Rent Sense: Entering the Rental Property Business
By: Neil Fjellestad and Chris De Marco FBS Property Management RENT
We have taken up in previous articles some of the regional economic data that spells a renaissance of real estate investment throughout the golden state for the foreseeable future. Consider the projected flood of potential renters based upon demographic trends. More specifically, employment is dramatically improved among millennials which does several things immediately: a) employment means life-style upgrades which means they are able to rent (on their own and with roommates) b) millennials that are happy attract others of their generation from around the world to join them. Looking at the other end of the spectrum; retirement planning priorities over home ownership among boomers help explain the renter growth within the older generation as well. Then there are emerging federal immigration and military decisions that will attract people to California regions; at least for the first generation as renters.
Though we are all aware that the housing supply has been distressed for nearly ten years the real news here is that housing planners, developers and builders will continue to miss the mark on any timely basis due to at least three problems: a) environmental impact of housing is highest where most people want to live, work and play b) neighborhood input/control of developmental process can bring housing to a standstill c) everyone wants to believe that for sale housing is the rule with rental housing being the exception.
So, if you are currently in or seriously considering the rental property business the external forces are going the right direction. Now let’s concentrate on your strategic business plan.
Plan to Retire on Rent
Rental property ownerships should be part of a long-term business plan though many begin due to a situation rather than a strategy. Examples include: property ownership comes suddenly as the result of death or divorce, not sure whether to sell so you rent it out to pay the mortgage; employment and/or other changes render you unable to sell at the right price or within the necessary time frame so rent solves the immediate problem until a sale can happen. Regardless of the particular details becoming a rental owner was unexpected. You dislike every month you are an “accidental landlord” and over time you hate it, everyone and everything connected to the accident. With this attitude the only plan such individuals can entertain is to sell and “get control of their life back”.
Actually, those that see their ownership as negative help keep a lid on the otherwise overwhelming satisfaction of independent rental ownership. It remains, along with other businesses that are well located, properly capitalized, and professionally managed the leading source of wealth and retirement income among this country’s financially secure.
So seeing your ownership as the solution instead of the problem is where your plan must start: you need your head straight, willing to believe that you can retire on rent. Your rental property does not need to be perfectly located as long as it shares in the external economic forces we mention above. The ownership capitalization method and terms do matter. At the onset it is important to be the decision-maker and that means independent ownership instead of some securitized ownership subject to the control and dictates of partners, a REIT, or other terms of equity or borrowed funds.
Though rental property can and should be purchased with leveraged equity there must be an ongoing plan to reduce debt and/or the equity of others until by retirement your rental property ownership is debt and partner free. This does not mean that because you are the final decision-maker you need to operate the rental property. You need to surround yourself with professional advisors and managers. This is a long-term business. To this end, shield yourself from the drama and vicissitudes of the rental operations. Advisors supply timely alternatives to decisions that could interrupt or extend your success.
Improve Renter Profile
We have previously (July 2015) detailed the importance of constantly re-pricing rents to keep pace with the sub-market of each rental in your portfolio as well as defining each living space with individualized pricing. There are important reasons why this approach must be followed over time: first, the adjustment of renter profile to market conditions. We all know that the ability of rental customers to meet their financial obligations will adjust over time due in part on external conditions, household circumstances and personal life-style decisions made along the way. While our renters always have the option to legally change their residence to conform to their household preferences and limitations we as operators must professionally manage the rental business by looking for opportunity to improve the customer profile in order to optimize net operating income, customer satisfaction and operational effectiveness compared to similar rental operations in the sub-market.
We are not only attempting to raise rents but rather to manage our customer relationships by keeping our renters keenly aware of these competitive similarities and differences in the sub-market. We might think that we can successfully keep our renters isolated from the market and this is advantageous to us. First, in today’s consumer environment it is more likely that the independent rental owner is isolated. The renters are usually aware of the market and for whatever reason choose not to rock the boat. This absence of transparency in such an important market relationship will present itself in surprising ways as inconvenient episodes of hostile activity which is expensive, negative and usually avoidable. Like any business we depend upon our existing and potential customers to keep us aligned with their preferences, perceptions and expectations. Improving the renter profile is one key method by which professional managers consistently control operational outcomes over time.
Improve Property Physical Profile
Besides 24/7 rental business management every property also needs a physical improvement plan to preserve income, control expense, increase real estate value and optimize ownership return on investment. Such a plan will a) preserve income by increasing rental rates and provide better selection of qualified potential residents b) control expense by reducing recurring expenses and/or allowing operating team to attend to other resident requests c) increase real estate value by increasing the Net Operating Income which translates to favorable comparison with similar available rental property and d) optimize investment return due to perceived lower risk caused by internal and/or external forces.
Let’s look at an example. There is often an opportunity to replace appliances inside our rentals. A replacement program that is logically implemented and readily communicated is well received by residents that are inconvenienced by recurring appliance repairs. Modernizing appliances should reduce energy expense which is a shared benefit while a “replacement versus repair” policy appeals to an improved renter profile. In turn, respected/appreciated renters that can trust an action plan is underway stay longer contain costs within their control and more readily understand and keep up with market rental re-pricing.
Though we might make physical improvements to our personal residence for a variety of reasons we should be improving our rental property for business reasons. These might include: floor plan changes that re-configure for more or better usable living space; kitchen and/or bathroom upgrades; smart and/or green customization to a property’s interiors and exterior.
Long-Term Ownership plus “Best Practices” are Rewarded
In most regions, between 45-50% of California households will be making decisions to rent for the foreseeable future. These decisions are already set due to external forces. This new set of housing circumstances will be creating new business opportunity for rental owners that recognize and capture the full potential of their business.
“Rent Sense” is an informative series for Rental Owners or those looking to become R.E. Investors. This monthly insight is brought to you courtesy of Neil Fjellestad and Chris De Marco, Principals of FBS Property Management in San Diego, CA. The goal of “Rent Sense” is to educate individuals with correct expectations for investment performance; inform about trends and concerns for Rental Owners; give thoughtful consideration of “best practices” now possible due to technology advances being made by our company and other industry leaders. We are investors, responsible Rental Owners and entrepreneurs that have started, grown and sold a dozen real estate-related businesses. Currently FBS operates rental properties in 69 zip codes within southern California. Now in our 5th decade we report to 800 clients. All of this daily exposure provides us with a variety of topics to discuss. Neil, Chris and the rest of the FBS team is available at 619-286-7600 or www.fbs-pm.com.
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