SMARTERLANDLORDING

ADVICE FROM EXPERIENCE

Apartments

What Happens Without Positive Cash Flow?

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Positive cash flow is king.  If a property does not produce positive cash flow, then don’t even think about it.  Without positive cash flow, you are doomed to failure.  Eventually, the bills and the expenses will mount up and you will be writing a check every month just to keep the property afloat.  A lot of people cannot do that.  They have or will run out of money.

What happens then?

Repairs stop being made.  At first it is little things.  Apartments are not repainted.  The property begins to look worn out.  Soon it turns in to major problems.  Roof leaks continue to leak, air conditioning fails to cool, the dead refrigerator is not replaced.

Next, good paying tenants start to leave.  How long would you put up with a leaky roof?   No AC in the summer? I am out of here!  Bills continue to mount and now less cash is coming in.

Perhaps then the owner begins to take in a lesser quality tenant.  They may or may not pay.  They definitely will be dirty if not trash the place.  They will drive any remaining good tenants away.  They will likely leave in the middle of the night and stiff you on rent.

At this point it is unlikely that the owner can even get tenants in the property.  It sits vacant or nearly vacant.  It is not long before vandals take notice.  Copper starts to disappear.  First it disappears from the HVAC units then from the plumbing.  Now the property is truly uninhabitable.  The only people living in it are perhaps squatters.

With no money coming in foreclosure is not too far away.  The property has become a distressed property.  Smart investors have been watching this property for a while.  They noticed when the current owner paid too much.  They have watched the property slowly deteriorate.  They know that a potential deal is now available because someone bought without positive cash flow.

Think the above does not happen?  It is how I have bought many of my properties.  Stay tuned in the future as I write about what to watch and look for and how to pick up some of these properties yourself.

100% Occupied May Not Be What It Seems

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100% occupied.  Sounds great right?  That is just what we want to hear when we are looking to purchase a multi-family building to add to our portfolio.  However, not everything is always as it seems.

Trying to sell a building is easier if you can tell perspective buyers that the building is 100% occupied.  The buyer thinks that there will be less work involved in taking over the building when the sale closes.  They will not have to advertise, they will not have to do showings, they will not have to spend money rehabbing the apartment to make it rent ready.  There will be a smooth and easy transition.

But, as I said, not everything is as it seems.  Sure the building may be 100% occupied.  But, what if the current owner rented the last few apartments to anyone who could fog a mirror just so they could say the building was 100% occupied?  What if the people they placed in the building had been evicted from their previous residence just a few months before?

Don’t think the above happens?  It happened to me when I bought a four-plex several years ago.  Yes, I did my due diligence and reviewed all of the leases and the income and expense statements.  Everything looked fine.  But if I had bothered to check a simple and free database I would have noticed that one tenant had just been evicted and had a drug arrest as well.  No one in their right mind would have rented to this guy, unless you were trying to say 100% occupied.

So what happened?  You guessed it.  As soon as we closed, he stopped paying.  Four rent free months later, after going through the expensive and lengthy eviction process I had a dirty and damaged rental unit back in my possession.

On the bright side, I learned a valuable lesson.  Check out the current tenants as best you can before you close.  The court and criminal databases are free here as they are in many jurisdictions.  It is as simple as typing in a name.  If you do find something odd, go back to the seller and discuss and if you need to, renegotiate.  It would not have been so bad kicking the guy out if I had gotten a little bit better price.

Do Not Disturb (The Tenants)

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Many new real estate investors have bought at least one piece of real estate, their own home.  They have been through the real estate purchasing process at least once and this process is their frame of reference for future purchases.  The process for purchasing investment real estate is very similar.  You negotiate with the owner, agree on a price, draw up a contract, fulfill the terms of that contract and close the deal.  One key way that the process is different however revolves around existing tenants.

