Setting the perfect rent price for your properties can be a challenging task, but it is ever so important. You don’t want to set your price too high, as it can scare off potential tenants and make them gravitate toward other properties. You don’t want to set your price too low, either, as it could cost you potential income.
That’s why before you set your final rental price, you need to do your research and put in the time to come up with the perfect price. Here are some good guidelines and tips you can follow that will help you in that effort.
What are Inaccurate Pricing Red Flags?
When tenants are shopping for a new property to rent, there are plenty of red flags that they look for. One of the top red flags is if the landlord is asking for a lot of money up front, for example more than the first and last months rent. Other red flags include not requiring potential tenants to fill out an application and if the online property listing doesn’t have a lot of photos.
Landlors that are unresponsive to phone calls and other inquiries about the property is a potential red flag for tenants as well. And when they visit the property, if the area that it’s in and/or the property itself aren’t in tip-top shape, then these could be red flags, too, that it’s not a desirable place for them to live.
What are Factors that Affect Pricing?
There are a lot of factors that affect pricing on a rental unit. In terms of the property itself, items of importance include:
- Number of bedrooms and bathrooms
- Type of housing (single-family home, apartment, room, etc.)
- Proximity to transportation and attractions
- Age of property and general condition
- Utilities and other included amenities such as a pool or backyard
In addition to the property itself, one of the biggest factors that affect pricing is the location of your property. Different markets have different going rates for very similar properties. That’s why it’s so important to do your research to find the right real estate market before you purchase a property and/or before you set your rental price.
How do I Compare Actual Rent Data?
The most effective way to begin your rental price research is to compare your property to others in your market. By looking at what other landlords are charging for similar properties to yours in terms of home style, location, amenities, etc., you’ll be able to have an accurate baseline from which to work when you’re trying to decide on how much rent to charge.
The best way to do this is by using HomeUnion®’s RENTestimate, an online tool that allows you to search your property’s address to see what the rental investment potential of it is. The RENTestimate tool will compare data on properties in your market to give you accurate data on rent, price and operating expenses so you can make an informed decision.
How much profit should you make on a rental?
The end game for any property owner is to make a profit on their rental. But how much profit should you look to make on your rental, and can you base your rental price around that number?
The key to having a successful investment rental property is to operate with positive cash flow after all your expenses are taken out. This includes expenses to maintain the property on an ongoing basis, plus any expenses associated with financing the home, paying the taxes on the property, etc.
There are two ways you can calculate profit, based on how you purchased your property. If you purchased it fully in cash, then analyzing the capitalization rate (cap rate) is best. You figure this out by taking your annual net operating income (which is your rental income minus your operating expenses) and dividing it by the purchase price of the property. If your rental income is $18,000 ($1,500 per month), your expenses are $5,000 and the price of your property was $200,000, your cap rate would be 6.5 percent, for example. Ideally, you want a cap rate around 10 percent.
If you financed the cost of your property, the better method is to do a cash on cash return calculation. To figure this, you divide your annual cash flow by the total amount of cash you invested in the property. Using the above example, your annual cash flow would be lower because you would have mortgage and interest payments. Conservatively, your expenses may increase as high as $10,000 for the year. Your new annual cash flow would be $8,000.
If you put a 20 percent down payment on your home, your total cash invested could be somewhere around $50,000 (down payment, closing costs, improvements to the home). This would make your cash on cash return 16 percent. A good cash on cash return is between 8-12 percent.
What is the average property management fee for rental properties?
If you plan to outsource the management of your property, there will obviously be a fee associated with it. What you pay for property management will ultimately depend on what you are having your property management company do for you. If they are handling every aspect of management, including indoor and outdoor maintenance, cleaning when there is tenant turnover, etc., then your fee would be higher than if they are just serving as an on-call handyman service.
Typically, you should expect to pay a fee that equates to roughly 8-12 percent of the monthly rental fee, plus any expenses the property management company incurs. You can use this number as a baseline to see if the price you are quoted would be fair or not.
What is a good price to rent ratio?
Price to rent ratio is a number that is used to determine whether it is generally viewed as more financially wise to rent or purchase a home in a given location. A good price to rent ratio for you as a landlord, then, would be one that signifies to potential tenants that it is more advantageous for them to rent than buy.
A ratio of 15 or below means it is generally cheaper to buy a home than rent.
A ratio between 16 and 20 is moderate and it is “probably” better to rent than buy
A ratio of 21 and above is a clear-cut scenario where it is cheaper to rent
How do you calculate rent to price ratio?
To calculate the rent to price ratio, you must take a look at rental comps in your region. The formula is to divide the average property price by the average annual rent of properties in your market.
For example, if the average property price is $650,000, and the average annual rent is $21,000 ($1,750 per month), then the rent to price ratio would be 30.95. In this hypothetical market, then, it would be considered much cheaper to rent a property than buy one.
What is the 2% rule in real estate?
The 2% rule is a guideline that real estate investors use at times to decide whether a rental property would be worth the investment. It says that the monthly rent on a property should be at least 2% of the purchase price of the property. To use an example, a $200,000 property would need to have a monthly rent of at least $4,000 (2% of $200,000) to be considered a good investment.
What is a good return on real estate investment?
A good return on a real estate investment depends on how you are determining your return. As we discussed above, a good cap rate would be about 10 percent, and a good cash on cash return would be between 8-12 percent.
A third way to analyze your real estate investment would be through a return on investment calculation, which is done by dividing your annual rental income by the total amount of cash you invested in the property. Let’s say, for example, your annual rental income is $18,000 again ($1,500 per month) and your total cash invested including the purchase of the property, closing costs and any rehab items was $215,000. Your ROI on this property would be 8.37 percent.
What you think would be a good ROI depends a lot on your personal preferences, the market you’re in, whether you’re looking for a big return now or are focused on the long-term game. Typically, real estate investors will look for an ROI using this calculation that is 15 percent or higher, though, like we said, you may be happy with this 8.37 percent ROI.
Get your Rent Estimate
If you are in the market to purchase an investment property, the best thing to do is conduct all your research before you make the purchase to ensure it will bring you the returns you desire. HomeUnion® has a plethora of tools that can help you, including the RENTestimate, industry-leading real estate market reports and neighborhood investment ratings that can help you make a more informed decision to give you the biggest return for your investment.