The quality of your renters determines the quality of your returns.<\/p>\n
In over 15 years of landlording<\/a>, I\u2019ve found that to be true time and time again. And while there are plenty of good Section 8 tenants out there, my experience has been that it\u2019s just plain harder to find reliable, high-credit, low-impact, respectful tenants in lower-income neighborhoods.<\/p>\n Many people instinctively object to that statement out of political reflex. To them I have a simple reply: \u201cGo put hundreds of thousands of your own dollars in lower-income housing. Once you\u2019ve accrued firsthand experience with it, we\u2019ll compare notes.\u201d<\/p>\n (The comments on this article should be fun!)<\/p>\n The hardest lessons I\u2019ve learned as a real estate investor came from investing in hard neighborhoods. Many of those lessons I wish I\u2019d known when I first started out\u2014they would have saved me tens of thousands of dollars in losses.<\/p>\n I no longer invest in Section 8 rentals because of those lessons. Here are the reasons why.<\/p>\n Related: <\/em><\/strong>7 Lessons I Wish I\u2019d Known When I Started Investing in Real Estate<\/a><\/em><\/p>\n Section 8 requires an annual inspection of every participating property. And every single year, the inspector will find five to 10 items to list.<\/p>\n Why? Because it\u2019s their job to list something<\/em>. It proves to their supervisors that they\u2019re actually visiting and inspecting every property on their list.<\/p>\n This is all well and good for keeping the bureaucratic cogs turning, but that doesn’t make it any more fair to you as the property owner.<\/p>\n I had a property where I\u2019d spend $2,000-$3,000 on inspection-related repairs like clockwork every single year. Occasionally the inspector would point out a useful property repair or update. Most of the repairs were invented as busywork.<\/p>\n That $2,000-$3,000\/year? That was my profit margin. Gone, every single year. I never earned a profit on that particular property.<\/p>\n Buyer beware.<\/p>\n Section 8 tenants are notoriously difficult to evict<\/a>.<\/p>\n When they fail to pay their portion of the rent, or violate the lease in some other way, Section 8 requires extra steps from you to file and complete the eviction process. It varies by jurisdiction, but it could mean extra notice given, extra forms completed, an extra hearing, or an extra review.<\/p>\n I\u2019ve had evictions take 11 months before. Meanwhile, the tenant laughed all the way to the bank with nearly a year of free rent.<\/p>\n Eviction isn\u2019t the only thing that takes longer when you\u2019re dealing with a bureaucratic machine like Section 8.<\/p>\n You can also expect a delay in renting to the tenant, due to Section 8\u2019s initial inspection\u2014during which they may issue mandatory repairs to you before allowing the tenant to move in.<\/p>\n Section 8 must approve the rental agreement and all other leasing paperwork. Even once they (eventually) give you and the renters the green light, you can still expect to wait up to 60 days for the first month\u2019s rent check.<\/p>\n Nothing happens fast with Section 8.<\/p>\n At purchase prices below $75,000 or even $100,000, it\u2019s difficult to get financing.<\/p>\n Lenders earn nearly all their revenues as a percentage of the loan amount. A $50,000 loan comes with the same amount of work as a $500,000 loan, but the latter brings in 10 times as much revenue.<\/p>\n Most investment property lenders don\u2019t even consider loans below $75,000. And redlining laws notwithstanding, you better believe that underwriters pay closer attention to properties in lower-end neighborhoods.<\/p>\n I should know\u2014I started my career working at a mortgage lender. From the lender\u2019s perspective, these loans involve more work, less revenue, and higher risk. It’s a losing combination from their standpoint.<\/p>\n Get indignant if you want. But it\u2019s true: lower-income tenants tend to be higher-risk tenants.<\/p>\n That risk comes in several forms. One of them is the risk of rent defaults; even the Federal Reserve reluctantly concedes that there\u2019s a correlation<\/a> between income level and credit history. And beyond lower average credit scores, lower-income renters tend to have less in savings to weather emergencies, as well.<\/p>\n Read: higher risk.<\/p>\n But defaulting on the rent isn\u2019t the only risk. My experience has been that lower-income renters tend to be harder on their homes than middle- and upper-income tenants. Less gentle, less respectful of the properties. And that goes doubly for Section 8 tenants, who have less of their own skin in the game.