My wife and I purchased our first home to be used as a rental property seven years ago. That move was the culmination of several years’ worth of reading about and planning to own rental real estate. It took us that long to feel knowledgeable and confident enough to put a plan into action that would earn us a steady income stream aside from our normal careers.
For the most part, our experience has been a positive one. In fact, I’d say overall it has been great. However, we have had our share of challenges along the way, like:
…leaky copper pipes that had to be replaced in an entire house
…a dual tenant situation where one roommate left, leaving us with half the monthly revenue stream on that property until another roommate could be found
…tenants who don’t inform you of repair issues in a timely manner (“Really? It’s been leaking how long?”)
…tenants who won’t pay on time, or ever
…tenants, who by their actions force you into court (that’s a post in itself!)
…managing the finances to account for repairs, taxes and the house that sits vacant for months while you do said repairs or find a new tenant
…dealing with the emotions that come when facing these tough circumstances
…the time it took away from our already busy schedule to take care of all this
Are you prepared for all that and more? If you are game, then I have five suggestions that will help you manage through some of the dark times that will inevitably come. And I’ll tell you the sixth thing we’ve done recently that has taken our rental real estate business to the next level.
Approach Rental Real Estate With a Business Mindset
This one comes first because I can’t stress it enough. Don’t enter this endeavor with a whimsical, ho-hum attitude. It requires more than half-hearted effort. As I mentioned, we spent two years doing research. It may not take that long for you but it’s absolutely necessary to think this venture through and evaluate the pros and cons.
Too often homeowners who are struggling to sell their home decide to rent it without understanding the implications of that decision. They throw their hands up in desperation and say “I guess we’ll rent it,” fully assuming it will be easy and require little time. They rent to whomever, without doing background or credit checks just to get someone in their property.
You need to run rentals as a business with a full understanding of funding, return on investment, depreciation, property taxes, building codes and legal responsibilities. Do this even if you decide to rent to a family member or friend (which is very risky and filled with potentially damaging relationship issues).
Have Sufficient Capital to Back Up Your Business
This is my #2 suggestion because rental real estate can be a money-eating machine. From the purchase price to the pre-move in repairs to the continual maintenance, it seems like money is always flowing into the property. That’s why a landlord should have the necessary cash reserves already secured to maintain their investment.
I would not run a rental real estate business unless my financial life met the following criteria:
- No debt (other than the mortgage on my personal residence)
- A 3-6 month personal emergency fund
- Could put at least 50% down on the property – preferable paying in full with cash
- A minimum of $10,000 saved in the business account for continuing repairs after the purchase
That may seem like overkill, especially the paying in full with cash part. But, it’s imperative to get your personal financial house in order first. And the best part is all those suggestions are doable, given time to let them happen. There is no rush to buy your first rental house – properties will always be available. You will enhance your chances for success and greatly reduce your stress levels by building a strong personal financial foundation first.
Conduct a Home Inspection Before the Purchase
This seems obvious but many people in rental real estate miss this critical step because they get caught up in house buying fever. A home inspection is not the buyer going around looking at the attic and the crawlspace. That’s akin to just kicking the tires on a used car.
Spend money on a certified home inspector who is trained to see things you’ll never think of. The expenditure is well worth it as they can keep you from making a 6-figure mistake on the purchase of a house.
Use a Clear Contract For the Rental and Never Violate It
We are not just shaking hands with the tenant on this deal. Hire a lawyer to draw up a legal contract that outlines the expectations of the tenant and the landlord. You can also find quality contracts online. Whichever route you take, make the contracts as detailed as possible.
Some obvious questions to ask and outline include:
When’s the rent due?
What happens if it’s late?
When does the landlord make repairs?
Can the tenant have a roommate?
Do they have to tell you they have a roommate?
When does the eviction process start?
Can they have a pet? A pool? Can they smoke? Hang pictures?
View your contract as a positive for tenant and landlord. We have been saved on more than one occasion by the language used in ours. The main reason is that I, as a landlord, have never violated it. The contract is a legal document and I am bound to it. I had better follow through on all my responsibilities or the tenant may have legal recourse against me.
Make Timely Repairs at the Property
Respond to major repair issues immediately. It’s the landlord’s responsibility to work in good faith with the tenant to insure the dwelling is habitable. If you drag your feet and neglect repair requests the tenant could again have recourse against you in court.
In some places of the country, you will have to fix your air conditioning or heating immediately. Water always has to be present and flowing in the house. That leaky roof cannot wait until you return from vacation. You might have to make a phone call from the beach to contractors back home to get over to the property and inspect the situation. Are you prepared for that kind of pressure?
Quit Managing the Property Yourself
I said we have done something recently that has taken our rental real estate business to the next level. In short, we have quit managing our properties. We have hired a professional management company.
There are some drawbacks to management companies. For starters, there are fees for their services. There are upfront fees they assess for finding new tenants and fees they assess on a monthly basis. Of course, this eats into your monthly profit.
Additionally, you don’t always know who is living in the property. The tenant never meets us as we are removed from the screening process. That might be a little unsettling for some.
But for us the pros clearly outweigh the cons. We wanted some separation from the tenants. Before we were property owners and property managers, making all decisions up close and personal with the tenants. That took time. Sometimes, those face to face meetings also became emotional.
Now we are simply property owners. The tenants have no idea who owns the property. They can’t reach us. If something needs done at the property, they contact the management company who gets in touch with us.
They also do a quality job of screening for new tenants. They have specific criteria for who can and can’t rent the property. For us, this really helped take the emotion out of our decision making. No more feeling sorry for or wanting to help people who are down on their luck.
Furthermore, because this is a professional management company, they have a better idea of proper pricing in the area. After talking with them, we realized we had been renting our properties below market value. So now we are actually bringing in more money than before even with the monthly management fees taken out.
Hiring a professional management company may not be for everyone, though I’d highly recommend it for people with multiple properties. You will be more relaxed and can devote time to more important things like work and family.
We’ve had great success with our rental real estate business. It’s provided a great source of income mostly because we’ve managed and run it properly. There are risks and considerations, however, that must be taken seriously before you commit your hard earned money and your time to this endeavor. Take your time learning about it so you can avoid some of the pitfalls that trip up so many landlords.
Questions: Does rental real estate interest you as an income stream? What other considerations should a potential landlord consider? Do you have a management company overseeing your properties? If so, how has it been a good experience? What landlord/tenant horror stories do you have?