An investment property is real estate bought mainly to make money, rather than to live in. The money can come from rent, from the property rising in value and being sold for a profit, or both. A single-family rental, a fourplex, a storefront or a warehouse can all be investment properties.
The label matters because lenders, tax rules and insurers treat investment property differently from a home you live in.
Common types
- Residential rentals: single-family homes, condos, townhouses and small multifamily buildings with two to four units
- Larger multifamily: apartment buildings with five or more units, financed with commercial loans
- Commercial: retail, office, industrial and mixed use buildings
- Short term rentals: homes rented by the night or week, subject to local rules
- Fix and flip: properties bought to renovate and sell, held only briefly
How it differs from a home you live in
| Primary residence | Investment property | |
|---|---|---|
| Typical down payment | Can be low | Usually larger, often 15% to 25% or more |
| Interest rate | Lower | Usually higher |
| Insurance | Homeowners policy | Landlord or commercial policy |
| Tax treatment | Mortgage interest and taxes may be deductible within limits | Income is taxed; expenses and depreciation are deductible |
| Selling | Home sale exclusion may apply | Gains taxed; a 1031 exchange may defer them |
How to judge a deal
Investors usually run a handful of numbers before buying:
- Net operating income: rent minus vacancy and operating expenses.
- Cap rate: NOI divided by price, to compare properties.
- Cash flow: NOI minus loan payments.
- Cash-on-cash return: annual cash flow divided by the cash put in.
Example
A hypothetical duplex costs $400,000, with $100,000 down and $10,000 in closing costs. Each side rents for $1,900, so gross rent is $45,600 a year. After a 5% vacancy allowance and $13,000 in operating expenses, NOI is $30,320. The $300,000 loan at 7% over 30 years costs about $23,950 a year in principal and interest, leaving cash flow of $6,370. The cap rate is about 7.6%, and the cash-on-cash return is $6,370 divided by $110,000, about 5.8%.
Taxes in brief
Rental income is taxable, but owners can usually deduct operating expenses, mortgage interest and depreciation of the building over 27.5 years for residential property or 39 years for commercial. Depreciation can make a property with positive cash flow show a tax loss, though loss limits and recapture on sale can apply. Tax rules are complex, so work with a tax professional.
Why it matters
An investment property is a business, and the owners who do well treat it like one, with separate accounts, clean books and regular reviews of the numbers. TenantLoop gives each property its own ledger, collects rent online and produces a profit and loss and rent roll from real transactions. Try the rental property ROI calculator to test a deal before you buy.
Related terms
Related questions.
Is a rented out room an investment property?
For many purposes, no. If you live in the home, lenders and tax rules usually treat it as your residence, though rent from the room is still taxable income and some expenses may be shared. Ask a tax professional.
Why are mortgage rates higher on investment properties?
Lenders see more risk. If money gets tight, owners tend to keep paying on the home they live in first. That is why investment loans usually carry higher rates and larger down payments.
Can a vacation home be an investment property?
It depends on how much you use it and how much you rent it. Tax rules look at personal use days compared with rental days, so the answer can change year to year.