Do Condos Make Good Rental Property Investments?

By: , Contributor

Published on: Aug 31, 2019 | Updated on: Dec 31, 2019

There are some potential drawbacks to know before you invest in a condo.

Condos can be attractive investment opportunities. They often have lower prices than comparable single-family or multifamily homes in a given market and they have fewer maintenance issues for owners to worry about.

On the other hand, there are some drawbacks that you need to consider. For one thing, condos often have monthly fees that can increase significantly and unpredictably. And condos can be more difficult to get financing for.

Condos make good investments in the right situation, but it’s important to know what you’re getting into before you sign a purchase contract.

Here’s a quick guide to help you determine if investing in a condo is right for you.

Why condos make good investment properties

Choosing a condo as an investment property has both positives and negatives. Here are some of the reasons you might want to consider a condo as your next investment property.

Low cost: In many real estate markets, condos are significantly cheaper on average than single-family homes. In my own market, a rentable condo can be found for $60,000 or so, while you’d need a minimum of $120,000 to get a rentable single-family home.

Cost is the biggest barrier to entry in real estate investing, and a condo can be the most affordable way to get started.

Desirable locations: Condos are often located in areas where single-family and multi family rentals are in short supply. For example, many downtown areas and vacation destinations are packed with condos and have few freestanding residential properties.

Lower maintenance: Condos come with additional fees (more on that in a bit), but they tend to have significantly fewer maintenance expenses than single-family or multifamily investment properties. It's best to find a balance.

Fewer individual expenses: Condo fees generally cover some of the expenses you'd ordinarily have to pay for. Depending on the condo building, the included fees and services could include building insurance, cable, garbage collection, water, pest control, and more.

Potential drawbacks of investing in a condo

There are negatives to any type of investment, and condos are certainly no exception. For many investors, these potential drawbacks can outweigh the advantages of investing in a condo, so it’s important to be aware of them.

Condo association fees: Condos generally have a homeowners association that assesses a monthly fee, and in some cases these can be rather high. When I was looking for a condo in a beach town a few years ago, the first unit I looked at had a monthly $825 association fee.

These fees can be worthwhile, depending on what they cover. But they can give unsuspecting buyers sticker shock and add to the expenses your rental income has to cover. In addition, if a major repair or improvement is planned (say, a new roof), a condo association can impose a special assessment to cover it. That's on top of the standard fees.

Financing difficulties: You can get a mortgage for a condo, but it can be significantly more difficult than financing a single-family or multifamily property. For example, a conventional lender will generally lend only if the building is at least 50% owner-occupied and has a homeowners association with a low delinquency rate and no ongoing litigation.

It’s not uncommon to see condos for sale at prices that appear to be too good to be true -- one common reason is that financing is difficult or impossible to get.

Rental restrictions: If you’re planning on investing in a condo, make sure that you can rent it out as you like. Some condos prohibit rentals altogether, while others have specific rental restrictions. As an example, one building I know of allows owners to rent their condos only after they’ve owned them for a full year.

Slower appreciation: Condos tend to be better suited for income-seeking investors. They typically appreciate in value slower than comparable single-family and multifamily properties.

Making sure the numbers work

Before you invest in a condo, it’s important to make sure that the numbers make sense. This is important for any investment property, but condos can be tricky as they have additional fees to account for.

In a nutshell, you want to make sure that your condo will generate acceptable cash flow over time, even accounting for things like vacancy, maintenance costs, and special assessments. There’s no set-in-stone guideline, but I find that setting aside 10% of the rent to cover vacant times and another 10% to cover any maintenance costs or special assessments you need to pay is a sufficiently conservative approach.

Here’s an example of how to analyze an investment condo's cash flow potential.

Let’s say you buy a condo for $100,000 with a 20% down payment on a 30-year fixed-rate mortgage at 4.5% interest and that it has a $250 monthly association fee. We’ll also say that the unit can be reasonably expected to rent for $1,100 per month and that your property taxes and insurance expenses are $1,200 and $600 per year, respectively.

Item Monthly Expense
Rental income $1,100
Mortgage (principal and interest) $405
Association fees $250
Property taxes $100
Insurance $50
Vacancy reserve $110
Maintenance/special assessments $110
Monthly cash flow $75

If the unit ends up being occupied 100% of the time and/or you don’t end up having to pay any out-of-pocket maintenance expenses or special assessments, that’s great. Your cash flow will be significantly better.

The point is that when you’re assessing any potential investment property, you need to make sure that it will produce acceptable cash flow in a realistic situation, not just when things work out perfectly.

One important step if you decide to invest in a condo

If you decide to move forward with a condo investment, one thing you absolutely must do that rookie condo investors often overlook is to read the condo’s association documents. Include this request with any offer and complete your review of the documents before the contract’s due diligence period expires.

Here’s what you’re looking for. Before you agree to buy a condo, you want to see that the association is in good financial condition. If the association has little money in reserve, for example, an increase in monthly dues could be in store. Delinquencies are another major potential red flag. If a significant percentage of units are delinquent on their association dues, it could mean those owners who are paying as agreed will end up paying significantly more.

I strongly advise against buying a condo in an association that's having financial difficulties (or at least incorporating this fact into your offer price), as any of these issues can make financing next to impossible.

So, is a condo a good investment property?

There’s no one-size-fits-all answer to this question. A condo in a building with a stable association that produces a reasonable amount of cash flow can certainly be a good investment in the right circumstances, but it’s important to evaluate all of the potential positives and negatives before you decide.

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