There is a common misconception about being a landlord, that all you have to do is buy a house and rent it out, then watch the money roll in.
Yeah, that isn’t how it really works. You CAN make a lot of money being a landlord. You can also LOSE your entire investment if you aren’t careful. If you are like most people, you probably know a landlord or two. If you are on this site, you may have tossed around the idea of being a landlord.
I have several friends who have been or are currently landlords. They have a variety of experiences, ranging from “I can’t wait to buy my next property!” (said in a very excited tone) to “I will never, EVER, do that again!” (uttered with absolute disgust dripping from their voice).
Let’s check out some stories from those people in the second group.
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The Heroin Dealer Was My Best Tenant
Let’s start out with my friends Brad and Linda. Employment shipped them two states away to Arizona, but they were reluctant to sell their existing home, so they asked for and received property management referrals. Two different friends recommended the same company, and after a bit of research, they chose to use them to manage their property.
This property management company was a local, family-owned business. The first tenants they rented to were quality renters. They took care of the home and were quiet and respectful of the neighborhood. The neighbors on either side of the house had no complaints about them. When their year-long lease was up, they moved out and bought a house of their own.
The second set of renters weren’t awesome — they had dogs who caused some problems. They also moved at the end of their one-year lease. The property sat vacant for a couple of months before the next set of tenants moved in, during which time the property management company was acquired by a larger, corporate firm. (Cue foreboding music.)
“How much different can it be?” said Homeowner Brad upon learning of the change in management.
The third set of renters caused a lot of damage to the property. They had enormous dogs that they confined to one room in the house. Can you guess what the dogs did in that room? When this family moved out, the glass doors on the built-in cabinets were no longer there, the carpet in the dog room was no longer there. (But they left the carpet pad. The urine-soaked carpet pad.) Out in the yard, a sprinkler head was no longer attached, thanks to the dog removing it with his teeth. When the sprinkler was turned on, the water sprayed directly onto the siding, causing it to rot.
On top of all that, the new corporate property management firm wanted to return at least a portion of their security deposit, even though the owners had returned to the area by this time and viewed the damage with their own eyes. It took quite a bit of fighting with the management firm to keep the deposit, which did not cover the damage completely.
Meanwhile, down in the state they had moved to…
When Brad and Linda moved, they had purchased a house in their new state of Arizona, believing they had jumped into the market at the low point. Nope. They caught the downward slide about halfway to the bottom. So when they decided they no longer wanted to live there, they called an agent and were surprised at just how low property values had fallen during their residency. They couldn’t afford to bring that much money to the closing table, so they decided to rent out their AZ property when they moved back to their original house, hoping to recoup some costs while waiting for the market to recover.
In Arizona, at least at the time, out-of-state owners were required by law to hire property managers. In just over two years, they went through at least 6 months of vacancies. It turns out, they bought in an area of Phoenix that locals consider to be sketchy. It was difficult to even find a PM, let alone someone who would do a good job.
Enter the heroin dealer. On the surface, he sounded like a good renter. No, he didn’t portray himself as a dealer. Who would say that?! No, he was “renting for his pregnant girlfriend.” He didn’t intend on living at the property, but might sleep over from time to time. (Who tells the PM that up front?) But the application came in after several months of vacancy, so they approved the girlfriend and she moved in at the beginning of January.
On-time rent payments were the only communication from this tenant, until June when the AC broke. In Arizona, AC is required, and you must repair it within 48 hours of notification. So they fixed it, and back to no peeps from the tenants until July, when the police broke down the door and arrested both the tenant and the boyfriend for heroin dealing.
Brad and Linda started eviction proceedings. Then two months later, the woman tracked them down and offered cash to have the eviction removed from her record. She also had cash in hand to replace the front door the police department destroyed in the raid. Having lost so much money on both this property and the original one in their home state, they were between a rock and a hard place. They took the money and dropped the eviction proceedings, fixed the door, and sold the house.
Lesson Learned: Hire the right property manager. Like anything else, property managers come in all shapes, sizes, and levels of competency. Always do your research on the property manager — they are the gatekeepers to your investment and can make or break you. And if the PM that YOU hired suddenly changes companies or the company is acquired by another, vet the new company just as thoroughly as you did the first one.
That Year That EVERYTHING Broke!
