Real estate is perhaps one of the most tax-advantaged investment classes in the world. A survey from WMRE in 2020 showed that 61.5% of high net worth individuals planned to allocate more of their financial resources to investment properties. This is further underlined by the fact that 84% of homeowners are willing to pick a home located in their ideal location over home features and amenities.
Most of these real estate investors can deduct depreciation and real estate investment losses. This simply means they can seamlessly lower their tax bill thanks to real estate investment.
Using the buy and hold real estate strategy can help you get to a point where you own enough real estate to pay little to no taxes. In this article, you will discover what the buy and hold real estate strategy is and why it remains a profitable avenue for real estate investment.
What Is the Buy and Hold Real Estate Strategy?
There are various investment strategies for real estate. The major aim when selecting a strategy is to choose one that aligns with your goals and the level of responsibility you wish to have.
The buy and hold real estate investment strategy is similar to wholesaling or flipping, where you locate below-market value properties and revamp them to make them more valuable. The major difference is that while flipping, you hold on to the property to sell for a profit, whereas with the buy and hold real estate strategy, you rent the property to generate rental income.
Eventually, you can choose to sell the property or conduct a 1031 exchange. Nevertheless, with respect to market conditions, you can use this strategy for as long as you desire.
One can break down the buy and hold strategy into two categories: short-term buy and hold real estate, where you sell your property within five years, and long-term buy and hold real estate strategy, where you hold on to the property for longer than five years.
How to Buy and Hold Real Estate
Finding Good Tenants
Finding great tenants for rental real estate is one of the keys to success with the buy and hold strategy. You must learn how to market your property properly, keep vacancy rates low, and vet prospective tenants.
The simple fact remains that some of your tenants will leave at one point or another due to homeownership, upsizing, downsizing, or relocation. You might also have to evict a few. You must put measures that attract and evaluate new tenants as quickly as possible.
With that in mind, here are some strategies to consider when marketing your rental properties:
- Put a “For Rent” sign in your yard
- Advertise on reputable real estate sites
- Take professional pictures for your listing to attract high-quality tenants
- With every outgoing tenant, conduct a move-out inspection
- Hire professional contractors and cleaners if necessary
Alternatively, you can hire a realtor to help you list your properties. Typically a flat fee realtor helps with certain aspects of marketing your property. You could also negotiate for assistance with tenant screening. You must have a written contract highlighting everything the realtor is to do and the fees involved.
Taking the time to properly screen tenants and anyone else that might have issues making payments. You must also ensure your tenant requirements are stated in your rental adverts. Ensure that your rental requirements do not run foul of fair housing laws.
When vetting out problem tenants, you need to conduct a background check and find out about their credit score, eviction history, and employment history. This entire process can be daunting, so you might want to employ the services of a property management company to handle the screening and marketing.
Adding Value to Your Property
While the aim is to find properties that are in decent condition, it doesn’t mean you should be paying market value for the buy and hold real estate properties. When you follow this strategy, you should look for off-market deals, of which you can increase the value. You can do this by updating the bathroom and kitchen hardware, floors, landscape improvement, and painting.
Buying a property and increasing its value over time—lowering operating expenses, conducting renovations, and increasing rents—can pay dividends concerning increased cash flow. For the most part, you can raise rents by around 30%.
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Assessing the Condition of the Building
Once you have done your due diligence, the next step would be to assess the building. Some houses do not make the best rental properties. While they might appear to be a great deal, you must consider the tenant’s perspective. If you were a tenant, would you enjoy living in that house?
You can also enlist the services of a real estate agent to create a comparative market analysis. If the property has been rented before, you can check its rent, monthly cash flow, expenses, and vacancy rate. Rather than simply searching for bargains as a new buy and hold real estate investor, you need to pay close attention to prospective cash flow.
Seeing as there is a limited resale inventory, you need to search for deals in new construction and turnkey. Choosing a turnkey property with a great cash flow tends to be much less stressful than purchasing a rehab. A property that requires you to make many fixes and upgrades after buying it doesn’t make for a suitable buy and hold real estate property.
As a new investor, you should note that you might have to pay a slightly higher price to get income-producing buildings unless you have previous experience dealing with large-scale repair and renovation projects.
Assessing the Local Real Estate Market
This strategy differs from flipping as you need to fill your property with good tenants. You will have to find areas with high home appreciation rates and population growth. These metrics signal a growing job market which in turn means a higher proportion of prospective tenants.
Typically, you want to search for expanding markets where you can get great deals. To this end, you need to list prospective markets to analyze. Doing this helps you avoid selecting the wrong market, which could mean dealing with high vacancy rates that negatively affect your cash flow.
Choosing the wrong market could also mean you will have to deal with negative property appreciation rates should you choose to sell.
When selecting a real estate market to invest in, you will want to pay close attention to the following:
- Number of malls and restaurants
- Walkability
- School district
- Property tax rate
- Home affordability rate
- Homeownership rate
- Vacancy rates
- Population growth
- Available new jobs
The buy and hold real estate investment strategy requires you to hold on to the property for years, so you need to ensure you do your due diligence.
Benefits of the Buy and Hold Real Estate Strategy
Generational Wealth
Most people tend to invest in real estate as a way to preserve and accumulate wealth. Cash tends to lose a portion of its value to inflation over time. However, inflation does the opposite to real estate since a home’s value rises with inflation.
Furthermore, wealthy real estate investors use the buy and hold real estate strategy to help their heirs benefit from the stepped-up basis. The stepped-up basis is the term given to the fair market value of an inherited property the day the benefactor passes away.
If a property is worth $100,000 in 2000 and the benefactor passes away, the stepped-up basis becomes the property’s current market value. Generally, when the property is sold without a 1031 exchange, the inheriting party will be required to pay a capital gains tax; however, with the stepped-up basis, that tax is altogether eliminated.
Tax Benefits
The buy and hold real estate investment strategy can help you minimize taxes owed via depreciation. Depreciation lets you deduct the cost of fixing the property over its useful life. For residential properties, that is typically around 28 years. You can also deduct the following expenses:
- HOA dues
- Maintenance and cleaning costs
- Travel costs
- Business and legal equipment
- Office space
- Advertising
- Management fees
- Property insurance
- Mortgage interest payments
- Property taxes
All of these expenses can result in thousands in tax savings. Furthermore, a qualified tax accountant can help you figure out how to leverage depreciation and the type of expenses you can deduct from your rental property.
Leverage
If your credit is great and you can afford a 20% down payment, it is possible to own a piece of US real estate seamlessly. Not only do you get a great asset, but you also get monthly rent from the said asset.
Fixing up the property before finding tenants can generate income for paying off your loan. The buy and hold real estate strategy provides you with that additional advantage. Furthermore, you can use these investments to finance other projects as they add the necessary stable net worth that all lenders look for.
Consistent Income
Rental income from tenants in an investment property can be used to pay your mortgage payment and give you some more cash in hand. With buy and hold real estate investing, you get predictable cash flow since the real estate market is less volatile than the stock market. Furthermore, you can expect to receive payouts from rent throughout your holding.
