Source: OC Register
As rents hit record highs, here’s a rookie’s guide to buying a rental home
Hugh Siler had a vision when he bought a full block of small houses in Orange this spring. He would restore the homes, built in the early 1900s and long fallen into disrepair, to their original state. After that, he’d rent them out at top dollar.
One house is done, and if it’s any sign, his payoff will come sooner than later. The 450-square-foot, one-bedroom cottage on Palmyra Avenue near Orange Plaza rented for $1,850 a month – immediately.
“Literally, it rented before I even stuck a sign in the ground,” Siler said a couple of weeks ago. His tenants, a young couple, plan to move in by the end of November.
As rents break records, apartment vacancy rates stay low, and millennials delay homeownership, buying houses to rent appeals to investors large and small. But the foreclosures of the Great Recession have been receding for years, and bargains can be hard to come by in Orange County, where the median home price was $640,000 in September.
That’s led many local buyers to set their sights on less pricey property in the Inland Empire and sometimes other states.
“Most investors still invest in their backyard,” said Daren Blomquist, spokesman for Irvine-based Attom Data Solutions. “So for those folks in Orange County, Riverside and San Bernardino are good options.”
Of course, risks abound, including the impact of housing and economic policies to be shaped by a new president, albeit a real estate developer. Also, Federal Reserve Chair Janet Yellen said last week the U.S. central bank is ready to lift interest rates. The hike is expected in December.
Earlier this year, real estate adviser RCLCO predicted, “If household income growth for lower and middle-class Americans remains slow relative to historic gains, and home mortgage standards do not loosen for subprime borrowers, it is likely that the recent boom in single-family rentals is here to stay.”
Here are five additional things investors and would-be landlords should take into account.
Attom released a report in October showing potential profits on rental homes throughout California. The analysis included capitalization rates – or rates of return on a real estate investment property based on the income the property is expected to generate.
With a potential annual gross rental yield of just 4.3 percent, Orange County came in at No. 461 out of 473. By comparison, San Bernardino County has a 7.6 percent potential capitalization rate, ranking No. 311. Riverside County has a 6.1 percent potential cap rate, ranking No. 399.
So where else are Orange County investors looking?
The company did an analysis for the Register last week and found the top 10 counties where Orange County residents own investment homes are led by Riverside, Los Angeles and San Bernardino counties.
Those places were followed by Clark County, Nev.; Maricopa County, Ariz.; San Diego County; Mohave County, Ariz.; Kern County; Wayne County, Mich.; and Harris County, Texas.
FINDING A NICHE
Many investors specialize in one type of residential property, whether it’s single-family houses, mobile homes or apartments.
Siler has found a niche within a niche: restoring and renting out historic homes.
It can be a difficult proposition. For one thing, he said, a bidding war ensued over the five homes – one a duplex – that he purchased in April. He said he spent a total of $1.62 million to come out the winner.
Then, there’s the exacting work of creating authentic restorations. “Most people would say I’m fairly nuts to take this on,” he said. Compared with remodeling homes from the 1970s or ’80s, “When you do a vintage home, the template goes out the window.”
He’s had some experience, restoring the historic Shaffer Cottages, a set of four tiny, attached apartments he bought elsewhere in Old Towne Orange for $585,000 in 2011. That project saw him spend about $175,000 and some 4,000 hours on refurbishing and restoration.
At least he could count on some future cost-cutting. The original, refinished floors eliminate the need to buy carpeting for every new tenant, and it takes only a gallon or two of paint to refresh a small interior.
One of the most dramatic shifts in the U.S. housing market in the past decade was the “unprecedented” increase in single-family home rentals, RCLCO said in a report this year.
But, the firm added, “While there has been widespread discussion of the economic and demographic shifts affecting the U.S. multifamily rental market, a major component of the overall rental market – single-family rentals – has been largely overlooked.”
Reis Inc., which tracks apartment rents, said rates went up in all 79 major U.S. metro areas it studies. The average rent for all metros was $1,271 a month, up 19 percent over the past 4 1/2 years.
In Southern California, rents hit all-time highs. Orange County rents were the ninth highest among the top 79 U.S. cities.
The average asking rent for an Orange County apartment climbed to $1,781 a month, following 61/2 years of steady hikes, according to Reis. In the past 4 1/2 years, rents shot up 14.3 percent, or $223 a month.
In Los Angeles County, the average asking rent reached $1,676 a month, rising nearly 18 percent over the past 41/2 years, Reis reported. In the Inland Empire, the rents were up 17 percent to $1,239.
Meanwhile, homeownership has been dropping, and millennials are expected to rent for longer than their parents did.
John Burns, an Irvine-based real estate consultant, predicts an overall 60.8 percent homeownership rate among all age groups by 2025, the lowest since the mid-1950s.
Still, investors can face plenty of uncertainty, starting with their newly purchased property.
For one thing, often, a home inspector won’t find everything, Siler said.
“So make sure to set aside an additional fund of money – about 15 percent of your overall renovation budget,” he said, “and call it your ‘just in case’ fund.”
Investors also say it’s best to have at least six months of reserves in the event a renter doesn’t turn up right away.
Institutional investors – those with 10 properties or more – have purchased more single-family rental properties this year, even though average returns dropped to a nine-year low, Attom said in an Oct. 27 news release. But, the data firm said, “After a drop-off in single-family purchases by both individual and institutional investors over the past two years, we’re starting to see investor acquisition activity pick up again.”
Blomquist said it’s a good idea for smaller investors to pay attention to what the larger, better-capitalized investors are doing.
“In some cases it may be so the smaller investor can simply follow the lead of larger investors who have found a market or strategy that delivers strong returns,” he said. “But in some cases, it may be to avoid the strategies and markets employed by larger investors, so the smaller investor doesn’t have to compete.”
NOT A LANDLORD?
A lot of mom-and-pop investors like the idea of collecting monthly checks, but balk at the hassle of finding renters or fixing dishwashers. Or they worry about being too far away to handle the upkeep.
An Irvine company is one of one of several online investment management firms helping buyers more easily pick up single-family rental homes in lower-cost markets where returns are higher.
HomeUnion acquires the property on behalf of the investor, completes the documentation online, lines up property management, and later helps the investor figure out when to sell. Transaction fees are 3.5 percent of the purchase price; management fees are 10 percent to 10.5 percent of the rent.
The company, operating in 18 U.S. markets, has penned the motto, “You invest, we do the rest.”
It appears to be working.
The firm recently announced plans for an initial public stock offering.