CONTRA COSTA COUNTY, CA (July 8, 2023) — The last few years have been quite a ride for the real estate investment market.
Historically low-interest rates, skyrocketing rents, and huge appreciation gains have seen most homeowners fare very well in recent years. But was this another housing bubble? With rising interest rates, high inflation, and constant speculation of a recession — is rental property still a good investment in 2023?
To find out the potential risks and rewards of the rental market in 2023, Belong has compiled research and analysis on the current rental property market from a variety of sources. These include Investopedia, Roofstock, Zillow, NerdWallet, Redfin, Thumbtack, Forbes Advisor, CBS News, and Belong’s own internal insights.
The research took place in June 2023 and is subject to change. This article can aid research but should not be considered financial advice.
What are the potential rewards in the real estate market in 2023?
The U.S. doesn’t have one ‘housing market’, but rather many housing markets within every locality. A good buy in Seattle isn’t the same as a good buy in Sacramento. Some cities have consistent demand, others will go through fluctuations based on supply and demand.
So is buying a new investment property a good idea in 2023? The answer will always depend on your personal situation and the properties you’re considering. That said, here is a list of 6 potential rewards or ‘pros’ of investing in the real estate market in 2023.
1. Single-family homes are less volatile than the stock market
According to data from Roofstock, average annual returns on single-family homes in the rental market are comparable to stock market returns and outperform bond returns, but with considerably less volatility. They also report that there’s no correlation between single-family homes and the stock market as an investment, meaning that real estate can be a good way to diversify a portfolio.
2. Rental homes can hedge against inflation
When inflation rises, so do rents. Real estate investments are often described as a “hedge against inflation.” This is because with a fixed-rate mortgage, interest payments will stay the same but your rental income can increase over time. You’ll also be building equity in the home and can benefit from inflation and appreciation long-term.
3. Property values have a history of increasing after economic downturns
Housing appreciation has skyrocketed in recent years, with double-digit gains on the value of most homes. Of course, there’s always the risk of an economic downturn that could change that quickly. Thankfully, property values have a history of bouncing back and increasing after economic downturns. That means if you’re investing for the long term, you can expect the value of your property to rise over time — even if there’s a risk of values declining in the short term.
4. Low affordability is keeping people renting for longer
Even as house prices slow across many markets, they’re far from affordable for many Americans. Forbes Advisor predicts that housing affordability will remain low in 2023, thanks to tight inventory, high mortgage rates, and price growth. People will always need a place to live and as fewer Americans are able to buy their own homes, good rental investments in the right neighborhoods can continue to attract long-term residents with low vacancy rates.
5. Rental expenses come with tax write-offs and benefits
Tax write-offs are a major perk of owning a rental property. The IRS outlines rental expenses you may be able to deduct on your tax return including mortgage interest, property tax, and operating expenses including property management fees, depreciation, and repairs. You can even deduct the cost of hiring an accountant or tax professional to maximize your claim.
6. Real estate investments provide an opportunity to learn and scale
Real estate investing requires careful planning, knowledge, and a lot of hard work to achieve passive income. Acquiring and managing your first property involves an initial learning curve, but you’ll quickly learn what works for your personal financial goals. Once you work out the kinks, you can apply this knowledge (and the equity building in the first home) to recognize good investments, find good tenants, increase your rental returns, and even build your portfolio.
What are the potential risks in the real estate market in 2023?
Now that we’ve covered the potential rewards, what are the risks of investing in a rental property in 2023? Again, this will vary depending on your personal situation and the locality where you want to invest. But here is a list of 6 risk factors that you should consider before buying a rental property in 2023.
1. More interest rate rises could be on the horizon
The Federal Open Market Committee (aka ‘The Fed’ or FOMC) announced a pause on rate hikes in June 2023, but that news followed 10 consecutive rate increases since March 2022. This has seen mortgage rates hit over 7% in the last 12 months. The National Association of Realtors (NAR) reported that the monthly mortgage payment on a typical existing single-family home had increased by 58% in the fourth quarter of 2022, compared to a year earlier.
That means that without significant capital, buying an investment property in 2023 is going to cost more than in previous years. CBS News reported that only two of the twelve members of The Fed believe there won’t be any further hikes in 2023, with the majority predicting another two or more before the year is out.
2. Rental growth has slowed and may decline in some areas
Location in real estate is always important. But it becomes more so when vacancy rates rise or values drop. Choosing the wrong neighborhood in 2023 could create major challenges, including lower rental income and property values than other markets and a smaller pool of quality tenants to rent to.
According to Zillow’s May Rent Report, asking rents did grow in May compared to April, but it has slowed significantly compared to the increases that many markets have seen over the past couple of years. In 2023, rental growth is better in more affordable markets. Those deemed overpriced, like Las Vegas, saw a decline of 1.4% in May. What this means is that markets that have seen significant rental increases in 2021-2022 may not continue this trajectory as prices begin to stabilize. This makes pricing accurate for your local market and demand all the more important, as you may not be able to rely on large increases in 2023-2024.
3. Maintenance costs are on the rise in 2023
A report from Thumbtack found that the average annual cost of maintenance on a single-family home has risen in 2023 to $6,409 — up $521 from April 2022. For some localities such as Florida, where extreme weather conditions pose a risk of damage to homes, repair and maintenance costs have spiked as high as 39%. This is an important calculation to include in any cash flow analysis of any rental investment.
4. There’s a threat of an economic downturn in 2023
Is the U.S. economy heading for a recession? This is the big question that’s been asked since 2022 with no definitive answer yet. If the U.S. does face an economic downturn, there will be a risk to house prices and rental growth. That said, people will always need a place to live and as mentioned earlier, prices can and do bounce back. It makes researching your first investment home all the more important to look at markets that aren’t heavily overpriced.
5. Not all real estate investments create passive income
Owning rental properties isn’t always a passive investment. If you’re managing the property and finding renters yourself, you’ll be spending a lot of time communicating with tenants, hiring (increasingly expensive) maintenance workers to fix issues, and finding new tenants every time renters decide to move out. Many first-time landlords say it’s a second part-time job they never anticipated. Do your homework and find out the real time-cost of property management and consider if you need to outsource the work to a professional property management company.
6. Low inventory is making it more difficult to find good investment options
In April 2023, Redfin reported that new listings for home sales are down 25% from 2022, the eighth consecutive month of double-digit declines. Low inventory means higher competition from both potential homeowners and other would-be investors. With both home prices and mortgage rates high, many Americans are reluctant to sell and more are likely to stay put through 2023 while the economy remains uncertain.