RED FLAGS! Risk Factors of Rental Properties

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Recently an investor passed me some information he was given on a potential first investment property and asked for my opinion on the deal. I first asked him what his goals for buying a property were because I don’t always want to judge a property on whether or not I would buy it, because another investor may have different desires than I do and/or different goals. I want to be sure I look at a property relative to what might work for that investor. When I asked him what his goals for a first property were, he said he was “scared s***less” and just wanted a property that didn’t turn out to be a “loss and disappointment.” Also worth noting is this investor would be a long-distance owner. He is in the typical California boat, as are so many of the rest of us, not able to buy cash-flow positive properties locally. Knowing his fear going in, my immediate thought in looking at this property was that I wanted to focus on risk factors. For someone who is new and scared, the more risk factors there are, the more shaky the investment. Higher-risk properties are fine for those who know how to handle them, but I prefer to leave those to the more experienced guys. So with risk being the major concern, I dove into the property to see what was being offered.

I want to be clear that my intention in showing you what I consider to be red flags about this investment opportunity is not to tell you whether or not this is a good investment. I can’t say that for sure because maybe someone buys it and makes a fortune off of it, who knows. My intention is rather to show you what caught my eye as being a risk factor. It’s no secret that I prefer higher-quality hands-off properties for my personal portfolio, but in no way does that mean I don’t support cheaper properties or fixer-uppers if those are something you are interested in.

Evaluating the Risk Factors

The ad (verbatim, I make no claims to the math or any other declaration):

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I assume as you read through the ad you were already starting to form an opinion about this investment opportunity. What are your thoughts? Here are mine, and remember that I don’t point any of these out as judgments, I merely highlight the things I consider to be red flags in terms of risk. I will show you the ad again, this time with the “red flags” marked.

ad marked

Related: The Risks and Rewards of Real Estate Investing

Don’t worry, I’m going to elaborate.

  • Cleveland. No personal judgment here, but Cleveland doesn’t actually have a lot going for it. Well, I take that back. It is ranking up there in statistics. While it does rank as a good place to invest in real estate by some, I’ve also seen it listed under, “10 Worst Places to Live”, “America’s Top 10 Miserable Cities”, “America’s Top 5 Worst Housing Markets”, and others.  Did you know that only two cities (Detroit and Flint, MI) have had a faster rate of residents leaving the city over the past 3 years? Again, not saying investing in Cleveland is good or bad, but you definitely want to understand the market you are buying in. I’d say there are quite a few risk factors with Cleveland as a market.
  • Built in 1927. That is really old. Plan on a lot of maintenance, regardless of what condition it is in when you buy it (unless it’s been fully gutted and rebuilt inside, which I doubt).
  • Newer for that area? That means most of the houses around it are older than 1927. In that price range, we are officially talking a low-quality area then. I’m picturing shacks.
  • Local managers. Who exactly are these “local managers” and what are their backgrounds? Why do I have a hunch they have no idea what they are talking about?
  • $5k of rehab. Since when are local managers contractors? I would put money on that if I were to hire an independent inspector that they are going to find way more than $5k worth of work that needs to be done to this place. “A little TLC” has been a very popular euphemism in real estate ads throughout history.
  • Can be rented for. So the units aren’t rented now? Why not? And has it been so long since they were that you don’t know an actual rent amount?
  • $650/month tenants. I’ve known multiple investors who owned properties that had tenants paying sub-$750/month in rent ($750 and $1000/month are standard thresholds) and not one of those tenants ever lasted more than a year, most not even making it 6 months. And almost every time one of those tenants left, major repairs had to be done to the property. So between vacancy times and repairs, those tenants became quite costly. I’m sure not all $650/month tenants are bad, but I’d definitely count on upping my expense allocations for them.
  • Close to everything. That’s a broad term. What is “everything”, exactly? It kind of matters.
  • Big health care industry. Such as?
  • In the middle of a turnaround. Hasn’t Cleveland been “in the middle of a turnaround” since at least the mid-90s, if not before? That’s a really long turnaround. What is the evidence that supports the supposed upswing?
  • Medical mart. There is documented controversy over the feasibility of medical marts. How is this one doing?
  • Casinos. Known for transient employees, which make for transient tenants, which make for high vacancy costs.
  • 20 calls a day? Some of the best properties I know of don’t get 20 calls a day. The only places I’ve ever known to get that many calls are the ones advertising “No credit, no problem! 1st month’s rent free!” Those kinds of ads don’t exactly bring in stellar tenants who send in money each month.
  • Filled in a week. One week from what? When the last tenants leave? If you can fill it that fast, why do you not have tenants in there now to know actual rents? Filling a property that fast also further encourages the idea that the managers are putting anyone with two thumbs and a signature into the property, meaning good luck ever seeing a payment from them.

