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Using rental income to improve returns
Note: You can use any financial calculator to do this problem, but if you want the BEST, you can
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THE SCENARIO
Let's say I
bought a house in an installment sale over the course of a decade, and I want to make 9% on my money.
In order for that to happen, the house would have to be worth $145,135 at the end of the decade, but appreciation fell short of my expectations (only averaging 3%), and the house is worth $121,442 instead.
However, now I have a rental house that's free and clear (i.e. there's no mortgage on it). I can net* $1150 per month in rent from the house, and I plan to sell it after 5 more years of appreciation.
The Question: What would the house need to be worth after 5 years, in order for my
total investment return to be 9%? Assume that rent stays the same throughout the 5 years.
* Remember that properties always have additional expenses, from vacancies, maintenance, property taxes, insurance, management, and so on. For this situation, assume that after all of that, I get an average of $1150 per month in rental income throughout the 5 years I'm going to hold the house.
THE SOLUTION
Since we're talking about total investment return, I need to assume that my initial investment value is $145,135 (
not the $121,442 that the house could currently sell for). That's because I need to get a 9% return from this point on, but
also for the time leading up to this point. And in order for
that to happen, my investment would need to have a value of $145,135 today.
First things first, make sure the calculator is using 12 Payments per Year.
N: 60 (I'm going to sell the house after 5 years)
I/YR: 9 (My desired return)
PV: -145,135 (The value of my current investment in the house)
PMT: 1150 (My net rent per month)
FV: (this is what I'm trying to find)
In order for my total investment to yield 9%, the house would need to be worth $140,497.36 after 5 years.
One of the benefits of rental properties is that even if appreciation doesn't lift the values as much or as fast as you'd like, if they make you money month-to-month, you can sometimes wait (while collecting rent) for appreciation to get to the level you want. So even if Plan A doesn't work out, there can be a reasonably attractive Plan B.
What do you think? Is owning a rental house free and clear something that you think might be of benefit to you? Let us know in the comments!
