Rental illness: how investment property can drive you nuts
You can’t escape the overnight success stories of those who have built lovely rental real estate empires by buying and managing property intelligently. But that doesn’t make it a get rich quick scheme. If you’re a first-time landlord, consider these items before jumping into rental real estate.
In this article:
- Vacancies happen — mortgage lenders assume a 25 percent vacancy factor for a good reason
- Repairs — who will complete them, and who will tenants call (you or a manager?)
- Renters — they must be screened, managed, and occasionally evicted (have fun!)
A lot of this boils down to whether you wish to be a hands-on owner or have a manager. And the value you put on your sanity.Verify your new rate (Sep 19th, 2018)
Every first-time landlord’s nightmare
Bill Clinton famously had a sign in his presidential campaign headquarters that read, “It’s the economy, stupid.” If in 1992, he’d wanted to be a first-time landlord rather than a first-time president, that sign would have said, “It’s the vacancy rate, stupid.”
What’s a vacancy rate?
Your vacancy rate is simply the percentage of each year that you expect a rental unit to be unoccupied. And that’s critical because an empty unit is one that’s earning you no revenue.
All landlords have some vacancies, and it’s unrealistic to think you won’t. So you need to make a sensible forecast of what your vacancy rate is likely to be. Otherwise, your business plan’s projections and cash forecasts will be worthless.
How to guesstimate your vacancy rate
The U.S. Census Bureau publishes quarterly data on rental vacancies for each state and the 75 largest metropolitan statistical areas. See if those are helpful to you.
Mortgage lenders almost always use a 25 percent vacancy factor when estimating income potential for rental properties. That’s pretty conservative, but it’s better to err on the conservative side than find yourself counting on money that you don’t receive.
If real estate agents play an active role in your local rental market, call in a favor from one. Ask for multiple listing service (MLS) data for the average age of listings for comparable rental units.
Finally, shamelessly pick the brains of others more established in the market. Talk to local landlords and property managers. Chances are, some will be happy to chat.
How to drive down your vacancy rate
How big an issue your vacancy rate will be will mostly depend on local market conditions. But there are things you may be able to do to drive yours down:
- Invest more in your unit(s) — You’re operating in a competitive market. If renters prefer other landlords’ units to yours, you may need to up your game by making yours more attractive
- Be better at marketing — Improve your reach to your market by better targeting your online and traditional advertising (including apartment finder websites, if appropriate), expanding your social media presence and maintaining a database of past enquirers and applicants. You might even try leaving flyers in places (stores, bars, coffee shops …) your sorts of renters frequent. And don’t forget word-of-mouth
- Minimize turnover — If you already have a great tenant, do your best to keep her. Make rent rises gentle, do small improvements to her unit and building, and maybe offer incentives to retain her
- Lower your tenancy screening standards — Let in tenants whom you’d previously have rejected. But make sure you’re not storing up trouble for the future. More on this below
- Lower your rent — Clearly a last resort. But some money coming in is better than none. Just be sure you can still cover all your costs. Oh, and a bit on top so you can eat would be nice
There’s no point in being in business if you can’t make a good profit. But making a loss is even worse.
One of the joys of being a tenant is not being responsible for small and large repairs. Conversely, those repairs are far from a joy for any landlord.
Some repairs you can choose to put off or do quickly. You may wish to keep a particularly good tenant happy by fixing her leaking faucet right away. If another tenant is a constant thorn in your side, you can decide to take your sweet time.
However, you’re legally obliged to deal with some repairs urgently. If they involve safety or impact on the tenant’s basic quality of life, you’ve no choice but to act quickly. In many states, this duty arises from a legal principle called the “implied warranty of habitability.”
When repairs are the tenant’s responsibility
As a landlord, you’re not responsible for repairing the damage done by a tenant — unless it’s a result of normal wear and tear. So, for example, if one of your renters (or his guest or pet) damages a door, punches a hole in a wall or causes a flood as a result of some do-it-yourself plumbing, he must make good all damage.
Alternatively, you may make the necessary repairs and bill him for them. Ultimately, you may be able to retain his security deposit to cover your costs.
There may be exceptions to this general rule. For example, if you instructed him to make the plumbing repairs, things could get complicated.
Who you gonna call …?
Or, more accurately, who’s your tenant gonna call? Is it going to be you? Or is it going to be your building super, or an emergency plumbing/electrical service, or a property manager?
When the call wakes you up at 2:00 a.m., telling you about a flood or gas leak, you’re going to wish you had a property manager. And when your property manager’s bill arrives each month (or your super need you to pay the plumber’s invoice), you’re going to wish you were doing it yourself.
As a first-time landlord, you may be tempted to undertake every aspect of managing your business yourself: from cleaning common areas and replacing light bulbs to collecting rent, screening tenants —and turning out in the small hours to deal with emergencies. Some underestimate the sheer scale of the workload and burn out.
There are alternatives. You can do yourself the tasks you’re good at and outsource others. Or you can hand over all your landlord functions to a property manager. Obviously, that will give you a much easier life. But every task you pass to someone else will cost you — a lot.
Managing your tenants
This is often the toughest part of being a landlord. No matter how much you know you must be a hard-nosed businessperson, you’re dealing with real people with real problems. Some may be elderly or vulnerable. Some may have kids. And, as a real person yourself, you’ll want to be empathetic.
Every first-time landlord soon gets used to hard-luck stories. Some are true and some aren’t. Some of those who tell those stories will be good people who deserve your help. And some won’t be.
Again, you can choose to undertake the following yourself or to outsource the tasks to a property manager.
The best way to avoid troublesome tenants is to screen applicants well. Some landlords prefer to trust their guts over a prospective tenant’s actual history. But most smart ones will want to know about each applicant:
- Credit history
- Past evictions, if any
- Criminal record, if any
- Employment and income history
- Previous addresses
There are online tenant screening services that can help you with those checks for a relatively modest fee. However, be aware that some criminals use stolen identities to pass such tests. So do your best to watch out for them.
You’re going to have to manage your relationship with your tenants in a number of ways, including:
- Sign lease/rental agreements and receive deposits
- Handle their arrival at the unit, including an inventory check and walk through
- Collect rent and manage any arrears
- Ensure their continuing compliance with the terms of the lease/rental agreement, especially those relating to nuisances and illegal activities
- Deal with any complaints the tenants make — and any complaints other tenants make about them
- Carry out necessary repairs to the units (as above)
- Monitor the condition of the units
- Give or receive notice of termination of leases/agreements
- Handle terminations, including an inventory check and walk through
- Refund deposits when appropriate
How often you have face-to-face meetings with your tenants is likely to depend on your and their personalities.
Most landlords eventually have to evict a tenant. If your renters tend to be poorer, or your screening process isn’t up to scratch, or you’re plain unlucky, evictions could take up a lot of your time.
If you’re a first-time landlord, it might be better to let a specialist lawyer handle your first few cases. However, as time goes by, you may find you acquire an intimate knowledge of the relevant state and federal laws. Then you’ll be able to save money by running your evictions yourself.
Don’t be put off becoming a first-time landlord
After reading all the above, you may be thinking that you don’t want to become a landlord after all. Don’t be put off.
Many people make a good living in the residential rental sector and enjoy their work very much. And it can be a great way to build up your net worth so you have a comfortable retirement.
But too many view land-lordship through rose-tinted lenses. It’s not easy, and it involves a lot of work — or expense, if you outsource most or all the tasks. If you’re going to take the plunge, you need to do so with your eyes wide open.Verify your new rate (Sep 19th, 2018)