With the extraordinary number of short sales and foreclosures over the last few years, many distressed properties are actually being purchased with the previous tenant still residing in the property. For many investors, the thought of avoiding up front rehab costs as well as the time and expense associated with finding a tenant adds to the appeal of this scenario. Admittedly, I too have been drawn to certain properties because of the prospect of inheriting a tenant, but I’ve also learned that buying a house with a “leftover tenant” is far from a slam dunk.
Let me first differentiate between inheriting a tenant from a distress sale and buying a turn-key investment property with a tenant already in place. We are in the business of selling turn-key properties to investors and as such, are also in the business of placing tenants into our properties once our rehab has been completed. We do an extremely thorough job researching background, credit, income, etc. before placing somebody into one of our homes. The properties that are purchased through a turn-key company like ours come with highly qualified tenants already in place.
However, unlike purchasing from a turn-key company, a tenant that resides in a property during a distress sale may not be of the caliber an investor might expect. If the house was in a foreclosure, it may be that the tenant has been living in the house for months without paying rent. In the case of a short sale, you have to wonder why the previous investor couldn’t keep up with the mortgage payment if the tenant was paying on time. In either case, trying to determine the tenant’s true payment history will probably be close to impossible.
Any potential investment should be measured on its own without the benefit of having a tenant already in place. While it is possible to buy a distressed property with an excellent tenant in place, this is typically the exception, not the rule. I strongly believe that an investor should always plan for the expenses associated with rehabbing and leasing the property – regardless of whether or not the existing tenant wants to stay in the property (and I’d even consider adding in the expense of an eviction should the tenant not work out).
For the investor that does purchase a distressed property with an existing tenant, I would recommend doing the following PRIOR to closing:
- Ask the existing tenant to fill out an application that would allow you to obtain background, credit and proof of income.
- Sign a new lease with your terms.
- Determine where the previous security deposit is. If it is not obtainable, work with the tenant to acquire some sort of reasonable security deposit from them.
Buying a property with a tenant and cashflow already in place can be a great thing! However, an investor who is presented with this type of opportunity needs to be careful to still do their due diligence on the property itself as well as the tenant before getting enticed into a bad situation. A smart investor will hope for the best, but always calculate his/her numbers based on the worst (which is often the reality).