How to Manage Your Rental Income Wisely
Becoming a profitable real estate investor requires giving time and attention to your finances. Being a landlord requires you to manage rental income and spend money on repairs, maintenance, taxes,...
Becoming a profitable real estate investor requires giving time and attention to your finances. Being a landlord requires you to manage rental income and spend money on repairs, maintenance, taxes, and other property-related expenses.
Although some properties generate more income than others, you can optimize your ROI, no matter what kind of properties you own. The key is to manage your finances. The better you manage your rental income and expenses, the more profitable you'll become.
Try these strategies for managing your rental income and expenses.
1. Limit the pursuit of time-consuming investments
There are plenty of ways to make money in real estate. For example, you can rent properties, fix and flip, or invest online. All of these are good money-makers, but rental properties produce the best source of income.
If you spend your time pursuing too many short-term investments, you won't have any time left to acquire more rental properties.
Owning rental properties may not make you as much cash upfront, but it's the only long-term wealth-building strategy in real estate. If you aren't building long-term wealth, your investment income will require continued hard work, and you might end up too exhausted to manage your properties.
It's tempting to put your money into every aspect of real estate in an attempt to see what works best. However, if you're managing multiple rental properties, you need to be selective with your investments.
If you want to pursue other investments, you can free up your time by hiring a property management company. However, your time still might be better spent acquiring more rental properties.
2. Hire only licensed professionals to perform repairs
Trying to complete all repairs yourself or hiring a friend can turn out to be a disaster. If you get in over your head, or your friend doesn't have the required experience for the job — disasters can happen. You could end up having to hire a professional to fix the original problem and the mistake — ending in costly work. These types of poor judgment will dramatically increase repair costs.
Hire professionals to perform maintenance and repairs in the following areas:
- Propane appliances
As an investor, you don't have time to figure out DIY repairs. If you choose to hire a property manager, they can handle repairs and maintenance for you by hiring the right professionals. When you contract with a professional management company, they'll have existing relationships with local maintenance companies to ensure you get good deals on professional jobs.
3. Set aside your estimated tax payments immediately
Don't let a significant income tax bill sneak up on you. Manage your rental income taxes from the start by setting aside the approximate percentage each time you receive a rent payment.
Your income taxes will fall somewhere between 10% and 37%. A tax professional can help you estimate what you'll owe. You'll need to pay quarterly taxes, and setting the money aside as it comes in makes it easy to pay your taxes on time and in full.
It may be easiest to have a separate bank account to hold your taxes. That way, you won't risk thinking you have more cash available than you actually have. Every penny in your tax account will be untouchable.
4. Regularly set aside money for repairs and other expenses
Do you have a savings account set up just for expenses? If not, consider creating one as soon as possible. Even if you already set money aside for taxes, you'll need to set aside more for repairs and insurance.
Some of the most common repairs can be enormous. For instance, say the roof has been leaking in the same spot for years. You don't want to have to rip off the roof and replace rotted drywall and rebuild the roof. Leaks have to be followed up on quickly to avoid costing thousands of extra dollars.
You'll need cash on hand for fast repairs
When your tenants report the need for repairs, sometimes you only have up to ten days to get it done. For instance, a leaky roof in the winter, no running water, and a broken water heater are all considered priorities. Most states require these repairs to be completed within 24 hours. Other maintenance, like a broken window or malfunctioning garage door, is generally given ten days to complete the repairs.
There's no way to escape numerous repairs from each of your tenants. Some repairs will be cheap and easy, but others will be expensive. You can't guess which repairs will come up next.
Set aside 30-50% of all rental income for expenses. If you're already setting aside money for taxes and insurance, add more to that fund for repairs so that you're tucking away at least half of your rental income.
Most importantly, put this money in an account that will generate some kind of return, no matter how small. Every dollar will help, and with enough money in the account, a small rate of return will add up fast.
5. Be selective with renovations
Your rental properties don't need the latest and greatest fixtures, lights, cabinets, or appliances to be profitable.
The inside of a rental property should be relevant to the home's style, but you don't need to go overboard. If a renovation doesn't impact your rental income, it's probably wasted cash.
Some renovations make sense to perform for tenants, but some don't. For example, the following renovations are worth spending money on:
- Installing accessible kitchen cabinets for a disabled tenant.
- Rearranging small bathrooms so that the toilet, sink, and shower are in the optimal position for daily use.