Investment properties like duplexes, quad-plexes, apartments and even single family homes that are on the market often have tenants in them.  Tenants make showing the property difficult.  The current owner is simply not going to invade his tenant’s privacy every time someone thinks they may want to buy the property.  You as a buyer have to realize that you will often have to make an offer on a property without seeing the entire property beforehand.  This is generally not a problem as we shall see below.

Tenants also require a certain level of discretion on the part of any prospective buyer because many times the owner has not told the tenants the property is for sale.  Often there will not even be a “for sale” sign on the property because the owner does not want the tenants to know that the property is on the market.  Why not?  People hate change.  A sale of the property means change and many tenants will simply move rather than deal with change in ownership (Yes, I know moving involves change as well but that is just the way tenants are.).

So when looking at an investment property with existing tenants, NEVER disturb the tenants in any way shape or form.  Always inform the listing broker or owner before you go on the property.  The agent or owner will most likely want to meet you at the property to show you a vacant unit (or possibly an occupied one) and prevent awkward encounters with the tenants.  You can always do a drive by for a look, but do not do much more.   If you do, you may just anger the owner enough that you will loose the deal.

As you can see, you will almost never see all parts of an investment property before you make your offer.  So how do you protect yourself?  You put a clause in your contract stating that the contract is “contingent upon the inspection and approval of the condition of all dwelling units.”  Once the seller and his agent are confident that you are a qualified buyer who can close and intends to truly buy the property, the owner will arrange for your inspection of all dwelling units and most likely let his tenants know that the property is going to be sold.  If, upon inspection they are in a condition that you anticipated then move forward and close.  If not however, it is time to return to the negotiation table.

 

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The “Getting Your Deposit Back” Form

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Tenant turnover is one of the costliest aspects of this business.  You have to advertise and re-rent the property.  Most likely you will also have to do some clean up and repairs after the tenant moves out.  One of our most important goals in this business is to get our properties back from tenants in a clean and nearly rent ready condition.

Getting your properties back in a clean and rent ready condition is not impossible.  To do it you need to do three things.  First, collect a security deposit for the property.  Then provide your tenants with a “Receive Your Deposit Back” form upon their move in.  Lastly, provide the same form again when the tenant gives notice that they are going to move out.

The “Receive Your Deposit Back” form states very clearly what the tenant must do to get their deposit back upon move out by listing the costs to clean and repair various items that were clean and working upon move in.  For example, if the tenant does not replace a burned out light bulb, it is going to cost him $15.  If they do not clean out the stove, that will cost them $75.  If they did not feel like vacuuming or sweeping up, that will be $50.  If they leave a bunch of junk, it will cost them $75 per hour to clean it up.  These costs are not made up; they are based upon actual labor and materials charges.

The goal here is not to make money with this form.  I can make more money if I can quickly re-rent my property so I want it returned to me pretty much the way it was when it was rented and I want to give the tenant their deposit back.  By using this form you create the incentive for your tenants to give the property back in a clean and working condition.  Tenants now know that it will cost them if they decide not to clean the stove when they leave for example.  We do allow for “normal wear and tear” such as small nail holes from pictures, scuffed up paint and very minor issues that come from someone living in the property.

This strategy has worked pretty well.  Plus, as an added bonus there are less disputes regarding deposits after move out.  The tenant was provided a list.  They signed the list and they made their choice upon move out, clean or not clean.

You should use such a form to help you get your properties back in a nearly rent ready condition.  To help you get started, you can download a copy of the form I use here.

Do Friends & Family Mix With Your Rentals?

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The other day on the radio with Holly Swogger and Jo Garner we were discussing some landlording basics.  One of the topics of discussion touched on renting to friends and family members.  Here is the main point and conclusion of that discussion.  Do not rent to friends or family members!

Renting to friends or family members seems like a good idea at first.  You know them.  You do not have to do a background check on them.  You know where and if the work.  You “know” they will make a good tenant.  And just possibly, they might.

But, what if they loose their job?  What if they just stop paying the rent?  Are you prepared to kick them out?  Are you prepared to take them down to eviction court and then set their stuff on the street?  If so, what do you think will happen to the relationship between you and your friends and family?   Who will end up being the bad guy in this situation?  You will.

The best way to avoid the above situation is to simply not get into it in the first place.  Do not mix your friends and family with your real estate business.  It can lead to some real disasters.  My fellow radio hosts and I have all talked with people who own rental properties they want to sell.  When we ask what they are getting in rent the answer is often $0 because the tenant is their son, daughter, niece, whatever and they can’t bring themselves to kick them out.

Is that a position you ever want to be in?  I don’t think so.  So avoid it on the front end.  Be a smarter landlord and avoid renting to friends or family.

The One Clause Every Lease in Tennessee Should Have

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If you invest in the great State of Tennessee like I do, there is a clause that you should be sure that you have in your lease.  I say “should have” because it is not required.  But if you put this one clause in your lease, you will save yourself some time and hassle down the road.

Tennessee Code Annotated (T.C.A.) 66-28-201(c) states in part that:

Rent shall be payable without demand at the time and place agreed upon by the parties. Notice is specifically waived upon the nonpayment of rent by the tenant only if such a waiver is provided for in a written rental agreement.

What that law says is that you the landlord have to provide your tenant notice that he/she is late on their rental payments before you can take them to court, unless your lease specifically contains a clause stating that the tenant waives the right of notice.

When you go to eviction court here in Tennessee, one of the first things the judge is going to want to see is your lease.  The judge will ask if you have the notice clause in your lease.  If you do not, the judge will then ask if you served notice that rent was due.  If you have not served notice, guess where your case goes.  Yep, right out the door.  Ignorance of the law is no excuse.

I know it sounds silly.  The tenant knows they have not paid the rent, why do I need to notify them of it?  Plus, it takes time, effort and money to serve notice, time you do not have because they are not paying you!  You want them out so you can get it re-rented.  So put a simple clause in your lease like the following:

Rent is due without demand or notice from Manager/Landlord.

And be sure to have your tenant initial beside this clause when you are going over the lease with them.

Remember I’m not a lawyer and can’t provide legal advice.  I am only a landlord with several years experience.  So check with your own legal counsel.

Those of you in other states, I bet there are quirky laws like this for your state, so be sure to know and follow the laws in your state.  One good place to find out about local laws is at your local REIA group.  Find one and join up today.

 

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What Makes a Solid Lease

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A solid lease is one of the keys to being successful as a landlord.  It will clearly define both the tenant’s and the landlord’s roles.  So what makes a solid lease?  Here are my top ten components

  1. Make sure it is written.  Seems simple enough but I have heard more than just a few times of people not having a written lease.  If you do not write it down, how will you prove to a judge what the terms were?  It will come down to he said/she said.  Have a written lease!
  2. State the monthly rental amount and late fees upfront and in bold.  Have the tenant initial next to these amounts.
  3. State clearly when the rent is due.  Put it in bold and have the tenant initial next to it.
  4. State the amount of the security deposit.  You may want to have another form letting the tenant know what they have to do to get it back in full.
  5. Set a term for the lease.  Will the lease be for six months, a year, two?  What ever it is set the term and then make it go month to month at the end of that term.
  6. Outline who is responsible for what utilities.  Clearly spell out the utilities that the tenant and the landlord are responsible for.
  7. Have a set of house rules about noise, trash, cars on the lawn, criminal activity, etc, etc.
  8. List what appliances come with the property.  You may even want to list serial numbers on the lease.
  9. If your property was built before 1978, have a lead based paint disclaimer and be sure to hand out the lead based paint brochure.  It could be a $20,000 fine if you do not!
  10. Include any clauses that may be required by your state or local jurisdiction.  Laws vary from place to place.  In my location the laws are completely different from one county next door.  Be aware of your local laws and seek competent advice on them!

You may want to take the time to have an experienced attorney look over your lease.  I have and it really helps.  Also, ask folks at your local REIA group if they will share copies of their lease with you.  Everyone’s lease is a little bit different and you can tailor one to fit your needs.