As I said, these are just the things that jump out at me about this ad that warrant further inquiry. The two potentially deal-breaking factors for me are the unknown condition of the property and the quality of the tenant pool. I would absolutely require an actual estimate of repair work needing to be done on the property (by a licensed inspector) and the tenant history (any long-term tenants? Any support for that vacancy claim?) Those two, in my opinion, are the critical issues. The rest are just risk-increasers. Everything may be manageable, but you need to be alert and aware of them in more depth. Much more depth.

Most properties can be a success if bought right and run correctly (there are some areas of some states that you literally can’t get tenants into properties, but I don’t think this property falls into that category). However the more the risk involved, the more work and diligent effort it will take to run it correctly, potentially to debilitating levels. What an investor has to do going into any buying deal is assess their personal experience level, understand the risk factors of that deal, and then combine the two (experience and risk factors) and see if they are a logical fit. For a new, inexperienced, long-distance investor I would not recommend touching this property with a 10-ft pole. For someone who understands the Cleveland market and has experience with this type of property, then I would completely support asking more questions, getting more info, and hiring an inspector to check out the property.

So maybe the first step as a new or less-experienced investor should be learning what factors increase risk in an investment property. This goes for flipping properties as well and not just rental properties. I pointed out a lot of factors that increase risk with this article, but there are of course others so be sure to keep your eyes peeled. Once you understand what factors increase risk, you can then weigh out 1) your experience in handling those risks and 2) your desire to deal with those risks.  If you have neither the experience or the desire to handle a particular deal, don’t do the deal. There are plenty of ways to lessen risk, so don’t settle for a tougher property just because you think you have to.

Related: 16 Big Red Flags to Watch For When Looking for Tenants

What was your first impression of this property? If you have bought properties like this, how was your experience?

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About Author

Ali Boone(G+) recently left her corporate job as an Aeronautical Engineer to work full-time in Real Estate Investing. She began as an investor only two years ago but managed to buy 5 properties in just 18 months using only creative financing methods. Her focuses have been on rental properties and overseas investing in Nicaragua.

47 Comments

  1. Ali,
    I LOVE your case study style! I completely agree with your reading between the lines assessment. As soon as I saw that 1927 was a home that was new for the area, I would have crossed this property off of the list. The $650/month didn’t bother me, but the 20 calls a day is a bunch of malarkey. I don’t get 20 calls a day when I am giving something away for free on CL!

  2. These properties are my bread and butter. I live and invest in the fox cities in wisconsin. The age of the property is not a concern to me at all. My properties age range from being built between 1875-1937. I tend to buy properties for a discount that have deferred maintenance and need upgrades. I build that all into the prices and have done quite well on managing those time and cost commitments. I would definately want to walk the neighborhood to assess the area and be able to judge its desirability and makeup. Close to everything can bring a premium but it can also mean that it is landlocked so it will determine the type of tenant. I like to have very little vacancy, since I started in 2006, I have had rought 4 weeks of total vacancy through the entire time over 6 properties with 10 units. My rents range between $490- $815 and most of my tenants are long term. I have had to ask 3 tenants to leave because of issues, all of these eventswent smoothly and they cooperated quite well. The other people that have moved out have, married the neighbor, moved to Oklahoma, bought a house, and one went to jail. Average stay is roughly 3 years and counting. I have found folks in this range won’t move unless they are compelled to. I don’t have much of a problem with the reasons that the past tenants moved on their own accord and the ones I asked to leave were tenants selected from my earlier days and I have learned a lot since then.

    I think the biggest misconception is that these older homes will require more repairs and maintenance. I don’t think this is gonna be true by and large. When something is updated and done right it will last a long time. Unless you have a home built in 2000 and after I think you are gonna have similiar maintenance issues. One thing I have found is that you can learn a lot from when the house was built. If the house was built during a boom, 2005-2006 the quality has a higher chance of being lower but a home built during a slow time or recession tends to be a lot better as the best home builders continue through the downtimes as the less skilled go out of business.

    At the end of the day it all depends on your goals. I self manage and am quite handy in most areas of home repair and construction. If I had to hire out every upgrade it would be very cost prohibative. For example I can install a new toilet for $120 whereas a plumber might charge someone $300. I can troubleshoot a furnace issue that could be as simple as flipping a switch or a matter of going through the diagnostic codes which could just be an hour of my time where a trip fee for a HVAC tech can be $100 just to show up at the door.

    • I agree with Kyle as far as repairs and maintenance goes. If the mechanicals and other major items (e.g. roof) are in good shape, older houses generally wear quite well. There’s nothing like true dimensional lumber and solid brick walls.

      It always cracks me up to see listings emphasizing what they’re close to, as it tells you nothing about the neighborhood itself…not to mention their idea of “close” and mine often seem to be in different worlds.

    • Dawn Anastasi on

      I’ll be the second one to say that homes built long ago can be very sturdy. You ever hear the phrase “They don’t build them that way anymore.” It’s because people took pride in craftmanship back then. My oldest house is from 1926 and when I remodeled it, there was a sink in there from Kohler from 1915. Yes, that sink was almost 100 years old. It stood the test of time.

      • Alan Mackenthun on

        My favorite saying – They don’t build it like they used to… Thank God. Building codes and standards are much stronger now. Nothing is square in old houses. They generally have substandard electric and plumbing trouble. Nothing like having to replace all the plumbing because of galvanized pipe and corroded vents. Don’t forget about the asbestos and lead paint. Finally, I’ll never miss the dank dark basements. Every 15 years or so I have to buy an old house that is just too good a deal. Then I remember why I usually avoid them like the plague. Give me something built in the 50’s or later. Better yet the 80’s or later. Best of all, give me something new :)

        • Alan,

          What you are deriding is what RE agents call the charm of an older home.

          My first charming older home, was also my almost bankrupting flip. Can you say termite food? The previous deceased owner did a bang up job of hiding without repairing termite damage like he thought maybe by the time he sold the place the camouflaging would look as old as the house. I was not fooled, but I bought the place sight unseen because the price negated all red flags (I know better now).

          As luck would have it a rising market solves all problems and I came out of it with a small profit, the rest I wrote off to my ongoing RE education.

      • I actually do agree Dawn. I think houses are made very poorly now compared to how they used to be built. It depends on the market too as to what kind of structures they are and therefore how sturdy. I would never rule out an older property but this ad does strike a red flag with me as far as the age, and it’s the newest, in the $50k price range. If it was an older more expensive home, I would assume it’s been kept up much better. My assumption with this one is that it’s not the nice old sturdy we all know houses can be, mostly based on the price range, but I would definitely go visit it and check it out.

    • Hi!
      I renovated a house built in 1905, 1956, and 2001. In all three, the “bones” of the house are extremely sturdy. I am quite impressed with my two older homes on how well their frames/structure are lasting the test of time. I agree with Dawn, “They don’t build ‘em like they used to!” And, it really is dependent on previous owners. Some owners replaced the roofs, others put buckets under the leaks. I think of homes like people: They all carry the emotional baggage or optimism of their previous owners :-)

      • Haha… I love that Lisa. Great analogy. And I definitely agree. If the houses have been taken care of, older ones can be excellent. That’s what I would need the inspector for. If it hasn’t been well-kept over the years, or worse, covered in cheap fixes, it’d be a no-go for me.

    • Kyle, your experience sounds amazing! I’m quite jealous about those only 4 weeks of vacancy. I also wish I had handy skills like yours too. I definitely don’t, so I’d never be able to pull all of that off.

      Great input and I’m glad you put it in here. As I said, if anyone is willing to put the effort forth for a property like this then I fully support them because it can definitely be profitable as long as it is done correctly. It sounds like you have mastered your system! Quite impressive. i would recommend anyone who is thinking of pursuing these types of properties to reach out to you and try to learn more from you. I know I would! Thanks again for sharing.

      • Thanks Ali. One big thing I didn’t like from the ad was the 1 bedroom. There seems to be an extra room so it would be possible to use as a bedroom but I don’t like stretching to make a second bedroom, q third bedroom is ok to stretch for but not second :) thanks again. It is always interesting to get an alternative perspective in order to gain a better understanding:)

  3. Someday you’ll have to write an article on how you buy an out of state property. I’m very hands on and can’t imagine buying without putting my feet in the house. However, I’m very interested in the mechanics of doing a deal 1,000s of miles away. It’s such a departure from what I do that I’m interested in the steps one takes to “view”, submit offers from afar, securing contractors and PM’s, etc. I’m the opposite extreme, all my properties are within 2 miles of my house! Thanks.

    • I mentor real estate investors, and one of my clients I had offer a monetary incentive for the real estate agent to take a lot of pictures ($25/house), and videos, of the property and neighborhood. I go over the properties with her, and we can tell a LOT about a property when you have 35 photos of it on the condition, and a walk through video, with a 8MP+ camera phone. Visually, you can see the state of the roof, how old or new the HVAC system is, how updated the home is, how much updating kitchen/bathroom, flooring, etc. That’s been working for narrowing down which home to use for out of state investors. In my price range (~40k), adding financial incentives is useful for ensuring the agent is happy to keep working for you.

      That’s how we work through that part. Pictures really tell a 1000 words, and we cap that off with an inspection by a top rated inspector. As I told her, its worth paying a little bit of money if you’re getting a great cash flowing asset for so little. Hope that helps on the long distance thing!

        • I have not, and I prefer EVERYONE walk the property themselves. It doesn’t mean as much, though, when you’re new since you don’t have the off the bat experience to know what indicators and cost may be.

          Would I? Yes, but as a last resort if I could not possibly make it out there (overseas, etc). Great article Ali, there were red flags in there, and talking about it helps us all be able to learn from this. Personally, I dont take any sells ads or advertising as gospel.

    • Hi Dave. Thanks for writing in! Unfortunately I won’t be able to write an article about submitting offers and dealing with contractors and such from afar because I only buy turnkey, so everything is already done. All I have to do from the long-distance is sign the papers (after doing due diligence on everything first of course). It would be a really good article though if someone could write it about doing work on properties from long-distance. I only buy them and own them from a long-distance, no work.

  4. Well I saw red flags in many areas of this ad, both with the opportunity (a lot of which you already pointed out) and the provider:

    – I don’t like two story properties. Water runs down, so leaks in upstairs baths are a nightmare from a cost perspective.
    – One bedrooms can mean more transient people. I prefer two bedrooms. This is not set in stone, but just a personal preference on my part.
    – Why are they charging 6% for closing costs?? That seems exceedingly high.
    – Why are they bundling water with taxes and insurance? Seems like a cover up to me about what the real water costs are.
    – I see no budget for landscaping, a normal costs in multis.
    – I can’t for the life of me figure out why they are showing an example with 40% down and a 15 year am. In their favor, it is more of a worse case scenario loan, so perhaps that’s why, but it is odd.

    In any case, I would run from this investment simply because I think the provider and/or agent is less than trustworthy. I think it’s so important for new investors to take some time before pulling the trigger to learn how to analyze deals and understand all the different areas you have to consider before making a purchase. Not to the point of analysis paralysis, but so you don’t have to take someone else’s word for it and be “scared ****less” like the investor who contacted you was. With Bigger Pockets here, the information is readily available. Great article, Ali!

    • Thanks Sharon! Your feedback is amazing! You pointed out some great things for people to be wary of that I didn’t mention. I did wonder about that water being mixed in with the taxes and insurance thing as well. I get the same overall feel…these people (whoever they are, I truly don’t know) aren’t trustworthy. Not even a little bit!

      Thanks again. Everyone should definitely add your items to the list ‘o red flags.

  5. Best bet is to get the exact address and Google earth the entire area. No activity of construction and lots of empty lots and you have Detroit in the making. In Philly the easiest way to see if the area is going to pot, is look from the birds eye view, you can see the roofs and condition, and into the back yards. Lots of trash and generally abandoned looking is bad, finished yards some with pools speaks of long term occupancies.

    I was researching a Sheriff sale property, Google showed me the land locked back yard also contained the rear wall of the house. What a bummer it would have been to open the front door and see into the back yard on every floor.

    • Great idea Dennis. I think you are right, you really can tell a lot by looking at the street view on Google (thanks, Google!). Great put.

    • I’ve heard Google Earth can be a year or more old sometimes. Anyone know if that is true or not? Seems like it paid off in your case though, Dennis.

  6. Joann miller on

    If you are buying long distance- risky for a seasoned investor, let alone a new inexperienced investor, I would get a certified experienced real estate house inspector at my cost to go over that place top to bottom, then get furnace and roofing companies to determine condition. What about the landlords records of occupancy?. We have sold rentals and one of the biggest selling points were our long term tenant records– you don’t want a cheap rental with high turnover– the age would really scare me unless the inspections confirmed all was in good condition– does seller have any repair records or anything to show a maintenance history? We had numerous long distance rentals in the past and using a property management company long distance was very bad– easy for them to call you and say house needs a new stove, we will put it in and bill you– what are you going to do? Get on a plane every time an expensive item or repair is needed? This investor needs to eyeball this property himself and research the area– I would not buy it.

  7. While I do agree with MOST of your concerns or “red flags,” I don’t agree with all. There are many places in the country that have beautiful, fixed up, well-taken care of turn-of-the-century homes. And they are not all shacks. As a matter of fact, sometimes they are built better than many homes built within the last 10 years. And often in a nice, historic district. I would look at the upgrades (knob and tube electrically is bad) – how new is the roof?, electrically, plumbing, etc.

    I also don’t agree with the sub-$750 as transient or bad tenants. I currently have a tenant in a turn of the century house who has been there for 9 years and has no plans on leaving – she pays $650. She takes good care of it and considers it her home It ALWAYS depends on your market. Maybe in Cleveland, $650 is average rent. This would not be the case in most of CA or Chicago, NYC, etc. That said, I don’t know Cleveland and would be hesitant to buy in an area I have never lived, visited, or stepped foot into.

    • Totally agree Julie. I’d be all for it if it was a nice old property. But I labeled it as a red flag because it needs to be checked out, as you say….check the condition, upgrades, everything. All of the “red flags” are listed to be deal-breakers, they are just things to be cautious of, especially for a newbie, and investigate further before signing the papers.

      It’s definitely true that not all sub-$750/month tenants are bad. There are plenty of good ones out there. It’s just an increased risk of them being more transient and not taking care of the place. Tenants who pay $10k/month could end up being transient and not taking care of a property, but a much lower chance of that happening. It is also very market-dependent, correct.

  8. Interesting case study Ali!

    I agree with Sharon’s statement above. Unfortunately, too many times folks focus too much on the property itself versus the person they are dealing with. If someone does not seem trustworthy, I don’t pursue the deal no matter how good it looks on paper. Call me old fashioned but that’s just the way I do business!

    From the ad itself, it seems this person is trying too hard to “sell” the property which is a red flag to me in itself. There are too many general statements in the ad. From experience, I’ve learned the more general something appears to be the less likely it is to be of interest to me.

    Specific items would include the neighborhood amenities, types of repairs needed including how the repair figure was arrived, etc. Looking at the wording on the ad, it seems like the person selling this is trying to defer statements to management companies (who are they?) instead of taking responsibility for them.

    Plus, what’s going on with the water? Why is it rolled in with taxes and insurance? Definitely a red flag.

    The “20 calls a day” statement is typical of a “selling” statement. Seems like this person is trying to unload a fast one on an unsuspecting victim.

    Just my thoughts. Thanks for sharing! :)

    • I think your thoughts are great Rachel and I totally agree. Very generic statements and little to no detail. And yeah, that was a huge one for me, who are these managers exactly and why is everything what they say?

