. Survey respondents also expect that rental prices will increase by 2.8 percent, on average, over the next year.
For homeowners unable to sell their property at a reasonable price, renting could be the way to waiting out a lagging housing market. But, becoming a landlord involves far more than handing over the keys and watching the rental checks roll in. Here are five things you must consider before renting your home.
If you are saddled with two mortgages, renting your vacant property may prove more lucrative than letting it sit vacant. But, if you’re renting your property for the income alone, there are many financial factors to weigh.
As a landlord, you are responsible for upkeep of your rental property, which may a property management company. Expect to pay about ten percent of the monthly rent you charge for such services, and remember that in most cases, you are responsible for the costs of repair and maintenance—even if the tenant caused the issue.
Remember that you’ll spend about two percent of the purchase price of your home each year on basic home maintenance. Consider the cost of your monthly mortgage, remembering that expenses associated with renting, mortgage interest and depreciation, are all tax deductible. (However, the IRS considers renting a home a “passive activity,” meaning that losses are limited to $25,000 a year). Decide whether you are willing to “sweeten the deal” by paying any utilities, and consider that you will incur living expenses for your own housing. Taking all those factors into consideration, establish a base figure that you would need to charge for rent, just to break even.
With that figure in mind, Joanne Cleaver of ForSaleByOwner.com recommends getting a full appraisal by a professional, and requesting that comparable rents be included, not just comparable market values. Third-party verification of the market rents will enable you to hold firm in negotiations, and will prove invaluable when resetting your property insurance to cover the rental.
Your Future Plans
Tax laws around capital gains vary based on amount of time you live in a property before it is sold. Further, rental properties that are sold at a profit may be subject to repayment of any depreciation deductions that you claimed on the property prior to the sale. If you plan to sell the property in the next few years, make sure that you are aware of the tax implications and time limits.
Keep in mind that renting is generally not a wildly profitable business if you’re only in it for the short-term, and that rental income is taxable and must be reported on a 1099-MISC tax form. However, the long-term financial benefits of renting are the tax breaks, and opportunity to build home equity using someone else’s money.
Tenant Laws in Your State
Chantay Bridges of Clear Choice Realty & Associates stresses the importance of understanding tenant laws in your state, especially if you live in one where laws skew in favor of the tenant. She explains that many states deem it illegal to evict a tenant without proper documentation and up to 90 days of notice, even if they have caused damage or failed to pay rent. Further, establish legally binding contractual boundaries to protect yourself against any contents that the renter may take with them after moving, like wall coverings or small appliances. (This becomes especially important if you sell the home, and the buyer purchases it on the condition that all contents are included).
Bridges also points out that some landlord/tenant laws state that once a person has lived in a property for a 12 month period or have utilities turned on in their name, they have established tenancy; it can one to two years to remove their name from the property. Further, if they find ways to illegally secure utilities like cable, you may be liable for damages. Always conduct a credit and criminal background check on prospective tenants, and require a refundable security deposit that will cover damages the tenant may cause.
Your Legal Landlord Responsibilites.
Michael Koshet, CEO of Help Me Rent magazine, also advises landlords to understand what services they are legally obligated to provide, to maximize return on investment. While laws vary by state, Koshet says that landlords are generally not obligated to perform cosmetic repairs that do not impact safe living conditions. Of course, the happier your tenant is, the longer they’re likely to stick around, but knowing your rights can minimize unnecessary expenses. If a demanding tenant seeks new carpeting, landscaping or window coverings, you may not be legally required to comply, as long the current condition does not pose a hazard. Further, tenants are required to replace certain damages they cause, like a broken window.
Consider worst-case scenarios before deciding to rent. How long can you afford for the unit to sit empty in the case that you can’t find a renter? How much money can you afford to dedicate to court costs or litigation if a renter doesn’t pay, causes damage that requires legal proceedings, or fails to pay for several months? Renting a property can be a wise home investment while waiting out the home market, but it’s also a game of chance. Understand the risks and rewards associated with renting, and then decided if you’re ready to take on the role of landlord.
Stephanie Taylor Christensen is a former financial services marketer based in Columbus, OH. The founder of Wellness On Less, she also writes on small business, consumer interest, wellness, career and personal finance topics.