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The past few years haven’t been ripe with buying opportunities for rental property investors. Low interest rates and high homebuying demand drove home prices up in the double digits year over year. High real estate prices often lead to lower rental returns and make it harder to generate positive cash flow, a cornerstone of successful rental investing.
But now that the real estate market is changing, investors are wondering if it’s a good time to buy a rental property. Let’s take a closer look and see.
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Home prices are falling, but so is rental demand
Higher interest rates have weakened demand, and in turn, home price growth has started to cool. The median home price is still positive, but the growth is at a much slower rate than in recent months and years. The Case-Shiller National Home Price Index was up 10.6% year over year as of the most recent report in September, while a weekly report from Realtor.com in late November has the median listing price up 11% since this time last year.
Many markets are seeing home price reductions, which open the door to lower purchase prices and leave more room for negotiations. Weakening demand also means less competition, a welcomed relief for rental investors. Buying low increases the rental yield by reducing your monthly mortgage payment and the amount of money you had to invest with your down payment.
Price is a big piece of the rental puzzle, but there are other factors that impact the profitability of the investment, too. Rental demand determines the vacancy rate for property and its potential income. High rental demand garners higher rental rates and low vacancies, meaning landlords earn more.
But right now rental demand is wavering. October 2022 marked the third consecutive monthly decrease in rental rates and demand, according to a report published by Apartments.com. Like home prices, year-over-year rental growth still remains positive, but markets are no longer seeing double-digit growth like they were before. When demand falters, it can take longer to rent a property or lead to reduced rental rates, hurting profitability.
Is now a good time to buy?
Considering the changing real estate market, right now is definitely a more advantageous time to buy rental property than in recent months. However, there are major factors investors should consider before buying.
Interest rates are much higher than they were one year ago. Mortgage rates peaked around 7% in October and November, meaning investors could still be paying more for property despite a lower asking price. However, this is less of a concern because the rental income should cover the mortgage payment, meaning the tenant is the one paying interest over time, not you as the owner.
There are signs indicating home prices and rental rates could decline further in the near future. But investors shouldn’t try to time the market. If you have money set aside for buying a rental property, now is certainly a good time to buy.
Just make sure the rental property generates more than enough rental income to cover expenses and the mortgage at today’s rates. Investors should be extra conservative when it comes to buying considering the changing real estate market.
It’s best to estimate a slightly lower rental rate than what market rates might be today. After closing on the property and getting it ready to rent — which could take a few months — the market could decline further, putting pressure on rates and forcing you to lease the property at a lower rate than you might have been able to get just a few months ago. You should also be comfortable knowing you could float the property’s expenses and mortgage for a few months if you’re unable to rent the property as quickly as hoped.
Rental property is a long-term passive investment. Let the cash flow or passive income of the property guide your buying decisions while considering the long-term demand for the property in the given market. If you follow these guidelines, your chances of success when buying a rental property are much higher, no matter what the market is doing.
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