<\/p>\n Critics can accuse me of generalizing. Yes, I am\u2014because that\u2019s the only way to discuss broad trends among millions of people.<\/p>\n The tenants themselves aren\u2019t the only risk in lower-end neighborhoods<\/a>.<\/p>\n I\u2019ve had excellent low-income tenants living in a rough neighborhood, and do you know what they did? They moved out as soon as they could afford it. I don\u2019t blame them.<\/p>\n They complained about crime, which I sympathized with but could do nothing about. It caused high turnover rates, and as experienced landlords know, turnovers are the most labor-intensive and expensive point<\/a> in the tenancy cycle.<\/p>\n Higher turnovers mean more work and lower returns as a landlord.<\/p>\n And the renters weren\u2019t the only victims of crime\u2014my properties got vandalized, broken into, and stolen from regularly. The most common incident involved dismantling the central air conditioning condenser to steal the copper tubing inside. That was $3,000 down the proverbial drain, every single time, because insurance wouldn’t cover theft in these neighborhoods.<\/p>\n I then installed steel cages over the condensers. Local lowlifes sawed through them and stole the copper anyway. I eventually stopped bothering to install central air conditioning in those neighborhoods.<\/p>\n In the end, I stopped investing in them altogether.<\/p>\n The same people who lament the lack of affordable housing in one breath turn around and call you a slumlord in the next when you buy lower-end housing. Then they try to pass increasingly stringent regulations against you\u2014all without ever investing a dollar of their own in affordable housing.<\/p>\n It\u2019s a lose-lose proposition for real estate investors. This is precisely why there\u2019s a dearth of affordable housing in the US: it\u2019s neither economically viable nor politically viable for investors.<\/p>\n In my youth, I had grand visions of going into low-income neighborhoods and improving them, with beautiful renovations and amenities like central air conditioning. I then got pecked to death by inspectors, ever more stringent anti-landlord laws, and activists calling me a slumlord, even as I lost more and more money from break-ins, turnovers, mandatory inspections, and registration fees.<\/p>\n If activists want more affordable housing, they can invest their own money.<\/p>\n New investors are drawn to lower-end rentals because they\u2019re cheaper, and therefore easier to buy when you\u2019re just starting out.<\/p>\n Resist the temptation. They may cost less to buy and look like they have better cash flow numbers on paper, but they come with hidden costs like higher turnover rates, higher property damage and repair costs, higher vacancy rates, and higher eviction rates.<\/p>\n But if you dismiss everything I outlined above for political reasons, stand by your principles by investing your own money in Section 8 rentals. Just make sure you protect yourself better than I did by following these tips.<\/p>\n Investors used to love Section 8 rentals because Section 8 sometimes paid higher-than-market rents.<\/p>\n While that\u2019s largely changed in recent years, in some districts it still happens. Regardless, you can\u2019t count on those higher rents.<\/p>\n When you run the cash flow numbers, make sure they work even if you rent to a cash tenant paying market rent.<\/p>\n In higher-risk neighborhoods, you need to be extra thorough when screening tenants.<\/p>\n Beyond screening reports, talk to current and former landlords, and verify that they are, in fact, the applicant\u2019s landlord. Getting your buddy to pose as your landlord is an old trick, and one that applicants have tried on me before in lower-income neighborhoods.<\/p>\n Importantly, also inspect their current home, with as little notice as possible. You want to see how they live day-to-day, how well they keep their home on an average day.<\/p>\n Because that\u2019s how they\u2019ll treat your property.<\/p>\n1. Annual Inspection<\/h3>\n
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<\/p>\n2. Eviction Delays<\/h3>\n
3. Initial Renting Delays<\/h3>\n
4. Financing Challenges<\/h3>\n
5. Higher-Risk Tenants<\/h3>\n
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<\/p>\n6. Lower-End Neighborhoods Come with Other Risks, Too<\/h3>\n
7. People Call You a Slumlord<\/h3>\n
If You Must<\/em> Invest in Section 8 Rentals\u2026<\/h2>\n
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<\/p>\nMake Sure the Numbers Work for Cash Tenants, Too<\/h3>\n
Screen Applicants Aggressively<\/h3>\n