Investors: Believe Me, You CAN’T Afford Property Management. Here’s Why.
I am not sure where the attitude comes from that that real estate investing is something that can be done “on the side” or something that can be dabbled in. I suppose articles across the internet are partially to blame. One article after another about success, and the apparent ease with which this success was achieved — that’s enough to lead someone to erroneously conclude that success in this sport can somehow be an outcome of some type of passive activity and that real estate investments can be used as a nothing more than a diversification strategy within your otherwise predominantly paper portfolio.
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Thankfully, not all of us here at BP try to sell you a dream. Some of us actually tell you that this stuff is hard, both mentally and psychologically, and that chances are better than not that you will break long before you find any measure of success. In fact, if you listened to Podcast 152: Building Wealth and Passive Income with Rental Properties with Ben Leybovich, Brian Burke, and Serge Shukhat, I do believe that all three of us were rather blunt on the subject.
Don’t get me wrong — we were also blunt about the reality that real estate is in fact the best opportunity for most of us to build wealth on our balance sheets and financial freedom on our income statements. However, the “read between the lines” essence of it all is that real estate works only if you do it right — YOU do it right, not someone do it right for you!
What You Need to Know About Property Management
You can’t afford it!
Serge came out and said that much in the podcast, for all those who are willing to listen. Brandon Turner didn’t reply anything, because there was nothing to be said — he’s been trying to find a halfway decent PM for years now, and all it’s doing is costing him time and money. For my part, I sure as hell know that none of the projects I’ve ever bought could be transformed into what they are today under a PM.
It’s a blatant reality — none of us can afford a PM for anything we currently hold in our portfolios.
Let’s Look at Some Numbers
One of my favorite series of articles here on BP Blog is the one tracing the repositioning of the Symphony 10-unit. There have been 4 or 5 installments, and you can find them by clicking here, here, here and here.
Just to summarize:
- I bought the thing in February of 2013 for $373,500. I used a blend of institutional and private money and ended up bringing to closing $5,300 of my own cash (1.5%). It wasn’t 100% financing, ’cause I am not quite as good as Brandon, but it might as well had been.
- I had a lot of turnover in 2013 and spent a lot of money on cap ex, and by the end of that year only managed to clear about $3,000 cash basis accounting.
- I did better in 2014. I was beginning to catch up on the deferred maintenance issues and made strides in stabilizing the tenant base. That year I cleared about $12,000 cash basis accounting. This was $1,000/door — not quite $100/door per monthly CF that is the magic number here on BP (likely due to me).
- In 2015, Symphony cleared about $20,000 cash flow. Three years after the purchase, Symphony is now fully stabilized.
Could I Afford Management?
Before a discussion can be had of whether a PM can be afforded, we have to discuss whether a PM is even appropriate. In this case, it took me three years to fully reposition the project, and I was on it every day for the first 6 months, and every other day for the next 6 months! The following year Symphony required much less effort, yet still occupied more time than everything else in my portfolio combined. By 2015 this project is automated, and I have seen an inside of a unit out there one time in the last 6 months.
Now the question is:
Could a PM do the job that needed to be done?
Regardless of the cost, could they do it?
There are professional property management companies out there. These are companies with thousands of doors in their management portfolio, with developed management and reporting systems. Many have legal, title, accounting, and construction in-house, and if not in-house, they certainly have standing working relationships with all. They have an in with the municipalities they are involved with, strong relationships with code enforcement, auditor, etc.
These are the type of players we use as part of a syndicated acquisition of a 200-unit. Why? Because they are much more systematized than I ever want to be on my own, and they have infrastructure that I can’t possibly afford on my own. Besides, I wouldn’t want their job.
A player like that absolutely could do what needed done on Symphony. The problem — they don’t want Symphony. A little 10-unit simply cannot support payroll and fees that are part of the infrasture of professional management. There just isn’t nearly enough meat on that bone to underwrite the expense of professional management.
And if Not Them…
If not them, then what you get is what I call “mom and pop” management, and about all they are good for is to mess things up, which is why in the last two weeks I spoke to two investors here on BP who are in the process of firing their PMs, and it ain’t pretty or easy. After all, in order to fire someone, you have to get them on the phone — that’s not easy if the PM is doing all that they can to avoid you. 🙂
I’m telling you, guys: There’s no magic to this, and this is why Serge simply stated that you will not make any money if you use a PM. I applaud my friend for being candid, as this is an unpopular view on BP today.
Speaking About Money
Typically, a Mom and Pop PM charges a 10% fee — that’s 10% of gross income. In the case of Symphony, I can tell you that this would have been about $7,000/annum, which means that in 2013, I would have been as much as $4,000 underwater, in 2014 I would have made $3,000, and in 2015 I would have cleared $13,000 instead of $20,000.
What do you think? Can I really afford to lose $7,000 out of $20,000 on a building and still be able to drive a Tesla?
Don’t answer that yet. It gets worse!
It’s Not JUST a 10% Fee
Typically, the 10% is just a flat fee. Additional costs, which are not included in that are lease-up fees, maintenance surcharges, court appearance charges, eviction charges, etc. By the time it’s all said and done, try 12.5 – 13%!
Thirteen percent would have meant writing a check for about $9,500 in 2015 — that’s HALF of the cash flow in 2015!
Really? You think that this is how you’re going to make money in real estate, Mr. I-Have-a-Nice-Paying-Job-in-Silicon-Valley-So-I’ll-Just-Pay-a-PM-to-Manage-My-PIGs-in-Ohio-Indiana-and-Wisconsin? That’s your plan?!
Two Points in Conclusion
One: Small-time real estate investing is not passive. Get over it. Real estate works, but only if you do!
Two: You cannot afford property management — what more can I say?
Investors: With a subject this polarizing, I’m sure you have an opinion!
Be sure to let me know what you think by leaving a comment below.