Real estate investing has created more millionaires than almost any other wealth-building strategy. But it is not passive, and it is not for everyone. This guide covers the fundamentals of rental property investing.
Why Invest in Real Estate?
The Benefits
- Cash flow: Monthly rent minus expenses puts money in your pocket
- Appreciation: Property values tend to rise over time
- Leverage: Use bank money to control valuable assets
- Tax benefits: Depreciation, expense deductions, 1031 exchanges
- hedge: Rents typically rise with inflation
The Downsides
- Not passive: Tenants, repairs, vacancies require attention
- Illiquid: Cannot sell quickly like stocks
- Large capital requirements: Down payments, repairs, reserves
- Concentration risk: A lot of money in one asset
- Tenant headaches: Late payments, evictions, property damage
Pro Tip
Real estate investing is more like running a small business than buying stocks. If you want truly passive investing, are simpler. Real estate requires more work but offers unique benefits.
Key Metrics to Evaluate Properties
Cash-on-Cash Return
What percentage you earn on the cash you invested.
Formula: (Annual cash flow / Total cash invested) x 100
Example:
- Annual rent: $24,000
- Annual expenses: $18,000
- Annual cash flow: $6,000
- Cash invested ( + closing): $50,000
- Cash-on-cash return: 12%
Aim for 8-12% or higher.
Cap Rate (Capitalization Rate)
Property value compared to income, ignoring financing.
Formula: (Net operating income / Purchase price) x 100
Helps compare properties regardless of how they are financed. Higher cap rate = higher return (and usually higher risk).
The 1% Rule (Quick Screening)
Monthly rent should be at least 1% of purchase price.
- $200,000 property should rent for at least $2,000/month
- Quick way to filter properties worth analyzing deeper
A property listed at $300,000 rents for $1,800/month (0.6%). Unless you expect significant appreciation, this property likely will not cash flow. Move on or negotiate a much lower price.
50% Rule (Expense Estimation)
Expect about 50% of rent to go toward expenses (not including ).
This covers: repairs, vacancies, property management, insurance, taxes, maintenance.
If rent is $2,000/month, budget $1,000 for expenses, leaving $1,000 for mortgage and cash flow.
Finding Properties
Where to Look
- MLS listings (through an agent)
- Zillow, Redfin, Realtor.com
- Auction sites
- Driving for dollars (finding distressed properties)
- Wholesalers
- Networking with other investors
Markets to Consider
Local investing:
- You know the area
- Can manage yourself
- Easier to find deals
Out-of-state investing:
- Better cash flow markets
- Requires property manager
- More due diligence needed
What Makes a Good Rental Property
- Strong rental demand (jobs, population growth)
- Good schools (for family rentals)
- Low crime
- Reasonable property taxes
- Properties in working-class neighborhoods often cash flow better than luxury areas
Financing Investment Properties
Conventional Loans
- 20-25% down payment typical
- Higher interest rates than primary residence
- debt-to-income ratio limits apply
House Hacking
Live in one unit of a multi-family (duplex, triplex, fourplex) and rent the others.
- Can use FHA loan (3.5% down)
- Rental income helps you qualify
- Great first step into investing
Do This
House hacking is the most accessible entry into real estate investing. Live in a duplex for a year, then move out and rent both units. Repeat.
BRRRR Method
Buy, Rehab, Rent, Refinance, Repeat.
- Buy undervalued property
- Renovate to increase value
- Rent to tenants
- Refinance to pull out equity
- Use that money for next property
This is advanced—requires renovation skills and capital.
Commercial Loans
For larger properties or portfolios. Different qualification criteria, often based on property income rather than personal income.
Running the Numbers
Before buying any property, create a detailed analysis:
Income:
- Monthly rent
- Other income (laundry, parking, storage)
Expenses:
- Property taxes
- Insurance
- Property management (8-10% of rent)
- Repairs and maintenance (5-10% of rent)
- Vacancy allowance (5-8% of rent)
- HOA fees (if applicable)
- Utilities (if you pay any)
- Mortgage payment
Cash Flow = Income - All Expenses
Avoid This
Do not forget vacancy. Even in hot markets, you will have turnover. New investors often underestimate expenses and overestimate rent. Be conservative in your projections.
Property Management
Self-Managing
- Keep 100% of rent
- More control
- Time-consuming
- Need to learn landlord-tenant law
Hiring a Property Manager
- Costs 8-10% of rent
- Handles tenant issues, maintenance, rent collection
- Worth it for out-of-state or if you value your time
A good property manager should:
- Have experience with your property type
- Handle marketing, screening, leasing
- Coordinate maintenance
- Provide monthly financial reports
- Know local laws
Legal and Tax Considerations
Entity Structure
Many investors hold properties in an LLC for liability protection. Consult an attorney about:
- Asset protection
- Tax implications
- Financing considerations (some loans require personal ownership)
Tax Benefits
- Depreciation: Deduct the cost of the building over 27.5 years
- Expense deductions: Repairs, management, travel, insurance
- 1031 Exchange: Defer capital gains by reinvesting in another property
- Pass-through deduction: May qualify for 20% QBI deduction
Pro Tip
Real estate has some of the best tax advantages available. Work with a CPA who specializes in real estate to maximize benefits.
Common Mistakes to Avoid
- Buying without running numbers — Emotions lead to bad investments
- Underestimating expenses — The 50% rule exists for a reason
- Not keeping reserves — Major repairs happen
- Poor tenant screening — One bad tenant can cost thousands
- Overleveraging — Too much debt is risky if vacancies hit
- Ignoring location — Great property, bad location = bad investment
The Bottom Line
Quick Win
Before buying an investment property, analyze at least 20-30 deals on paper. Practice running numbers until you can quickly identify good deals. Most properties do not make financial sense—your job is to find the ones that do.
Real estate investing can build serious wealth, but it requires education, capital, and effort. Start small, learn as you go, and scale gradually. Your first deal teaches you more than any book or course.