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The Duplex Doctor Blog:
Rent Vs. Buy: How Duplexes Turn the Tables
You might expect what comes next – a whole bunch of opinions ranging from “it’s crazy to rent!” to “why would you ever buy?”
There are respectable points made by each group of people here. We’re going to summarize each argument, but at the end, we’re also going to explain how duplexes turn this scenario on its head and leave one obvious option on the table that no one’s talking about. Stick around!
The Argument for Renting
Advocates for home ownership say that paying rent is the equivalent to throwing your money down the drain. They’ll tell you that when you rent, you’re not investing into anything and you’re certainly not working towards paying anything off.
However, what this crowd neglects to warn you about is the responsibility that comes along with being a homeowner and how costly that is. In an apartment, a leaky sink is worth one call to management. As a homeowner, that call goes to a plumber or ends up on your plate. Either way, it’s a costly expense.
Homeowners are also responsible for general upkeep on their property. They must shovel in the winter and mow in the summer. The financial impact of either is relatively small, but in a way, living in an apartment is almost like paying NOT to have this sometimes annoying responsibility.
It should also be noted that renting is typically the better option for relatively short-term scenarios. The cost of closing on a home is expensive enough that it makes the return on renting better than the return on buying (assuming that the money saved by the renter is being invested into something offering a return.) So for those who are looking to own a starter home and live in it for just 1, 2, or 3 years – skipping it and renting instead might be the better choice.
But the real meat of the argument is in this –
Signing a lease is a fiscally responsible move in many ways. Unlike owning a home, renters with a lease can rest assured in what their apartment (or home) will cost them each month. Their expenses are consistent and have few variables.
The Argument for Buying
So renting can offer consistency and security. Then why buy?
Most people will point you towards your monthly payment, reminding you that a mortgage payment goes towards paying something off while rent is an expense that will never disappear.
We can absolutely agree with the argument about building up equity, but the fact of the matter is that an even better reason to buy a home is in the potential for appreciation as it relates to equity building.
Without appreciation, the argument for “paying something off” is a little weak. Most people pay towards their mortgages for 15 or 30 years. It’s only after you’ve completely paid off your home that this argument carries any weight. If you end up moving around a few times like most people do, you may not reach the end of a mortgage term for quite
But thankfully, that’s not the only benefit to home ownership. Appreciation could allow you to walk away from your home with massive amounts of equity that you didn’t even have to pay in, and that’s something renting simply doesn’t offer.
You’ll have the opportunity to capitalize on a hot market by selling instead of being punished by higher rental rates. In extreme cases where appreciation is high (think 5% plus), you might even be better off owning a home than living somewhere for free!
Of course, the non-financial benefits of homeownership can be defined by the word “freedom” and that’s what most people really desire when buying. Besides the government, no one can tell you what to do or not do with your home. You can paint it freely, have pets, remodel, and do essentially anything you’d like.
How Duplexes Change the Game
So both renting and buying have their merits, but how do duplexes fit in with all of this?
By the most basic definition, they give you the chance to enjoy many of the benefits of homeownership without many of the risks and expenses.
What do we mean by that?
As a duplex owner, you will still have a mortgage payment and the responsibility to pay for repairs, maintenance, and utilities.
But in a duplex, there are two units. If you live in one side and rent out the other, you’re often to collect so much rental income from the other side that it completely covers your mortgage!
Meanwhile, you’ll be living for just the cost of repairs, utilities, and miscellaneous expenses. As you use rental income to pay towards your mortgage, you’ll also be enjoying the benefit of building equity with essentially no cost to you.
Of course, there’s a lot more to understand about duplexes than just that, but that’s why we’re here! Feel free to reach out any time for a no-hassle consultation!
REIT Vs. Duplex
But first, let’s make sure we understand how REITs and duplexes work.
What is a REIT?
Investing in most REITs is similar to investing in a mutual fund. However, instead of stocks, REITs rely on the properties in their portfolio to generate profit. Essentially, investing in one is like partnering with someone else to do all of your real estate investing for you and reaping just a small portion of whatever business that person or group drums up.
