The Creative Way to Gauge Whether You Can Afford Your Rental’s Worst Case Scenario

The Creative Way to Gauge Whether You Can Afford Your Rental’s Worst Case Scenario

2 min read
Trevor Ewen Read More

You want that first property, but you can’t pull the trigger. Uncertain about your market, uncertain about your credit, uncertain about tenants. It feels like risk overload.

Today I want to re-frame your internal debate. Let’s talk about the worst-case scenario. Let’s leave out truly catastrophic investor stories and capital expenditures. This is the simple single family property worst case:

Completely vacant unit, and you’re on the hook to cover mortgage, taxes, and insurance.

Let’s say this amount for your market is $800/month. If you had to pay up every month, could you do it? How would you feel about it?

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Proof Through Generosity

I know a great way to simulate this exact scenario. Make a tax-deductible donation to your favorite charity. Don’t have one? Consider giving locally in the community where you plan to invest.

OK, you sent your first donation. Can you do it again next month? How about for the next six months? If you can’t or won’t keep it up for six months, then you may lack the necessary tolerance for risk. Chances are, you fit into one of the three following categories.

“I can’t do it — there’s no margin in my cost of living.”

For many people, this is a reality. It’s not wise to put your family in financial jeopardy for the dream of landlording. In good times, the rental income may help you. In bad times, the cost of ownership will be the straw that breaks your financial back. Experienced landlords rely on cash reserves. There’s no way around patching a leaky roof.

Related: An FHA-Financed Duplex is an Ideal First Investment Property: Here’s Why

It’s possible you need to make some adjustments to your cost of living. Maybe you’re closer to the next category.

“I can do it, but it will take some adjustments to my budget.”

You have to take the reins in your financial life before you can commit to great risk and reward inherent in real estate.

Do you realize that saving $100/month for your family provides the same value as the standard net operating income (NOI) of your first investment property? For some savers, $100 is a small goal. It’s true that you’re not building equity, but character and financial resilience are equally or more valuable.

Financial responsibility is like any investment — it pays more with experience. Pretty soon, you’ll have no problems giving or investing.

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“I can do it, no problem.”

The most enviable position. It’s likely you have the risk tolerance and financial ability to invest long-term. It’s also possible you can push yourself to improve your budget and free up more money for investment.

Related: An Easy, Slow, Low-Risk, & High-Reward Way to Buy Your First Investment Property

Because I believe charitable giving is an important part of financial responsibility, you may just want to keep up your monthly gift. At the very least, consider keeping part of it.

This exercise is a risk-free way to check your tolerance to financial loss. Giving money will build discipline and character. If you take it seriously, it will answer tough questions. Worst case: You do something beneficial for your community, tax deductible.

Investors: Is this a strategy you’d try? How did you figure out how much risk you could take on when starting out?

Let me know with a comment!

How can new investors train themselves to appreciate the risk in real estate? This exercise provides a helpful way to practice for the possible downside.