I reviewed the cash flow of my NYC rental property and I'm confused about how real estate can generate income

Legal and Tax Aspects
1

I recently inherited a $1 million rental property in Queens, NYC, and analyzing its cash flow revealed either serious issues or my lack of understanding about real estate profitability.

Here’s a breakdown of the situation:

  • The property’s market value is $1 million, fully paid with no mortgage, and is held in a trust.
  • Last year, I received $36,000 in rent (3.6% gross rental return).
  • Annual expenses include taxes and insurance of $9,000 (0.91%), maintenance costs of about $12,600 (1.26%), and other management fees averaging $1,000 per year (0.1%).
  • Since my relative managed it until now, I’m considering hiring a property manager, which could cost around $3,600 annually (0.36%).

After expenses, I’m left with a net income of about $9,800 before taxes. This results in a mere 0.98% return, decreasing to 0.64% post-tax, equating to roughly $530 monthly. Considering there’s no mortgage, it feels unsustainable. If a mortgage were involved, I could risk losing money annually.

I know property appreciation is a key factor in real estate, yet having a mortgage would detract from potential gains. I originally believed real estate would diversify my investments better than stocks, but it appears I could earn more using an S&P 500 fund, which yields around 1% annually after taxes.

Now, I’m nearly all in stocks and thought diversifying into real estate made sense; however, I’m rethinking whether to sell and invest in SPY instead.

What am I missing about real estate that could justify these low returns? If I were to leverage with a mortgage, I might find myself at a loss while banking on appreciation, which feels high-risk.

Update: I appreciate everyone’s insights. There are two major takeaways:

  1. Underpriced Rent: I’ve discovered that the rental income is lower than average, where ideally it should be around 5%. However, even with those rates, if a mortgage were involved, net cash flow would still likely be negative considering various costs.
  2. Need for Scale: It appears you need to manage real estate on a larger scale to be profitable. I’m still uncertain about the opportunity costs involved in holding the property versus selling it. I’ll continue to evaluate my options.
2

Hey Eth_91Skate! Have you considered the potential for long-term housing demand in Queens to drive appreciation over time? Sometimes, neighborhood developments can create opportunities that aren’t immediately obvious. Any thoughts on exploring those market trends before deciding to sell or hold? :blush:

3

Real estate investments can indeed seem intimidating initially, but consider examining other factors like tax benefits, which can significantly impact your net income. For instance, depreciation is a non-cash expense that can offset rental income on your taxes, reducing your taxable income. Additionally, think about the potential for refinancing options to leverage equity and access funds for either property improvement or diversification into other investments, potentially boosting both property value and rental income. Real estate’s tangible nature offers a unique hedge against inflation compared to stocks.

4

Hey there! don’t forget about the potential for tax deduction on maintenance or improvement expenses. sometimes, by investing in renovation, you can increase both the property’s value and rent. also, network with locals or other investors to explore possible area growth which might boost demand & make holding more profitable. :blush: