11 Factors to Consider Before Investing in a Turnkey PropertyApr 30, 2023
There are almost 20 million rental properties in the United States, and about 70 percent of those are owned by private investors. Real estate can be a fantastic investment, but picking the right property is critical. You may have heard that turnkey properties are better, but how do you tell if these properties are the right choice for you?
Turnkey property investing can be a great choice depending on your budget, skills, and priorities. Read on to learn more about these properties and how to decide if they’re a good fit for your investing needs.
What Are Turnkey Properties?
Before diving into the pros and cons of buying a turnkey property, let’s talk about what that means. A turnkey property is one that’s ready to move into, with no major repairs or remodels needed. Depending on your personal style and expectations, you may not even have to paint any walls – just unlock the door and move straight in.
It is important to note that there is no legal definition of “turnkey,” so property owners can claim any property is turnkey. As we’ll discuss in a moment, deciding if a property fits your criteria for that label is up to you. And in some cases, what you consider to be turnkey may be different than what your renters consider turnkey.
Is a Property Actually Turnkey?
The first step to determining if a property is, in fact, in turnkey condition is getting a solid inspection. All sorts of problems and complications can lurk in the walls of a house. From outdated electrical and plumbing systems to mold and rot, your “turnkey” home could be facing thousands of dollars in repairs.
Once you get an inspector to give your property a thorough once-over, you’ll need to start looking at the details. Do all switches and outlets work, and are the landscaping and eaves in good shape? Will rooms need to be painted or have light fixtures replaced, and does everything in the kitchen and bathrooms function as it should?
Now that we know a little more about what makes a property turnkey let’s talk some about the considerations in buying a turnkey property. One of the first things you’ll need to consider is your budget for this investment. In general, turnkey properties are more expensive, so if you’re working on a tight budget, this may not be your best choice.
If you are working on a tight budget but you don’t want to deal with renovations, you may consider investing in real estate through a group-owned property, such as an REIG. If you have a larger budget, a turnkey property can save you a lot of headaches with remodeling. You may also be able to save some money on future repairs, provided your inspection comes back clean.
If you’re debating the merits of buying a turnkey property, you’ll also want to consider your construction skills. If you’re a handy sort, buying a property that needs some work and fixing it up can give you a much higher return on your investment. You’ll be able to build a lot of sweat equity in the property, especially if you buy in an area with an appreciating market.
However, if you couldn’t tell a Torx bit from a square drive bit, you may be better off going for a turnkey property. Renovations can be very expensive, especially if you have to hire contractors to do all the work. Unless you have some solid experience renovating properties, your money may be better spent on a property that doesn’t need any work.
As you’re considering the state of your potential investment property, you’ll want to think about what repairs are coming down the road. Sure, a property may be considered turnkey today. But if the shingle roof or the HVAC system is eighteen years old, it’s not going to be long before you’re staring down the barrel of a major repair.
When you’re getting the property inspected, determine how old all the major systems are. This should include the water heater, the HVAC (inside and outside), the roof, and any additional plumbing systems. It’s also good practice to find out how old the kitchen appliances are and when the windows were last replaced.
Oftentimes, when a property is marketed as “turnkey,” it’s recently been renovated. But as you’ll know if you watch HGTV, flipping has become more popular in recent years, and not all flippers are as experienced as they need to be. Just because a property has been renovated recently doesn’t mean the work is up to scratch.
During your inspection, look for signs that a property has been flipped quickly and with a focus on cheap, superficial changes. You may notice that outlet covers are white, but outlets themselves are almond; that corners and trim aren’t quite finished; or that light fixtures and paint are new, while showers and sinks seem dated. It’s also smart to ask your inspector to pay special attention to the quality of the workmanship they find if you suspect a property was flipped recently.
Calculating the cap rate for your potential investment property can be a great way to decide whether it’s a good fit for you. Your capitalization rate (or cap rate) measures the earning potential of a property. To calculate this rate, you’ll need to know how much ongoing earning potential a property has and its current market value.
In order to calculate the cap rate for a property, you’re going to divide its net operating income by the property's purchase price. So let’s say you’re looking at spending $250,000 on a property that will generate $27,000 in income after deducting maintenance costs and other expenses. That property would have a cap rate of 10.8 percent.