  9. Brant Richardson on

    Keep in mind Ali is listing these things as red flags, not deal breakers. Older buildings can be a great investment but age is still a red flag, add a bunch of other red flags and it becomes a deal breaker.

    For me, a 1 bedroom duplex is a strong enough red flag that I wouldn’t invest in it unless I could landlord it myself. There’s not many properties types that will bring higher turnover.

    I think the great schools ratings are very useful for out of state investors trying to figure out the quality of a neighborhood. It’s something you can look at in seconds over the internet. Ratings of 1-3 are a red flag. Ratings 8-10 are very confidence inspiring. Again, not a deal maker/breaker, but a red flag.

    • Thanks Brant :) Yes, definitely only red flags and not necessarily deal-breakers. All just warrant more investigation.

      Great thoughts about the schools. Plus areas with higher ranked schools always pose a better exit strategy because more people will want to go/buy there.

  10. Sara Cunningham on

    Sounds to me that the owner has no knowledge of the property at all. May even be an out of state investor themselves who has never set sight on the property. They use so many statements that say according to this person or that person. They offer no concrete information on anything. I would contact them and get the address firstly. Then as already suggested use Google maps, check out the tax and county assessor site for owner info and location, price purchased for, how long ago etc. ask to see copies of utility bills. Look at comparable rental rates and most importantly have an inspection done of the property to include any evidence of termite activity. This property fits into my criteria but definitely raises some red flags. I have bought two properties in the last 3 months long distance but I did all my homework and they also had long term sitting tenants.

  11. Given the easing of credit in 2014 and the availability of so many 0 down programs, why would a renter in Ohio pay twice as much per month as a mortgage would cost them?

    • I’ve asked that question about markets before cbe and the reason can be a few things, but mostly because they a) don’t have the cash to put towards a down payment and/or b) they don’t qualify for financing.

  12. Good evening,

    This was extremely helpful…Now I would appreciate any comments on one of my rental properties. I own a duplex in Richmond, newly built, age 10 years, college town, in the mid-range priced neighborhood, close to the college, no debt. The rent on each side is $575. The units of course are profitable.

    Now, my question…how and what tactic do I use to increase the rent?

    Thank you in advance for your thoughts.

    L.

    • Hi Linda. The good news and the bad news is you can’t always raise rents just because you want to. The rents have to match the market or you won’t get renters. Are you current rents close to market? Best way to find out the market rents would be to talk to a local property manager and/or have an agent run a CMA (comparable market analysis) on nearby rents (specify rents and not sales prices).

      If you are currently charging less than market, go ahead and just raise them.

  13. Regardless of what you buy, know what your returns should be based on the neighborhood. Lower quality neighborhoods demand higher returns. I have written MANY article about tenant quality on my blog NoNonsenseLandlord.

    I personally think the best investment property you can own is one you can walk to.

  14. Jordan Thibodeau on

    As always there’s market risk and investor specific risk. Depending on your experience level and risk tolerance the latter can be increased or decreased.

    In general these rules of thumb are great. Thanks Ali!

    • You’re welcome Jordan and you are exactly right…the risk can be increased or decreased, mostly with experience. I think these types of properties can be great for an experienced investor who knows how to work them right.

  15. An investment in real estate, like any other investment presents its fair share of risks. This article caught my attention particularly because I was born and raised in Cleveland Ohio, and still live here today. At the end of the day, a rental property is only as good as its owner and management company. The are certainly quality rentals at affordable prices in the northeast Ohio area, not all are the ‘horror story’ type rental homes as depicted in this article particularly. Finding a place to rent with a reputable management company is key, not only in Cleveland, but any market when looking for a home to rent. Do your research on the community or even better talk to locals, Cleveland does have a lot to offer!

    • I totally agree about the owner and management making or breaking a deal Megan. With the right management, you can almost make any kind of property work in any kind of area (with a few exceptions). Cleveland is not that exception though, and definitely with the right set up it could work out quite well for interested investors.

  16. @Sharon Tzib Google Earth is at least 2 years out of date-I redid my backyard in 2012 and the pic still shows the old lawn.

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