Finally, your lease should be a “living” document.  You should change it as you experience new issues or laws change.  Review it every once in a while to be sure it is keeping up with your needs.

Happy investing and work smarter not harder!

Finding and Keeping Good Tenants

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What is a good tenant?  It is someone who will pay their rent on time and take care of your property.

Finding good tenants will depend on your particular market, your marketing strategy and then your screening process.  Keeping them will depend upon how you respond to their needs.

First, you as the landlord need to put on your marketing hat and understand how your potential tenants want to communicate and find you.  Different segments of the market find their homes in different ways.  Some will read print ads, but fewer and fewer do.  Some will heavily utilize the internet.  Others will have limited access to the internet.  Some will drive around looking in particular neighborhoods because of school or family connections so yard signs are a must.

In my market segment, the internet is key.  Thus, a website and ads on Craigslist are a must.  I hardly ever use yard signs anymore as they just do not generate positive leads.  I know others in different markets that have to use yard signs, do not have websites and even hand out fliers at major supermarkets and do very well.  You will most likely need to try several techniques before you find the one that best works for you.

Once potential tenants find you and your property, you need to check them out to find the good ones.  “Trust but verify” are the key words here.  You start this process when they call.  Ask questions like “Can I show you the apartment after you get off work?”  Or. “This apartment rents for $x, is that something you can afford?”  These types of questions are designed to pre-qualify prospective tenants.  With such questions you can find out if they have a job and if they can afford the apartment among other items.

Continue the process by having them fill out an application so you can verify all of their information through a credit, criminal and work history check.  This is a vital step.  Do not take their word. We once had an applicant that looked and dressed professional, had a decent car and said all of the right things.  He filled out his application and paid the application fee in cash.  When we checked him out, he had the lowest credit score we had ever seen and from what we could tell had never paid a bill in his life.  Even the phone company was looking for him.  If we had taken his word and not checked him out and let him move him, he would have lived in our place up to six months rent free before we could have evicted him!  Another gave us his work info but neglected to tell us he had been fired that morning.

As a matter of fact, simply telling prospective applicants that you will conduct these checks will weed many of the bad ones out, but not all of them.  So check them out!

Once your find them and get them in, you want to keep them.  One of a landlord’s biggest expenses is tenant turnover.  When a tenant moves not only are you not collecting rent, there are expenses as well.  Often the apartment will need to be repainted.  Minor repairs may need to be made and carpets will have to be cleaned.  These items can really add up.  So you need to be proactive on the front end and do what you can to keep the good tenants.

How do you keep them?  It is simple.  You respond to their needs and maintain your properties.  You need to spend a little money upfront to avoid spending a lot more on the back end.  If they need something fixed, fix it as quickly as possible.  If they are concerned about crime, maybe you can offer to put in an alarm system for a few dollars more rent per month.  Reward long term tenants with new ceiling fans or other small amenities.

You should also be professional, respectful and fair at all times.  That does not mean you do not read tenants the riot act if you need to, but that you do it in a professional and respectful manner.  Tenants will appreciate this because so many other landlords can be just plain obnoxious.  They have lived under those landlords.  A professional and respectful manner will get you referrals and sometimes my tenants move back after leaving.

So in sum how do you find and keep good tenants?  Figure out your market and how they want to communicate.  Pre-qualify prospective tenants and have them fill out an application.  Verify all of their information.  Be prompt to requests for repairs or other issues from them and always act in a professional, respectful and fair manner.

Till next time, work smarter not harder!

Does It Pay To Place “For Rent” Ads Anymore?

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There was a time not too long ago when it was a must to advertise your vacant properties in the “for rent” portion of the classified ads in the local daily newspaper.  While local daily newspapers are still around, today thanks to the internet there are many more choices out there that are available to us to get the word out about our rental properties.  Even with all of this competition, the local dailies are often the most expensive venue to advertise in.  Does is still pay to advertise “For Rent” in the local daily paper?

The answer to that question depends on one factor.