You can find REITs to invest in for as little as a couple bucks, or you could spend thousands on them. The choice is yours. An REIT is legally obligated to pay out 90% or more of its profits in dividends each year, so if the firm you’re working with is making or holding on to solid investments, you’re likely to earn a decent return on your initial investment.
What is a Duplex?
Many first-time real estate investors live in their duplexes and rent out one side so that they can essentially roll their own living situation into a property that’s also an investment. Other investors rent out both sides in order to generate profit.
The Benefits of Investing in Duplexes
What’s so great about duplexes? For starters, the barrier to entry is very low. Almost every single individual who can afford to purchase a home can afford to purchase a duplex. The difference is that by renting out at least one side, you’ll be subsidizing the mortgage if not generating a profit (when renting out both units).
Even if you’re only breaking even each month, you’re essentially owning a property for free and readying yourself for massive profit when it comes time to sell. However, most duplex owners can do a little bit better than that. Many are making a large profit each month by collecting rental income that outweighs the mortgage.
There are a couple of reasons that duplexes are often preferred over single-family homes. For one, buying a duplex offers you the potential to collect rental income from one side while offering a living situation for you – the owner. Second, duplexes almost always outperform single-family homes in terms of profitability because in the most basic terminology, two doors is better than one. Two tenants each paying $1200 for a living situation is much more likely than one tenant paying $2400 just to rent.
The Downside of Investing in Duplexes
Another downside is that your investment is entirely in one place. If the market hits a downswing, you may suffer some of the blow. The good news is that rental properties are pretty resistant to changes in the market since people always need a place to live. However, you’re not immune from potential ups and downs.
The Benefits of Investing in REITs
The greatest thing about REITs has to be the low barrier to entry. Interestingly, REITs are very similiar to duplexes in this way. Only with a REIT, your initial investment can be even lower – as low as a few bucks.
With a REIT, you’re also able to quickly withdraw your funds for reasons of your choosing instead of waiting for a property to sell or at least get rented out. That said, most REITs don’t offer any kind of revolutionary returns on your investment. You could end up with very modest earnings if you pull out your investment in the short run.
Another great thing about REITs is that your investment will likely be spread out very widely amongst an entire portfolio of properties and markets instead of just one. You could say that this is a defensive option because disaster in one market or on one investment can be balanced out by more positive results in another.
The Downside of Investing in REITs
There’s nothing wrong with that, but for those who are looking to see more of the risk and reward system that real estate’s famous for, this is not the way to go. REITs have a reputation for paying out reliable dividends, but a great year doesn’t necessarily mean your divided payout will change much at all as the goal for REITs is more so focused on sustainability than massive growth.
While REITs are legally required to pay out at least 90% of their profit to shareholders, they’re able to simply re-invest unexpected amounts of profit back into the business to ensure that they’re building more for the long-term.
Another issue with REITs is the fact that your investment dollars are out of your own hands. By investing in your local market and being involved in the community, you’ll likely have a good feel for the community and will be able to make smart decisions based on that knowledge. In an REIT investment, someone else is making the decisions for you. That person (or group) might do things that you wouldn’t and cost you money in the long-term. They might be great at what they do too, but there’s really no easy way for you to know.
How REITs and Duplexes Stack Up
- More Control Over Your Investment
- Typically Higher Dividends
- Hands-On Management
- Monthly Cashflow
- Potential for Appreciation
- 100% Ownership
- Larger Minimum Investment
- Slower Liquidation
- Investment in One Property
- Less Control Over Your Investment
- Typically Lower Dividends
- Hands-Off Management
- Annual or Quarterly Payments
- Regulated Potential for Greater Payouts
- Small Percentage of Ownership
- Smaller Minimum Investment
- Faster Liquidation
- Investment in Many Properties
Thoughts on Duplexes from Leading Financial Experts
Robert Kiyosaki on Duplexes
“…an asset is only something that puts money in your pocket. If you have a house that you rent out to tenants, then it’s an asset. If you have a house, paid for or not, that you live in, then it can’t be an asset.”
Unsurprisingly, Robert Kiyosaki is an inspiration to many multi-family homebuyers since he has furthered the mentality that single-family homes are not an asset but a liability.
