Success in long-term real estate investing is predicated upon two critical factors: returns and experience. To illustrate this point as clearly as I can, I usually ask investors these two questions:
“If I were to introduce you to an investment opportunity with cash-on-cash returns of 25% per year, would you be interested?”
Over the decade I’ve asked that question, I’ve never gotten a “no.” After all, 25% cash-on-cash is an amazing return on investment.
“Now,” I continue, “What if I told you that in order to obtain that rate of return you need an AK-47 to collect rent? How do you feel about that opportunity now?”
I’m obviously exaggerating, but the point remains. The experience of owning (and managing) the investment has as much a say on the success of that investment as its returns. In fact, one of the main factors that keeps potential investors from investing in long-term real estate is their fear of leaking toilets and maintenance calls in the middle of the night.
Property management is such a critical link in the success of your investment portfolio specifically because it can impact both returns and (especially) experience. And the struggle to find a balance between proper management and margin preservation is real. On one hand, you can hire a professional property management company and let the pros handle it. But that comes at a cost of 8-10% of gross rents, which can hit your net cash flow to the tune of 30% or more. On the other hand, you can self-manage and pocket the cost of management each month. But if you don’t have proper systems in place, it can run you ragged, upset your tenants, and ultimately hit your bottom line as well. And if we add the fact that most investors who choose to self-manage work demanding full-time jobs, the need for solid systems becomes even more critical.
Therefore, in this article, I will provide you with a comprehensive method to assemble a well-oiled property management system and automate as many parts of it as possible. I see two equally valid outcomes from this exercise:
- The method below gives you a “blueprint” to assemble a great property management system. You take action on it, and as a result, you can manage your portfolio properly, maintain healthy margins and achieve financial independence earlier.
- You realize that the effort required to manage your portfolio exceeds the cost of professional property management. The method below allows you to pick a proactive management company by asking them how they handle each stage in the “lifecycle” of a lease.
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Document the Process From Start to Finish
Most of the frustrations and headaches in managing an investment property stem from the investor reacting to issues as opposed to being proactive about them. Therefore, any properly designed management system must begin with documenting the process from start to finish in advance. Then, once we have an overview of the stages in the process, we can take steps to automate, template, and nip any future issues in the bud BEFORE they throw your busy schedule for a loop.
There are six major stages in the property management process. In each stage, I will cover all the important actions the investor must take to eliminate a large percentage of future problems.
Stage #1: Lease Agreement is Executed
The negotiation dust has finally settled, and you have a shiny, executed lease agreement in your hand. Congratulations! This is the point where most owner-tenant relationships begin to sour. On one hand, the investor wants the tenant to move in, pay rent, and take care of the place. It’s finally time for some income instead of some out-go, right? On the other hand, tenant moves in and immediately has a laundry list of items they want the investor to take care of right away. The ingredients for Shakespearean drama are in place.
If you take the time to do three things at this stage, you will save yourself a lot of grief down the line:
- Make ready. Is the property in need of any make ready? Keep a standardized checklist and go over paint, flooring, cleaning, landscaping, and other miscellaneous items (smoke detector chirping, anyone?). Take care of as many of those items as possible BEFORE tenant move-in.
- Meet with tenant(s) to explain lease terms and responsibilities. I can already sense the pushback from investors on this one already. “Didn’t the tenant read the lease before they signed it? They should know the terms and responsibilities — they’re in the lease they signed.” If you take nothing else from this article, take this. Meeting with the tenant for 45 minutes to go over the terms of the lease and their responsibilities under that lease can pay amazing dividends. Go over when the payment is due and how you prefer to get paid. Cover how you prefer to communicate (i.e. make sure they submit requests in writing via email unless you want to get texts or calls in the middle of the night and set up a Google Voice number for repairs). Tell them how you expect them to keep the property and what your process is for handling repairs.
- Set calendar reminders for the duration of the lease. This is a high leverage task. Spending 10-20 minutes to set up calendar reminders for the duration of the lease now will pay you back in multiples. Enter tenant birthdays (so you can send cards), lease expiration, lease renewal discussion (60-90 days prior), periodical inspections, and any holidays that fall within the lease term.
Stage #2: Tenants Move Into the Property
When the tenants are ready to move into the property, you must:
- Document the property condition. In Texas, we provide tenants with an Inventory and Condition form (I’m sure most states have something similar) for them to fill out within 7 days of move-in. It can be useful to walk through the property with the tenants, flick every light switch, flush every toilet, turn on appliances, open every drawer. In other words, make sure the property is move-in ready.
- Send a welcome email to the tenants. In this email be sure to include:
- Utility company information and instructions to switch over
- Location of water main, breaker box, and water heater
- How and when to pay
- How you want them to communicate with you
- Their responsibilities (air filters, landscaping, repair deductibles, etc.)
Stage #3: Perform Periodical Inspections
At times, I get calls from distraught investors who have just been through the unfortunate experience of dealing with a bad tenant situation. Essentially, the tenant disappeared in the middle of the night, leaving behind unpaid rent and an abused property. The investor has the security deposit, but the costs to get the property ready for another tenant usually exceed that amount substantially.
