By: Brain Gordon & Vincent M. Medina Owners of Lotus Property Services
Insider Tricks Exposed!!
Positioning Your Apartment Building For Sale on the Market!!
Within our industry there a quite a few tricks used to position properties before they are listed for sale. These are totally legal management and operational approaches to maximize the income and financials but are not always long-term solutions to owning an investment property. Our industry knows that the buyer seeks a return, but today you will learn some red flags to spot when considering a property to purchase and possible ideas to consider before you put your property on the market.
Let’s say you’ve decided to sell. One of the first things you should do before you list the property is conduct a thorough market survey to determine if you can push the rents higher in your building. After you finish your market survey and feel better about what the maximum rent is for your area, you need to take an honest look at your rent roll. Skipping rental increases to avoid the risk of vacancies will hurt your financials and potential sales price. Once you know the market rents, it’s time to think about raising the rents. This should almost feel given but the next step is to ask yourself the following question: “Will the unit support a $100 increase in rent by investing in some upgrades for my current tenants?” I love this strategy and so will your current residents. It just takes some negotiating skills which you already have if you own an income property. Tenants will undoubtedly want upgrades but can you negotiate a $50 or $100 increase for installing granite countertops or laminate floors? Increasing the amenities in order to achieve higher rent is a great way to upgrade your property and financials. In this scenario, you don’t incur a vacancy to get a resident to pay higher rent. If the tenant is already happily living there, just see what you can offer in exchange for a mutually agreed rental increase. In the past, I’ve been known to provide stainless steel appliances, granite counter tops, Pergo floors and even free washers and dryers away for marginal rental increases. When prepping your property for the market, your mentality should change so you identify all possible sources of generating more income. Approach your current residents and see if there is a value add opportunity already within your building. Remember every $1 more of income has relational added value in the sales price.
The next trick is the one that is most commonly used: it’s pushing the rents above what the market supports. First let’s remember a key financial indicator within our industry, the Gross Rent Multiplier (GRM). The Gross Rent Multiplier is the financial indicator used to assess how many times the gross annual rent is multiplied into the purchase price. The Gross Rent Multiplier is important because every increased dollar in rent will increase the overall value of your property. The formula is fairly simple; let’s say you have a 10 unit building and each unit pays $835 a month in rent, you gross $8,350 per month in rent and that is roughly $100,000 annually. If you are selling the property for $1,000,000, you have a 10 times gross rent multiplier. The most important thing to realize in this scenario is every $1 in monthly rent equals $12 in value or $100 in monthly rent = $12,000 in the property’s value. When you run the numbers backwards, you see why it is so important to maximum the rent within your building prior to putting the building on the market. Let’s consider the same 10 unit property with average rents of $835 per month equaling the $1,000,000 value. If the building can sustain a $80 per unit per month increase, you have increased the annual income by $9,600 and raised the property’s value by almost $100,000. With a 20% increase to $960 a month, the property’s value increases $200,000 and so forth. Factoring the gross rent multiplier is a great way to keep your mind focused on the asset’s current income and fair market value of the rents. If you’re bypassing rental increases or keeping your rents too far below market rents, you’re leaving money on the table when it comes to sales.
Using the same simple and conservative 10X gross rent multiplier, we can estimate $100 a month more in rent is $1,200 a year which equals $12,000 more in the property’s value. Let’s say you have a 2 bedroom vacancy in Old Town Pasadena and the market rent is $1,800 a month. The difference between a unit rented for $1,950 a month versus $1,800 a month equates to $150 more a month or $1,800 a year or just under $20,000 in value. Here’s what you do if your market only supports the $1,800 in rent but you seek the additional income for selling the property. The prospective resident may only be willing to pay the market rent of $1,800 but when explained the rent will be $1,950 and they’ll receive the first month free, that free month of rent amortized over the 1 year lease term is the same net amount of money. The resident may simply agree to pay the $1,950 in rent since it’s the same amount of money to them. In this scenario by giving up 1 month of rent, you actually increased your income by $150 a month. You did lose the first month of rent but gained around $20,000 in value. Spread this formula out over a 20 unit building and you’re looking at an easy $300-$400K in value. Now this isn’t a long term management approach as your resident will likely renegotiate the rent or simply move at the end of their lease but perfectly fine in prepping your property for sale.
Similar to the net rent approach, the next trick is to achieve a higher rent via a lowered deposit. This has a similar twist on numbers as offering the free rent approach and often people combine both. It’s easy; you offer an aggressive move in special to maximize the monthly rent. Think of yourself as the prospective renter that has saved up your first month’s rent and 1 month as a deposit. This is the typical amount needed as move-in money in our industry. So, with the same unit in old town Pasadena renting at $1,800 a month, the prospective renter has $3,600 they’re expecting to pay for the move-in charges (first month’s rent + security deposit equal to one month). With a “move-in special” you may lower the security deposit to only $500, offer 1 month free to entice the applicant to pay a higher monthly rent. To the prospective renter, now paying a monthly rent of $2,050 may be completely acceptable when you show them how they saved $3,100 on the move-in, yet only need to pay $250 more in rent per month. This calculation actually pencils out to their advantage and you just increased your annual income by $3,000 or an easy $30,000 in value. Again, spread this approach over 20 units and you could push the projected annual income up by $60,000 and the building’s value up by $600,0000.
I hope this article gave you a new prospective on how you view your property’s operations and some red flags to think of when assessing the value of properties you may purchase. Our whole industry is simply a numbers game. The more time and energy you invest in mastering the numbers, the better investor you will become. Consult your real estate agent and management professional to explore options how the best way to position your property. You’ll want to ensure the operations, management and financials look great so you maximize the potential sales price.
Brian and Vincent are “The Apartment Specialists”, owners of Lotus Property Services, Inc. and are active leaders and Real Estate Brokers in the apartment industry. Since introducing Lotus Property Services, Inc., the company now oversees a real estate portfolio of over $300+ million dollars in value which in part has been accomplished by Brian & Vincent’s commitment to quality and service. Together Brian & Vincent have sold and managed over one billion dollars in real estate assets. As former Presidents and Board members of apartment associations, frequent writers for numerous industry magazines, key note speakers for seminars and investment groups such as the Value Hound Academy, Brian and Vincent have earned the title as the undisputed “Apartment Specialists”.