Kiyosaki speaks often about generating passive income and making investments that cause for your money to work for you instead of the other way around.
Robert Kiyosaki shares often about how duplexes offer incredible cashflow opportunities. On his site, he even shares detailed breakdowns that show you how you could profit by owning a duplex.
It’s not a surprise to any investor to know that Kiyosaki is a huge advocate for buying and renting out duplexes. You can read all sorts of materials he’s written on the subject, and we’d definitely encourage you to do just that.
Dave Ramsey on Duplexes
“…a $150,000 duplex is going to generate more rent typically than a $150,000 home or a $150,000 condo because you’ve got two sides to it. The positives on the duplex are more cash flow. The negatives are less appreciation.”
– Dave Ramsey
Dave Ramsey could rightly be considered as one of the leading experts on personal finance. His high school curriculum is taught in one out of every three high schools in America, and his radio show features 15 million listeners.
Dave’s principles are pretty straightforward – he encourages the pursuit of a debt-free life and then working towards investing, saving, and becoming an “everyday millionaire.” But what does Dave Ramsey say about duplexes?
By his assessment, there are pros and cons to buying any kind of property – the key is just to understand what those pros and cons are.
After writing about the downsides of condos and single-family homes, Dave shared his opinion about the one thing he gives them over duplexes:
By his assessment, duplexes are likely to be out-appreciated by single-family homes and condos since these properties are not often purchased by savvy investors who understand the true value of a property.
That said, Dave also gave insight as to why someone would be well-informed to consider a duplex nonetheless – the potential for great cashflow. He notes that duplexes are much more likely to generate significant income month to month over what a single-family or condo could ever earn.
In his article on duplexes, Dave also notes that duplexes deliver higher “bang for the buck” than either condos or single-family homes.
Barbara Corcoran on Duplexes
“The best way to become a real estate shark is to start small. Big shots always get burned. Consider the condo studio next door, the duplex down the street, or the mother-daughter house on the next block. “
– Barbara Corcoran
Real estate mogul Barbara Corcoran is well-known for both her Manhattan realty expertise and her appearances on Shark Tank. She’s a savvy investor with lots of personal investing experience as well as experience in helping clients to make big ticket purchases.
Her advice for those looking to get started in real estate investment? Starting small and doing it within your own community.
Barbara recommends duplexes as one option for a great portfolio starter.
Her other key piece of advice is to know what your goals are when you buy a property – are you looking for immediate cash flow or to start with a property that breaks even (so that you’re essentially owning it at no charge)?
8 Steps to Ownership: The Duplex Purchasing Process
Going From “Buyer” to “Owner”
Choosing a Realtor
It might not mean much to you to hear from us about picking a great Realtor – after all, we’re Realtors ourselves.
Even so, we have to assert this to anyone who will listen: the realtor you choose is an absolutely essential part of ensuring that your process is successful and that you end up in a property that makes sense for you.
Because as a duplex owner, you probably have entirely different goals than those buying single-family homes. You likely value the property that you’re trying to buy as an asset – one that can either make you a profit or reduce your living expense.
If you don’t pick a Realtor that understands this and knows what to do about it, then you might end up in a property that would make great sense for someone with the goal of buying a single-family but zero sense for you.
Some agents just don’t understand duplexes or the buying process that’s associated with them. That’s just a reality that goes along with picking a unique segment of the real estate market to focus on.
Everyone knows why getting pre-approved for a mortgage matters. If you skip this step, then no one’s going to take your offer seriously (unless you’re planning to pay in cash.)
But don’t glaze over this section because you’ve been pre-approved before or think you know what to expect. The fact of the matter is that qualifying for a duplex looks just a little bit different than qualifying for a single-family home.
Believe it or not, you’re likely able to afford more of a duplex than you could a single-family home. Rental property competent mortgage lenders are able to make use of a special program that allows you to consider about 70 – 75% of the expected rental income that a property could generate as your income when you qualify. That means that your “income” that’s used to qualify could go up by $500, $700, or even $1,200 – all depending on what a unit in your property could rent for.
