Landlording & Rental Properties

What’s More Costly: Rental Vacancies or Filling Rentals With Subpar Tenants?

Expertise: Commercial Real Estate, Personal Finance, Real Estate Marketing, Business Management, Landlording & Rental Properties, Real Estate Investing Basics, Personal Development, Real Estate News & Commentary, Mortgages & Creative Financing
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One of the most important factors that today’s real estate investors need to watch out for is choosing partners and professionals who have really mastered the dynamics of tenant screening and occupancy. Each investment opportunity is only as good as the execution. Without a great handle on tenant management, the results can be disastrous.

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Glance through the BiggerPockets Forums for a few moments, and you’ll discover plenty of threads debating tenant screening versus occupancy versus rental asking prices. You’ll find plenty of good tips and lots of rough rules of thumb to use. Unfortunately, many investors are still incredibly lost in this area. And that can get extremely expensive very quickly.

Both poor tenant performance and rental vacancies can kill cash flow for real estate investors.

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How Much Does Credit Score Matter?

It is smart to have systems in place for these things, but many are getting hung up on the wrong data points. Credit score is the most common one. Through screening tenants, I have seen that you can still walk out of bankruptcy and have a 700 credit score very quickly because you no longer have any debt. That doesn’t mean this tenant will ever pay their bills on time. Someone else might have one misdemeanor on their background check from 4 years ago, but is otherwise the ideal tenant. Ever heard of miscarriage of justice or innocent people being arrested? Someone else may have a low credit score because they don’t use credit but have awesome income, a great job, and good assets.

Related: 4 Old School Tenant Screening Tips That Still Hold True For Modern Landlords

It takes both a detail-oriented property manager and intuitive expert who knows how to evaluate the whole picture to nail this. 

Finding Correct Rates for Rentals

Another reason that investors fumble the ball is unrealistic asking prices for rental homes. Never take what a real estate agent told you that you could get in rent as the truth. Always verify it for yourself from other sources, such as Rentometer, Zillow, Trulia, etc. If there are similar units for $500 less a few blocks away, they are going for the cheaper units. The market will tell you how much your property will rent for. It’s best to listen and make any necessary changes. 

All too often my partner and I see units around ours sitting vacant for 6 months or longer. Normally, these are freshly renovated by newer investors. Some have done an amazing job at the rehab. They may have put in a little too much money for the neighborhood, but they look great. Still, they often lose because they’ll refuse to budge and drop the rent on a $900 a month unit by $50 to fill it with a good tenant. Or they’ll flat out turn down an average tenant who may have been willing to pay $50 extra.

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The True Cost of Vacancy

Do the math. If you’ve got four $900-a-month rentals sitting vacant for 6 months, you’ve just lost $21,600! You’ve made zero returns. In fact, given you need the utilities on and have property taxes, you are actually incurring negative returns. Then we all know that risks of damage are higher on vacant homes.

If those properties were mortgaged, you might be pulling $10,000 extra out of your pocket during that period to hold on to them as well. You’ve got to ask yourself, “How many properties with negative cash flow each month can I handle, including if my earned income is cut?”

It’s not just the little individual investors who are stumbling here either. There are a lot of new players out there. Even some of the biggest funds are stumbling here. They are trying to manage and screen by the data from out-of-state, with no real connection to the local neighborhood. Drive around some apartment communities in the country, and you’ll find they are a third or more empty, even where there is no shortage of eager tenants.

Related: Filling Vacancies: How to Use Basic Sales Principles to Appeal to Tenant Emotions

It’s worth noting that some of these firms are securitizing and selling the “potential” rents from these properties to secondary market investors. That’s another huge disaster waiting on the sidelines — but that’s way too big to get into here.

The bottom line is that whether you are investing in rental properties solo, with partners, through a fund, or via a crowdfunding platform, make sure you and the property manager really know the local market, know how to decipher the data and make common sense decisions, and are putting as much consideration into the math of vacancy as you are flawed credit scores.

Investors: How do you make sure you’re getting the best possible tenants into your rentals without risking vacancies?

Leave your best tips below!

Sterling is an multifamily investor specializing in value-add apartments in Indianapolis and other Midwestern markets. With just under a decade of experience in the real estate industry, Sterling w...
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    Michael Sadler from Edmonton, AB
    Replied over 4 years ago
    Hi Sterling! I think screening well in the first place is the best thing to ensure that you’re getting the best tenants in the property upfront.
    Rob Del Bianco
    Replied over 4 years ago
    So what is better?- Vacancy waiting for the ideal tenant or putting in a subpar tenant who will leave early and leave me out of pocket for a make-ready upgrade and a re-leasing fee?
    Sterling White Rental Property Investor from Indianapolis, IN
    Replied over 4 years ago
    Completely agree with you Michael. What are some of the rules of thumb you use when screening?
    Stephan Nezuch Investor from Fitchburg, Massachusetts
    Replied over 4 years ago
    In my view gaining the skills needed to achieve the ‘best fit’ tenant is a core skill that insures the best return on investment in the long run. I practice due diligence that includes not only background and previous rental checks but insist on conversing at length over the phone (before showing the unit) and in person. I make a point to get and keep the conversation going and find out as much as possible about a renters current and future situation. I believe my efforts pay off by having average rental occupancy in the range of 3 to 5 years. Having that type of turn around means less work, steady cash flow and above all a good relationship with my tenants!
    Sterling White Rental Property Investor from Indianapolis, IN
    Replied over 4 years ago
    That is great to hear Stephan. What market are you currently operating in? Is it landlord friendly?
    duplexguru
    Replied over 4 years ago
    NE metro west of Boston. Not sure how to gage the landlord friendliness of the market but have noticed an increased challenge in coaxing information out of potential renters. I think this might be due to the way that most millennials communicate, short bursts of text messages….