 

What is the demographic you are trying to reach?  Who is your typical renter?

Here is a list of your typical tenant types and ways to reach them.

The Young Hipster/Professional – These tenants are young, just going to college, in college or just starting out at their first job.  They want cool, safe places to live in the “hip” parts of town.  They are generally technologically savvy and their first source of information is the internet.  They never read the paper (I teach at a local community college and for many years none of my students say they read a daily print newspaper anymore).  To reach this demographic you need to have a web presence.

You may be big enough to have your own website.  If not, you at least need to be on Craigslist.org which is free.  Another good source to reach this demographic is your local alternative newspapers.  These newspapers are generally printed every week and are available throughout the city for free.  They often highlight the entertainment scene around town and have a classified section.  By placing an ad in this type of paper, you will reach your demographic as they look for things to do on the week end.  But the bigger plus is that the print ad will also get you an ad on the newspaper’s website, where most of this demographic goes to search.

This website feature may also be true of the daily newspaper.  A print ad may also get you on their website which may be good for people researching your area from out of town.  But it is going to cost you, and the first three alternatives, a website, Craigslist.org and the alternative newspaper are what I have found to be most effective in my area.

The Working Class Tenant/Family – This demographic is going to be looking for value.  They can’t afford more upscale places in the “hip” parts of town but want a clean safe place as well.  Often they will be looking in a particular part of town because of a school location or because they have family and friends near by.  These tenants are not going to be as savvy with technology or their access to it may be spotty at best.  Further they also will generally not read the local daily paper.  So how do you find these tenants?  Signs.  These tenants will generally drive a particular neighborhood makes calls from the car from the various signs in the yard.  Here are a few tips for this type of tenant:

    • Have professional “For Rent” signs made with the name of your company and phone number on them.  Do not use the red and white “For Rent” signs that you can get at the local hardware store.  Why?  A professional printed sign makes you look more professional and the dead beats will move on down the road because they figure you will actually check their credit, criminal and work history.  Trust me, these types of signs are not very expensive and will save you a lot of unnecessary phone calls.
    • You may even want to place a separate sign in the yard describing the unit and the rent, for example 3 BR / 1 Bath $750/Month.  This sign will also cut down on the number of phone calls asking about the size of and rent for your unit.
    • You need to have a system in place in working class neighborhoods so that if someone calls about your rental, you or someone else is able to go right away to show them.  If you make and appointment for a later time, 8 out of 10 times they will not keep it because they have driven down the road and called another one that was able to show up immediately.  I know it is hard, but that is the nature of the business.

The High End/Professional w/Family Tenant – These are professional high income people who are looking for higher end rentals in the nicer portions of town.  They maybe officers in the military who will only be around for a couple of years.  They maybe a business professional that has just transferred to the area and wants to rent for a year or so to get a feel for the area.  These folks are looking for safe, clean well maintained rental properties located in good school districts.

They are very technologically savvy and are often a little more old school and will read a newspaper.  So it may very well pay to place an ad in the local daily paper if you are trying to reach this type of tenant, especially if you also get an ad on their website as mentioned above.  However, they will also find you if you have the web presence that I described above.  A professional sign is also advantageous as these folks will also “explore” their new community.

So does it pay?  I think the answer is generally no.  Print is dying and there are just too many less expensive and father reaching alternatives out there.

Please let me know your thoughts and if you have any tools that you have used to find tenants by leaving a comment below.  Thanks for reading.

Is That a Good Buy and Hold Deal?

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Buy and hold deals are my favorite kind of real estate deals.  They provide you with monthly income and generate long-term wealth.

 

With buy and hold deals, cash flow is the name of the game.  The deal must generate positive cash flow.  A property is not a deal if it just breaks even.  It is not a deal if you have to write a check to cover expenses every month.  You want to collect checks, not write them!   Do not bet on price appreciation.  Appreciation is a nice benefit to get, but it is almost completely out of your control.

