You probably have a house thinking about using it as a rental. Or you have been wondering ways a rental home can make you money. It is also possible that you want to buy a property and need to know possible ways you could make money on it. If this the case for you, you have come to the right place.
Your property does not make you money only through cash flow from your tenant(s). There are multiple ways rental properties make money.
In this article, we will discuss 4 ways your rental house can make you money.
Table of Contents
1. Cash Flows
Cash flows are the amount of money or money equivalent you keep after paying off all your property expenses.
The remaining net amount could be positive or negative. If the net amount left is positive, your property has positive cash flow and it is making you money. On the contrary, if your property has negative cash flows, you are losing money.
We can use the following example to see how you can calculate your cash flow.
We can assume that you have done your homework before buying your property. You have a tenant living in your property and he/she is taking care of all your expenses including mortgage and interests.
Let’s say that you bought a property for $100,000 and your mortgage payment is $600/mo.
Now your imaginary tenant pays you $1200 every month. The difference between your rental income and your mortgage payment is $600 ($1200-$600 = $600).
Do you think that you are making $600 at this point? Sorry to disappoint, the answer is no. You are spending extra money on your property. Let’s go through some of your property expenses. You can learn more about ongoing homeowner’s expenses from this article.
For simplicity, you are paying $50 on property insurance, $100 for repairs, $50 on property tax, $100 for management fees, and 100 on all other expenses. In addition, we can assume that your property is not rented one month a year. Since your rent is $1200/mo., you are losing 100/mo. due to vacancy.
The total of every possible expense including your mortgage and interest charges is $500/mo. Now we are moving to the fun part. How much are we really making in cash flows? Remember our $600? Subtract $500 from that $600.
You will get $100. There you have it. Our property has a positive cash flow of $100 and therefore, we are making $100 in cash flows.
2. Appreciation
We say that the property has appreciated when it is worth more than what we bought it for. For example, you bought your house with $100,000 in 2010 and 10 years later you sold it for $150,000. The difference between the purchase value and the sale value is $50,000. You can safely say that your house made you $50,000 by just holding it for 10 years.
There are two types of appreciation. The first type is natural appreciation and the second is a forced appreciation.
a. Natural appreciation
We just finished covering it. You buy a property and hold it for a very long time. If the value of the property increases, you have made money on it through natural appreciation.
Keep in mind that you can lose money on your property through depreciation (meaning that it lost value over time).
b. Forced appreciation
The second type is forced appreciation. This appreciation happens in a very short period of time. For example, you buy a 2B2B property for $100,000 that needs rehab.
During the rehab, you created another bedroom from an oversize closet. You also changed to flooring and painted the house. The total renovation was $30,000. You now have a 3B2B house because of the renovation.
Your total expenses on the property will be $100,000 (purchase value) plus $30,000 (of rehab) which is equal to $130,000. Your tenant can now move in!
After your renovations, your property value is now estimated to be $165,000. Voila! You just made $35,000 in few weeks through forced appreciation.
3. Amortization
We have seen that your tenant pays off your mortgage. What does this really mean? To know what it means, we need to know what will happen 30 years after your mortgage is paid off.
The property will be 100% yours through the power of amortization. A portion of the money your tenant pays goes to paying the interest charges and the other goes to building your equity in the property.
As years pass by, your equity in the house increases until you own the entire house. Besides giving you $100 of cash flows every month, your tenant is building your equity in the house slow by slow. This is real wealth.
4. Tax benefits
Owning a property gives you responsibilities of all kinds. Some of these responsibilities are financial. You will make sure that insurance, property taxes, repairs, and any other related expenses are taken care of.
The good news is that most of these expenses are tax-deductible. Should your property depreciate for some reason? Your depreciation value will be tax-deductible through an annual depreciation allowance.
Final Words
As you can see, there are many ways to make money through rental properties. If you were wondering about ways your rental home can make you money, I hope you now have the answers.
You can create real wealth through rental homes. There are many ways you can invest in rental properties. Please, read more about types of rental homes and properties you can pursue from the following links. Condos rentals properties, townhouses rental properties, single-family homes rental properties, and multifamily rental properties.
