Build or Buy to Rent

So You are Thinking of Being a Landlord?
Buying to rent part 2

The Single Family Home Investment Dog now hunts.

One of the reasons cited for the low inventory of “first time home buyer” homes is that many investors are buying homes not to flip, but to rent.  Are they on to something? 

Lets explore that.

Seventy percent or so of the homes below $220,000 are bought with cash effectively locking out financed buyers. Of those purchases about half are put back on the market after some minor fix ups and the other half are kept by the investor and put into a rental program. For many years buyers from up north would ask me to find rental properties to buy - and for years I would have to tell them that these investments rarely worked. I think I first heard the expression from Bill Clinton, but I would say, “That dog does not hunt”

Well folks, that Dog is now a hunter.

Let’s talk about the return on investments for a single family home here in Florida. You may be surprised to know that you can get a total return of over 19% per year (Internal rate of return upon Sale) on some NEW homes chosen wisely. Higher rates are possible on previously loved homes.

First, the obligatory disclaimer: Only YOU should do the final analysis and only YOU should make the decision on how to invest your money. Real Estate is a risky business and there are no promises that there will be an increase in values or the ability to rent a property.

Here is an example of a home purchased for “to Rent”:

Purchase Price: $220,000

Total Square Feet 1600

Price/SF $138

Replacement/SF $138

Potential Rent/year $16,800

Insurance Cost/year $2,200

Maint. Reserve/year $1000

Mgmnt./year $600

Property Taxes/year  $2860

Amount Financed $176,000

Cash Invested:  $46,200

Interest Rate 4.2%

Annual Appreciation 7%

Amort period 25 Years

Income Tax Bracket 28%

If, and it is a big IF, all the assumptions above are true, the investor above will get an annualized return of 19.5 percent on his investment of $44,000 when she sells the investment in the tenth year. This return is a compilation of cash on cash return, income tax savings, and accumulated appreciation at 7% per annum.

(Here is a link to the full report)

Let’s talk about some of the items:

This is a NEW HOME so I have assumed a higher appreciation rate than I would on an older home (the price is also higher)

Initial Investment. My example assumes $46,200 invested, the more you borrow and the lower your cost of money the higher the return ( $44,000 downpayment and some buying costs)

Purchase Price. Thia example is for a new home. You can get a new home for as low as $200,000.

Financing. It is very difficult if not impossible to borrow money for these kinds of deals without other collateral. I used a 25 year amortization and a 4.1% cost of money. If you borrowed none of the money and just paid cash, your total return will be less (Don’t forget you lose the magic of leverage) .  

Appreciation. Whenever I do this spread sheet for a client, I ask THEM what they think will be the annual appreciation for the property, then I cut his estimate in half. In the above example I used 7%. I think this reasonable for a new home bought as pre-construction. 

Vacancy and Credit Losses and other itemsThe model is a simple one and does not take into consideration vacancies, replacement reserves, credit problems, or the need to replace an air- conditioner or roof. I did put a management number in here, but I did not put a cost of acquiring a tenant. All of these numbers will affect your return.

Oh, I know you can shoot a lot of holes in the above example, but I have to tell you: this dog hunts.

If you want to make an appointment to come in and sit down with me and go over a spreadsheet designed to analyze your particulare deal, I would be happy to do so.


I love these homes as a future retirement home – (or at least a way to “get on the escalator”) of rising prices  (Here is a link to the full report)

Other links that may help:

What is a CAP rate?

Rules of Thumb in Florida Real Estate

Understanding Leverage in Real Estate

Gregg Fous