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I’M REASONABLY certain that Dante Alighieri’s Divine Comedy has a long-lost section where he details the 10th Ring of Hell: being a landlord. I’ve done so twice and, despite the glorification seen on HGTV and heard on BiggerPockets podcasts, I found no joy in either experience. Selling those properties felt better than I can possibly describe.
Being a remote landlord may be the worst of all worlds. Getting an 8 p.m. phone call to fix a broken toilet is annoying. But getting that call for the same issue at 4 a.m., because you moved and there’s now a time difference, means existing in a special kind of purgatory. Sure, you can pay a property manager to handle maintenance and upkeep, but that often eats up most—if not all—of the profit.
Instead, I favor owning a real estate investment trust (REIT) index fund. REITs are included in total market index funds, but their weighting is tiny relative to their role in the broader economy. REITs offer significant advantages over owning rental properties. A REIT index fund, such as Vanguard Real Estate ETF (symbol: VNQ), offers wide diversification. When the pandemic dealt a blow to shopping malls, commercial office space and college housing, those hits were offset by gains in sectors like data storage and single-family homes.
REITs are run by experienced real-estate operators who understand the cyclicality of their market far better than you or me. They’re able to take advantage of growth opportunities in ways that individual investors simply can’t. For instance, during the COVID-induced capitulation in the mall space, Simon Property Group pivoted from pure landlord to business owner by astutely picking up several iconic but bankrupt brands like Brooks Brothers and JCPenney for, err, pennies on the dollar.
REITs also operate with much less debt and are therefore less risky. While many individual landlords borrow 80% or more of a property’s price, REITs typically use just half that amount of leverage.
The notion of “passive income” seems to be wildly popular these days. But when you’re a landlord, especially one with several tenants, that’s not passive. It becomes a second fulltime job and an invitation from Virgil to join that special 10th Ring.
Own property in one state and choose to rent it out while moving to another state? We had to file income taxes in two states, plus pay double the property taxes for our rental unit ‘cos the place we moved from gives an exemption to homeowners who live in their property.
Some people enjoy being landlords and are great at it, and others (myself included) just don’t and aren’t. Before jumping in you need to understand what’s involved—not only the tenant hassles but the complications to your tax return.
I had my turn at owning a few rental houses in my younger days, and when I finally got rid of the last of them it was one of the happiest days of my life. And getting rid of them took a painfully long time because there’s another thing about owning real estate—it can be very “illiquid”.
Our CPA adds about $200 to his fee for the rental property part of our taxes. All I need to do is keep track of income and expenses. As I assume you know, rental property has some very nice tax advantages.
We have minimized tenant problems by only purchasing properties the cost at least as much as the average home price in our area. Unfortunately, as the pandemic has highlighted, tenants in lower-priced properties are much more likely to lose their jobs and be unable to pay their rents.
I’ve been managing our rental properties for 22 years and have had very few problems. I purchase 24/7 service contracts for the four rental properties we currently own that cost ~ 1% of gross rental income. Tenants call the service company for emergencies and me for other problems. The approximately 60 hours I spent last year on management activities, mostly finding new tenants, saved me about $13,000 in management property fees. While owning rentals is definitely not for everyone, it is something I actually enjoy that has been very profitable for us.
~ 1% of gross rental income? That is atypically low is it not?
In theory I’ve always loved the idea of becoming a landlord. But then I remember that I’m not handy, I don’t want to pay property management fees, and I have zero confidence that I would purchase the “right” property to begin with.
That said, I don’t see an obvious reason to overweight REITs if you are a passive investor, just as I see no reason to purchase individual stocks. I know REITs are commonly recommended to provide a diversification benefit since they don’t perfectly correlate to the broader market (though they sure seem to tank just as severely as the broader market). I would simply own an appropriate amount of bonds, and perhaps pepper in other alternative assets that are not already accounted for in stock indexes, to ensure proper diversification.
My opinion: there’s no obvious reason to overweight REITs, just as there’s no obvious reason to become a landlord.
Epic takedown. Nice!