 

So how do you determine if a property will generate positive cash flow?  First, you need to determine how much potential income a property will generate.  Most of the time income equals rent, but there could be other sources of income such as utility and vending income.  For now, let’s keep it simple with rental income.

 

Expenses are more varied.  Let me list those:

 

  • Most of us need to borrow money to acquire the deal (if you do not, good for you!).  So your first expense is your principal and interest payment or the cost to borrow other people’s money.  This is the one major expense that we as investors have control over on the front end.  This control comes in the form of the price we can offer for the property.  Too high a price will skew the principal and interest costs up turning a potential deal into no deal.  Remember you make money in real estate when you buy.  So buy them right on the front end.
  • The second expense is property taxes.  Be sure you include everyone who can add a little piece to your bill.  Where I am today I just pay city and county taxes.  I recall living in Fort Lauderdale, Florida where there were no less than six or seven different taxing authorities.
  • Property insurance is third on the list.  The cost of this expense will vary depending on your location.  These first three make up the major expenses and are sometimes collectively referred to as PITI (Principal, Interest, Taxes and Insurance).
  • Repairs and maintenance are next.  Something always needs to be fixed and there is routine maintenance such as keeping the yard cut, raking leaves, cleaning gutters, painting, etc.  Budget approximately 10% of your gross rents in this category.  In other words, if monthly rental income is $1,000, budget about $100 per month for repairs and maintenance.   It will not always be exactly $100 per month.  Some months will be higher and some will be lower but over the course of time 10% is surprisingly accurate.
  • Vacancy is another expense you will have.  Your rental unit will never be 100% occupied 100% of the time.  If it is not occupied, it is not generating any income and you still have to pay the bills.  So a good rule of thumb is again to budget about 10% of your gross rental income towards a vacancy credit.  Depending on your location and market, this number can be higher or lower.  Use your own experience and expertise and adjust accordingly.
  • Utilities should also be figured into the deal.  There may be house electric meters or it may be common for the landlord to pay for water in your market.  Market conditions will vary, as will rates.  Some properties for example will be charged residential (lower) rates while others will be charged commercial (higher) rates.  Make sure you know your market and your rates.
  • Reserves are an expense that more and more bankers are asking about these days.  Reserves are funds that you set aside for those big future expenses such as roof replacements.  A lot of banks got burned in the real estate bust because landlords did not budget for this (among other things) and left the bank holding a ruined property.  If you are going to borrow bank funds, show them that you are going to set aside 10% of gross rents for future major repairs.  Plus it is nice to have that money there when something major happens (notice I said when not if).
  • Other expenses could include trash removal, homeowner association fees, advertising, professional fees (for lawyers and accountants), license fees and other various taxes.  These types of expenses will all vary depending on your local laws and market conditions.  Sometimes I just throw in a miscellaneous category of about 2.5% gross rents just to be safe.

 

Once you have determined your potential income and expenses for a particular deal, you can then list them to determine the potential cash flow.  Let’s say I am looking at a single family house that will rent for $1,000 per month.  The owner is asking for $50,000.  Is that a deal?

 

I always look for at least $150 per month positive cash flow after all expenses outlined above are paid.  I will also have to pay 7% interest with a 20 year amortization to borrow $50,000.  Those terms make my principal and interest payment $387.65 per month.

 

Let’s outline it.

 

Income (monthly)                                                $1,000

 

Expenses (monthly)

Principal and Interest                                        $387.65

Taxes                                                                    $50

Insurance                                                            $30

Repairs/Maintenance                                        $100

Vacancy Credit                                                    $100

Utilities                                                                 $0

Reserves                                                             $100

Misc.                                                                     $25

 

Total Expenses (monthly)                                 $792.65

So is this property a deal?  You bet it is.  Using the numbers above this property should generate a positive cash flow of just over $200 per month.  Not to bad.  If you buy 10 of these type properties they would generate $24,000 per year in positive cash flow.  What could you do with that extra money?  This positive cash flow is why buy and hold deals are my favorite deals.