First-time homeowners looking at duplexes should also be aware that duplexes DO qualify as properties that can be purchased with FHA financing. Other than these and a few other differences here and there, rest assured that you won’t be completely lost in the duplex qualifying process. If you’ve qualified for a home before or know anything about the process, than many parts of the duplex qualifying process will look similiar or identical to what you’re already familiar with.
Understanding Your Goals
We mentioned earlier that single-family buyers and duplex buyers often have different goals. What we haven’t mentioned yet is that many duplex owners have different goals even when compared to other duplex buyers.
Some buyers plan to rent out one side of a duplex simply to subsidize their mortgage.
Other buyers plan to rent out both sides of a property in order to generate a profit.
Still others are looking for an opportunity to start or build a real estate portfolio while many never plan on owning more than one property.
The key to all of this is deciding what your priorities are and how owning a duplex could be a stepping stone along the way to whatever your end goal is. Based on this, the kind of duplex you want to buy may differ.
Picking Out Neighborhoods
Duplexes are all over Minneapolis and St. Paul. So where do you want to end up?
Just about every buyer has a different idea of the ideal neighborhood. For some, it’s the neighborhood that drives the highest rent or the one that has the best chance at appreciation. In other cases, great neighborhoods are more about living conditions.
For owner-occupiers especially, there is a lot to consider when picking out the neighborhood that you’re planning to live in. You might not be interested in being far from work or near lots of crime, so take all of that into consideration when you pull up a map or a property from your searching.
Also take into account what the rental market looks like in each neighborhood: who is it that’s renting there and what are they paying? What does the vacancy rate look like? Answering these questions will be extremely important to your bottom line.
It’s rarely a great idea to make an offer on the first duplex you see. Instead, focus on getting an understanding for the market and what a property should look like in your budget range.
From there, you’ll start understanding more and more about the rental income a property could drive, the quality of living you can expect, and so much more.
Knowing Your Numbers
Numbers play an important part in any duplex transaction. If your numbers don’t make sense in the real estate investment world, then you could end up with a property that’s hard to sell when it’s time to move on.
You might also find that buying a duplex with numbers that don’t add up could lead you towards having a liability on your hands once again – not an asset as you might have hoped. So what kind of rental income should you hope to generate? What kind of expenses should you anticipate?
Obviously answering both of these questions in full would be impossible since every situation is just a little bit different. However, there are some general rules to consider that many investors use as their standard.
The 1% Rule (for Rental Income)
The 1% Rule suggests that the total rental income your property generates each month should equal out to be 1% of the total price you purchased that same property for.
Forget the fact that you might be intending to owner-occupy one of the units. Knowing whether your property qualifies for the 1% rule is still valuable. If you purchase a duplex for $200,000, then your property should also be able to generate $2,000 a month in rental income from both sides combined. In a general sense, this amount of rental income allows for profitability even with all of the expenses that come along with property ownership.
The 1% Rule (for Home Repairs)
Interestingly enough, the 1% rule used to determine if rental income is high enough can also be used to help determine your repair budget. Experts recommend setting aside anywhere from 1-3% of your home’s total value for repairs on an annual basis. In the $200,000 purchase price example we used earlier, our goal would be to set aside $2,000 per year for repairs and maintenance. If you’re purchasing an older property, you might want to venture to save up to 2 or 3% of the property’s value each year for repairs.
Making a Competitive Offer
The problem with buying duplexes is that other people are buying them too. (Go figure.)
In many cases, a great deal can slip through your fingers at the hands of another investor who offered something just a little bit more appealing.
Don’t take this as blanket advice, because every situation is different, but in many cases, you may need to sweeten the pot to tempt property owners to accept your offer.
How can you do that? There are several ways: offering cash, increasing your down payment, putting down more earnest money, waiving inspections, etc. We wouldn’t necessarily recommend some of these options, but know that other buyers will definitely be making use of them.
Financing types can also play a role here, so be aware of that if you’re utilizing FHA or VA loans.
Becoming a Duplex Owner
Once you’ve made an offer that’s accepted, you’re ready to transition into duplex ownership! By the time you close, you should be prepared with a strategy for making necessary repairs, attracting renters, and managing your property. It can be intimidating for a first-timer, but you’ll likely find that you’re able to learn quickly and enjoy all that duplex ownership has to offer.