- Repairing a concrete driveway.
- Grading the backyard and planting grass.
- Installing overhead lighting where there is no natural light.
- Adding shelving to closets.
- Installing a storm shelter if you're in an area prone to tornadoes or heavy storms.
- Updating the HVAC system with a more efficient model.
The following renovations won't increase the amount of rent you can collect:
- New kitchen cabinets
- Installing low flow toilets
- Smart appliances like a washer, dryer, and refrigerator
- Installing a new oven when the original one works just fine
- Replacing the siding when there's no reason other than aesthetics
As a general rule, renovations should directly support generating more rental income.
6. Connect with a tax professional
Income tax regulations are complex, and just when you think you understand what you're allowed to do, things can change. If you mess up, you could get hit with massive fines and penalties that deplete your profits.
Connect with a tax pro to handle your state and federal income taxes. There are so many nuances that apply to real estate investors that require expert knowledge to understand. For instance, your rental losses are subject to the passive activity loss regulations.
If your MAGI is under $100,000, you're allowed to deduct no more than $25,000 in passive losses set against other income. However, if your MAGI is above $100,000, the $25,000 deduction is reduced by $1 for every $2 in MAGI over $100,000 and maxes out at $150,000.
Another complication is that rental activities don't count as passive income for licensed real estate professionals unless you spend at least 750 hours and more than 50% of your time working on real estate trades or a real estate business.
There are other complex rules that a tax professional can help you sort out. However, since the penalties are steep for not paying your taxes correctly, it's wise to hand it all over to a professional, so you don't unnecessarily cut into your profits.
7. Negotiate accommodation requests
At some point, you'll have a disabled tenant who will make a request for a reasonable modification that you'll be required to pay for.
Although landlords are required to accommodate tenants with disabilities, you don't have to grant every request. While you have a legal responsibility to make certain modifications, you also have the legal right to reject a request and offer a cheaper or less intrusive alternative option.
For example, a tenant may ask you to replace a dirt path with a concrete sidewalk because it becomes uneven and muddy in the winter and spring. However, building a concrete sidewalk and path is expensive. If your tenant just needs stable ground, there are other options. For instance, you can hire someone to grade the ground and install compacted gravel to create a stable surface.
If your tenant needs something more solid than compacted gravel, you can use asphalt or even crushed asphalt instead of gravel. Although it's installed in a similar manner, crushed asphalt is far more solid than gravel – it's also cheaper. When compacted about four inches into the ground, crushed asphalt will harden and feel almost like standard, poured asphalt.
When there are no other options that will accommodate your tenant's disability, you might be required to build a concrete sidewalk for them. However, always make an effort to negotiate when receiving an expensive request. The difference could be thousands of dollars.
8. Always collect late fees
Late fees won't make you rich, but they will deter tenants from being habitually late with the rent. If you're a new property investor, don't let your tenants get away with paying late rent and skipping late fees. Continuously pursue late fees, and if your tenant doesn't pay them, don't let them off the hook.
Late fees will affect your income because the minute you let a tenant slide on late fees, they know they can pay rent late without any consequences. If you do it once, they'll expect to be forgiven every time they're late. Late rent will mess up your cash flow and might be the beginning signs of a tenant you'll soon need to evict.
9. Evict bad tenants
Don't hesitate to get rid of bad tenants. Start the eviction process the second you're able to fill out the paperwork. Begin the process by serving your tenant a proper "comply or vacate" notice according to your state law. In the notice, address the violation you need them to correct and give them a legally-appropriate time frame.
If your tenant fails to comply with the rules, start the eviction process immediately. Evictions take time to process through the courts, so the sooner you start, the better. If your tenant ends up complying, you can always change your mind and cancel the eviction hearing. However, most tenants facing eviction will remain in violation of the rules the entire time.
Each day you allow a bad tenant to stay in your rental property, is money lost. Get them out as soon as possible and replace them with a better, more reliable tenant.
Managing your expenses is the key to profitability
Owning rental property is a great way to generate the long-term wealth required to secure your financial future. The key to profitability is the same as in any other industry: reduce your expenses and maximize your income.
In real estate, you won't become profitable immediately, so it's essential to micromanage your finances from the start. Don't waste money on frivolous expenses like brand-new granite countertops or fancy light fixtures.
Keep your expenses low, minimize renovations between tenants, and don't hesitate to evict tenants who are taking advantage of you.
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