Reese and Peter bought a small, two-bedroom house when they got married, but babies started coming and didn’t stop. The decided they had outgrown it when they found out about baby #4 and started shopping for a larger space. They also thought renting out the smaller house for some extra income would be a great idea. They quickly found a tenant, and all was fine. Until…
About three months into their new lives as landlords, the hot water heater broke. Reese and Peter aren’t very handy people and had to hire someone to come in and replace the unit. It happened at some point on a Friday, and the tenant was at work. Of course, there were extra charges for weekend time. Murphy’s Law rules landlords.
Two months later, they were again hiring someone to come and replace their furnace, which died in the middle of winter. This too was a rush job because you cannot be without heat in Colorado in the winter.
The problem is, not only are Reese and Peter not especially handy, they also didn’t have any reserves. These large, unplanned expenses had damaging effects on their finances.
Reese and Peter decided that after the year lease was up, they would not renew, believing it would be easier to sell a vacant house. They had two months of vacancy before the property closed, adding to their losses.
Lesson Learned: Being a successful landlord isn’t just owning property that you let someone else live in. You need reserves because something always breaks. Breaking even by charging the same amount as you pay for mortgage and taxes will always be a losing proposition. Serge Shukhat and Ben Leybovich did an intense study about CapEx reserves. They discovered that to adequately prepare for CapEx expenses in a B area, you need to allocate $250 per door for CapEx per month. But even this figure is assuming you are starting off with brand new equipment. Something is going to break — don’t let that break you.
The Not-Quite-Professional Tenants
The last story I will share with you today is about Shannon, who bought a three-flat in Chicago, intending to rent out two of the units and live in the third. Shannon didn’t feel a need to run a background check on her tenants because she is a “good judge of character.”
Shannon lived in the basement unit and rented out the top two. The level one renter was a great tenant — on-time payments, no complaints, quiet. That’s all I have to say about the level one tenants.
The top level tenants were the complete opposite, of course. It was a family with two small children. They couldn’t pay the entire security deposit before they moved in, but Shannon felt bad because they had two small kids, so she let them move in with the promise of half this month and half next month.
Any psychics out there want to guess what happened next?
The tenant came down to her unit about two weeks after they moved in. He told her that they couldn’t come up with the security deposit in any amount, and they also couldn’t pay any rent. At all. He offered to do work around the house like mow the lawn and shovel the driveway in return for free rent.
Now, this seems like the worst part of the story, but it gets even
better worse. Remember those young children this tenant has? One of them was in diapers at the time. Diapers fill up and need to be disposed of. Normal, well adjusted, non-sociopathic people will put used diapers in the garbage. These tenants opened the window and chucked them into the backyard. Shannon didn’t know this for a few weeks. Yep. Weeks. Infants go through 6-12 diapers a day.
Lesson Learned: Screen your tenants. Wait, no scratch that. SCREEN YOUR TENANTS!!! Nobody is going to come up to you and say, “I’m going to stop paying rent after the first month.” No one is going to clue you in that they plan to punch holes in your walls, rip out your copper pipe, and flush cement down the toilet. No one is going to tell you they plan to toss used diapers out the third floor window and let them pile up in the backyard.
Screen your tenants. If they sound bad on paper, don’t rent to them. Don’t make excuses for them. Find someone who doesn’t have excuses. Find someone who has money to pay the rent every month. It is far better to have an empty unit for one month while you wait for a good tenant than to have someone right away and spend several months on eviction and rehab.
Listen to Experienced Landlords
I spend a lot of time in the BiggerPockets Forums. I like to share what I do know and learn from others who have experienced what I have not.
I’ve seen some pretty outlandish forum threads. New investors who ask questions that should be no-brainers: “A potential tenant has a 400 credit score, but says it’s his ex-wife’s fault. Should I rent to him?” or “My tenant just asked if they could run a daycare out of my house. That’s ok, right?”
I don’t fault them for asking the question — you don’t know what you don’t know. But when every single responder says, “NO!” and “Run the other way as fast as possible!” yet the original poster replies, “Well, I’m going to do it anyway,” it makes me sad for them — for the lessons they will learn from the School of Hard Knocks.
So I have just one more lesson for you to learn. Listen to the experienced landlords on this site. People are members of BiggerPockets because they love to talk about real estate. Listen to their advice.
What is something you wish you would have known before you started? Did you get any advice you were happy you took?
Let’s talk in the comments section!