Investment Expectations for Single Family Homes
Published on: Tuesday, July 12th, 2016
Being in this business as long as we have it is easy to recall some pretty amazing things that happen; anything from watching newlyweds get their first home to finding dead bodies, from funny late excuses to sad and legitimate reasons people can’t pay their bills. We, property managers, see it all.
One of the more common problems we have with a particular subset of investors is that they may not have gotten into the business for the investment, but rather of necessity. For instance maybe a divorce renders a home useless to the family unit and maybe they can’t afford to bring cash to the sale; then renting it may be a “good” alternative. But let’s examine what “good” means exactly.
Usually the formula a potential client has when they are considering whether to rent their home or not looks something like this:
-$100.00 Management Fee
$100.00 CASH FLOW – Yea!!!
Now, as well thought out as that budget was it lacks some detail, believe it or not 😉
In the single family homes investment market there is what is referred to as the 50% Rule. Basically it says that over the course of an investment’s life of all revenue brought in 50% (I personally think it is closer to 45%) can be counted on to pay expenses…and expenses do NOT include the mortgage. It would include all of the following though:
- General maintenance and repairs
- Turnover: Work done to get a property ready for a new tenant
- Management fees
- Property taxes
- Leasing fees
- Capital outlay: HVAC system replacement, Roof replacement (depreciated expenses)
In our industry, Fee-based management (or 3rd party management), it is not rare to come across “investors by default, not by design.” In other words people who may not necessarily hold the asset (home) for investment purposes, but rather because they need to hold onto the home until the value increases, maybe it is tied up in a divorce, the owner is transferred to a job in another state, etc.
And regardless of the investor being in the business by design or by default the property can be expected to perform equally. The opportunity for a property manager is to make sure the potential client is aware of what a “reasonable” expectation might be. In our experience letting a property owner know the truth will break as many deals as are ultimately onboarded. But don’t let that be a deterrent for two main reasons:
- It is the right thing to do, and
- It will help you to avoid a very messy ending to the relationship.
Item 2 might warrant some specifics. In many cases, even if a property is performing very well according to industry norms the property owner will have had much different expectations…and so, failing those lofty expectations will mean you as the manager are unfairly blamed.
As property managers we are the agents of the principal (property owner), which means we act as the property owner, on the property owner’s behalf (read not our own behalf). Property owners defer to the agent’s knowledge, experience, and procedures for a desired outcome that best serves the property owner’s interest (see Agency Theory). Making sure a future client understands what they are getting into in terms of expectations is a very good first step to promoting a healthy relationship.
So for you, as a property manager, or you as an investor, must understand this reality and be prepared to handle the expenses. Best practice is to account for these expenses and be prepared with cash on hand, to be able to manage the property appropriately. Anything less than this will result in the property losing value directly proportionate to how much money is not put back into the property. In other words, if you forgo a repair, like leaving a soffit in a state of disrepair you may not have a cash reduction now, but it should show up on a balance sheet as reduced value. Which necessarily means the rent you can ask will also go down.
The point is this, analyze the property and treat it like the investment it is (or will be) and your money will work in your favor. Anything short of that will mean the property is less likely to be able to remain healthy and will yield you many a headache, lost value…and, in short, a failure.