The cap rate isn’t the only way to measure the profitability of a potential property, however. You also need to look at the cash-on-cash returns a property can offer. Cash-on-cash returns measure how much net income you’re getting from a property compared to how much cash you had to put down to get it.
So let’s say you buy the $250,000 property we mentioned, and you put a 20 percent down payment ($50,000), plus another $8,000 in closing costs. Your total cash investment is $58,000, and you still have a $200,000 mortgage that will cost you around $1,800 a month, depending on your interest rate. Your net income will be $5,400 per year, and your cash-on-cash return rate will be about 9.3 percent.
Now that you know how much money a property can generate for you, you’ll need to look at your financing options. For instance, interest rates will have a massive impact on your cash-on-cash returns.
In the example above, your mortgage would cost you $1,800 a month for a thirty-year note with an interest rate of almost 8 percent. Drop that interest rate to 5 percent, and your monthly expenses go down to $1,400, raising your cash-on-cash return rate to 17.6 percent.
Where you buy your property can also have a big impact on your financing. You may be able to get different loan rates in different states, and property taxes can vary wildly depending on the market you buy in.
Aside from the financials, you’ll need to think about the logistics of managing your investment property. Whether or not you buy in your local market, you may not want to deal with the day-to-day hassle of managing your property. Property managers can cut down on those headaches, but they will also drop your overall profit.
If you buy a turnkey property, it may be easier for you to manage it yourself since it shouldn’t need a lot of repairs. You will need to schedule routine maintenance, but some of this may be able to be automated. If you decide to buy a property that isn’t turnkey, especially in a non-local market, you may need to hire a property manager to keep things in good condition.
If you’re considering buying a turnkey property, you may want to consider whether it already has tenants. Some properties are so turnkey that you don’t even have to worry about finding or screening tenants. You can just take over management and start collecting rent checks.
If a property does have tenants, you may need to renegotiate the terms of their lease, especially if you plan to change them. If you’ll need to find your own tenants, make sure you have a good screening process. One nightmare tenant can turn a property from turnkey to a major project in a year or less.
Market for Personalization
One of the downsides of buying a turnkey property is that you don’t get the opportunity to customize it. Now, oftentimes, this may not be a big deal for an investment property – after all, many investment properties are fairly neutral to appeal to a wider group of renters. But depending on the market, adding a bit of flair to your investment property may be advantageous.
If you’re planning to invest in an artsy area or one with a younger population, you may want a property with a little more personality. Small things like interesting accent walls, smart appliances, or outdoor living spaces can raise the rental value of your property. Turnkey properties aren’t quite as advantageous in these markets since you don’t have any opportunities for personalization.
Current Market Trends
While the location is a critical part of smart real estate investing, you want to make sure to get your timing right, too. The last two years have shown us how wildly a market can fluctuate and how much of an impact that can have on your investment. The summer of 2021 saw low-interest rates, sky-high bidding wars, and record closing times on properties.
In general, you want to aim to buy when interest rates are low, and markets are relatively slow. It’s a good idea to keep an eye on market fluctuations and aim to buy just when the market starts to go back up again. You want to catch the market when interest rates are low but before inventory drops out and buyers start getting into bidding wars.
Overall Regional Market Health
As you’re getting to know the real estate market, it’s also a good idea to pay attention to market health in the area you’re looking to buy in. While some areas are more affordable than others, that isn’t always a good thing. Often, it can mean that these areas are stagnating, and you won’t see much growth in your investment.
As with many things, it’s best to aim for balance in this area – you don’t want to buy in either the cheapest or the most expensive market. Look for markets that have been consistently trending upward for at least the last ten years. And take a look at job markets and crime rates, too – if those are improving, it’s a good sign for the area.
Learn More About Turnkey Property Investing
Investing in real estate can be a great way to set up passive income sources and grow your wealth. The decision to invest in a turnkey property will depend on your skills, your budget, and your priorities. It’s a good idea to make sure the financials make sense and consider the market you’re planning to buy in.
If you are ready to learn more about turnkey property investing, you are ready for our Real Estate Investor Course for Beginners. Click here to register!