For investing in properties successfully you need to differentiate passive investing, the role as investor/landlord and why cash-flow (yield) is king to run investment business.
Private Landlord vs. Passive Investor
Landlord a dream job or happened by accident?
It starts with one investment property, sometimes, just by buying a new house for the family. In this way the older house becomes a rental property and the expected rental income is for covering the mortgage payments, right? Well, maybe not without deeper considerations and planning. A low rental yield might not cover the costs. People often do not know when converting a family home into an investment property that only interest payments for the rental and investment related expenses are rent-deductible. And that starts after the first tenant moved in.
That is different if you purchased a investment property. In this case you can claim tax deductible investment costs from day one. A second point to consider are non rent-deductible costs like expenses for home improvements. If that sounds confusing, find here an illustration how “improvement costs” can cause a negative income. Regarding compliance costs, be aware of the discussions about WOF (warranty of fitness for rental housing) and recent law changes to insulate rental properties by July 2019.
For passive investors is engaging the right property manager the key for luck or failure. My first property manager failed to deliver. Obviously checking rent payments wasn’t the problem, but everything else. Don’t get me wrong, property managers do the right things for “their business”. Their limitation is manpower by failing to carry out time consuming services. Particularly carrying out thoroughly inspections and pro-active steps to avoid expensive repairs are on top of the list.
For investing in properties successfully you need to differentiate passive investing from running investments as (landlord) business. That is why you have to work out your investment model, investing rules and what your time line/goals are. To help you with practice tips, follow our blog posts as we completed all three stages of passive investing, active private landlording, and running a landlord company (by quitting the day job).
Passive property investor or landlord
Commonly investors have a job or a source of income to invest. That limits their time of wanting or being a landlord. On the other hand, let me assume that dealing with people’s issues is tough and being a landlord is not a job for everyone. That is why the commonly passive investors engage a property manager to fill the role as landlord on their behalf.
Investors, who share their income with a property manager, often don’t realize the key areas of losing income due to inflated running costs. To illustrate, as landlord I fix minor problems during an inspection. For minor jobs the property manager can choose to postpone until the problem needs expensive attention or call a trades person on market rates (call out and administration fee, vehicle charge, threshold for labour). But that is not all, the property manager charges administration fees on top for bills passed on to the property owner.
Particularly the definition of “fair wear and tear” is open to interpretation and can be seen as grey area within the property management. If as a result of a relaxed management the rental has deteriorated by the end of a tenancy, more work is required to maintain certain standards. In this way people pay a very high price for passive investments run on auto-pilot.
Are private landlords disadvantaged?
A private landlord can claim the costs for maintenance and repair paid to service providers as rent deductible expense. If he does the work himself, e.g. cleaning up the house, gardening or minor repairs, from taxation point of view such work is seen as an unpaid service.
Compared with industrial businesses the taxation rules for investors/landlords have been changed in short succession. For instance the depreciation of business assets (residential houses) has been removed and capital gain tax introduced (Bright-line test).
Investors have to detect a fine line between expenses for repairs and improvements. Home improvements are not rent deductible and must be capitalized. With that in mind an investor has to make operational decisions how to cover property related costs. Operational decisions are based on ownership and investment structures. That leads to the next question—how to run a landlord business?
Running a landlord business
A landlord business has compliance costs for running as company, operating within a trust and legal obligations (taxation, financial and legal compliance). You need to know everything that may or may not affect the legal position and outcome from your investing activities. Often not understood a landlord business has a different structure and specific taxation rules in comparison with a trading entity such as a property trader, developer or builder.
In most cases building up a property portfolio and a profitable business take quite few hard working years. If you are serious about building up a landlord business, why then would you the crucial parts like dealing with assets and paying clients (tenants) outsource? Based on income your business model has to support growing equity (for finance) and driving yields (for cash-flow).
Cash-flow (yield) is king for every business. The value of a rental comes with attracting the right (desirable) tenants. For retaining good tenants landlords have to be confident and take chances outside their comfort zone by being focused on renter’s needs. On the opposite the wrong kind of renter who might cause damage and rent arrears would endanger business growth and cash-flow.
A workable system to manage positive cash-flow covers:
· Presentation and advertising to attract the right type of renters
· Tenant selection process to meet business rules
· Customised tenancy agreements to reflect property conditions
· Communication on agreed channels with tenants and agents/contractors
· Property inspections to enforce tenancy agreements and regular maintenance
· Record keeping and administration
· Adhere strictly to business rules, law and regulations (Residential Tenancy Act, Taxation rules, and business regulations)
To close this summary
Many landlords/property managers prefer to under rent, avoid vacancies and think they are doing a great job as tenants have been there for years. Well, the opposite is the case. Vacancies between tenancies are the right time to upgrade a rental and maintain high standards. Remember, you are running a business not a charity and rents are critical for cash-flow and finance. Good luck.
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Klauster Blogs lead to a real person, IT professional, investor, landlord and business owner with interests in technologies, residential properties and healthy lifestyles.
The passion of making experiences available comes from renting in different countries and working with people who are interested in home ownership. Helping people to avoid pitfalls has been most rewarding, when forming relationships.
Our philosophy to treat life, partnerships and hobbies as an investment has helped people in our circle. Life is a dream with a deadline, happiness comes from making the right choices by having realistic expectations.
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