“How could someone treat another person’s property this way?” they’re left wondering.
When I proceed to ask them when the last time they did a property inspection was, they lower their eyes. Don’t get me wrong, I’m not suggesting that it’s somehow the investor’s fault that this situation happened. But it is the investor’s responsibility to check on their asset periodically. As much as we want a hands-off investment, this is one of those steps you just can’t skip. Excluding any vindictive vandalism, most damage to the property is progressive, and you can put a stop to it if you catch it early enough.
A few critical points about periodical inspections:
- The lease agreement typically gives the owner the authority to perform inspections within reasonable hours and with reasonable notice.
- On the other hand, don’t overdo it. Semiannually or quarterly is a good frequency. Any more than that, and your tenants can feel like you’re breathing down their necks.
- Make a checklist (flooring, painting, cleaning, landscaping, maintenance) and go through it each time you inspect the property.
- Train your vendors to give you an idea about the condition of the property based on what they see when they do repairs.
- Restate how you expect tenants to keep the property in friendly but firm terms in a follow-up call or email.
- If you just don’t want to do them or simply dread confrontation, you can hire a local service to do them for you for a fee.
Stage #4: Renew the Lease
One of the most dependable ways to boost your investment returns is to keep great tenants by securing lease renewals. If you can get your great tenants to stay, you experience no vacancy and eliminate the need for make ready, which allows all amounts set aside for those two occurrences to flow down to your bottom line and become cash flow before taxes.
Here’s a systematic approach to lease renewals:
- Start the discussion 60-90 days before lease expiration (depending on the required move-out notice on the lease agreement).
- Ask your real estate agent for a list of comparable rentals that have leased in the last 6 months to document the market rent for your property.
- Send a lease renewal email (template) to the tenants. In this email, attach the comparable rentals report generated above, emphasize the benefits of staying in the property, propose a 12-month extension at a preferred rate or a month-to-month extension at a higher rate. Last but not least, let them know that you will be calling them to discuss it over the phone.
- If you want to inform, send an email. If you want to influence, call or visit in person. No one likes to be told that their rent will be raised. It inevitably leads to the feeling that the owner is being greedy and simply wants more money for the same property. Therefore, the owner should explain the reasons for the increase:
- Market rents have risen.
- Property taxes and insurance have risen.
- If the tenant moved to a different property, they’d pay higher rent and would need to MOVE (no one likes to move).
Stage #5: Procure New Tenants
Despite your best efforts to secure a renewal, sometimes tenants decide to move out. Often it is due to factors outside of your control or ability to influence. For instance, the tenants may have decided to purchase a home and will not need to lease any longer. Or they might be moving back to a different city or state. Nothing you can say or offer will change those decisions.
Therefore, your focus must now turn to securing a new tenant while minimizing vacancy. In order to achieve that goal, you must enlist the cooperation of your current tenant. Legally, the lease agreement gives you the right to put a lockbox on the property during the last 30 or 60 days of the lease and show the property to prospective tenants. However, if your current tenant does not cooperate, all those efforts may be futile. For instance, if the place is a mess when you show the property, it doesn’t help your cause. Therefore, you should send an email (templated) to the current tenant(s) that:
- Covers their responsibilities under the lease agreement
- Sets expectations for access and facilitation of showings
- Seeks their cooperation in this process
Your leverage with the current tenant is minimal at the end of the lease, except for the fact that you hold their security deposit and they want it back as soon as possible. So, one way to enlist their cooperation is the good old quid pro quo. If they help you by keeping the place show ready and allow access to the property as much as possible, you will expedite their deposit refund upon move-out.
Stage 6: Old Tenant move-out
The ink has just dried on the new lease, and your new tenants are about to take possession in a few weeks. Before that happens, you have to take care of one more loose end. It’s time to close the chapter with the old tenant. At this stage:
- Document the property condition again.
- Take photos.
- Walk through the home with the tenant. One important point here is to just focus on documenting the condition of the property. Don’t get into a discussion about what should be deducted and what shouldn’t. Let the tenant know that the decisions on deductions will be made at a later point when you compare the current condition to the inventory and condition report from the time they moved in.
- Send our deposit refund letter (and check if applicable). Also send it via email (templated).
Throughout these 6 stages, it is critical for you to build and maintain a network of quality vendors:
- HVAC Specialist
- Cleaning and Carpet Cleaning Professional
- Make Ready Helpers
- Attorney (for Evictions and Legal Action)
- Tenant Procurement and Screening Assistants
Always be on the lookout for professional vendors who do a great job at a fair price. Even if you have a go-to vendor for that type of repair, I would recommend that you keep a “deep bench.”
Now we’ve come full circle, and you can decide if you want to manage yourself or hire professional management. But whatever you decide, take action today and ensure that your management system is foolproof regardless of who’s doing it.
Do you manage your own rentals? Why or why not? Any tips you’d add to this article?
Let me know with a comment!