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What are the Best Markets for Rental Property Returns?

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  |  By Chris Shanahan, CISP®

If you’ve read my recent posts here on the PENSCO blog, you already know that it’s possible to invest in property using your IRA, and hopefully now you have a basic understanding of how to do it. But as you start to purchase rental income properties using your tax-advantaged retirement funds, a big question still remains: Where is the best place to buy a rental property?

As recently as a few years ago, the market in many areas around the country was flooded with investment properties for sale as undervalued properties and foreclosures dotted the real estate landscape. However, the economic recovery has given rise to appreciating home prices once more, particularly in certain regions of the country. Soaring home prices can make it difficult to identify the best rental property opportunities, as an investor must weigh the cost of the property with the amount of rental income they can expect to receive.

Sometimes finding a good rental property investment can be a matter of targeting areas where home prices aren’t rising, but where rents are still strong on a relative basis. For example, RealtyTrac recently calculated gross rental returns for each U.S. county by taking the annual fair market rent for a three-bedroom home and dividing by the median sales price. Wayne County, Michigan (which encompasses the Detroit-Warren-Livonia metro area) topped the list for best rental markets, because while the area’s median home prices remain fairly depressed, the relatively high average fair market rent makes it attractive for rental property investors. In fact, the relationship between these two factors translates to an annual gross yield of around 30%.

So while your instincts may tell you to focus on “hot” metro areas known for high rents – like New York City or San Francisco – it’s possible that your rental income could barely offset the high price you paid for the property. The result could be a low-yielding investment as you struggle to earn back your large initial purchase. It’s therefore unsurprising that by these calculations both New York and San Francisco Counties are among the bottom three rental markets on RealtyTrac’s list, yielding a gross annual 3% and 4%, respectively.

Of course, these are simplified calculations that don’t take into account several potential material factors, like taxes or the prevalence of vacant rental properties in the area. However, they do illustrate that finding the sweet spot between the home price and the average rent in the area can help maximize the return on your real estate investment.

This Blog does not provide investment, tax, or legal advice nor does it evaluate, recommend or endorse any advisory firm or investment vehicle. Investments are not FDIC insured and are subject to risk, including the loss of principal.