So You Want to be a Landlord? Part I
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Marcin Wichary With dropping home prices, a long term investment in real estate is looking pretty attractive. Whether you want to buy rental property outright, or renting is your plan B when your house doesn't sell, the most important thing you need to think about before you become a landlord or landlady is risk. The concept of risk in renting property tends to draw blank stares. After all, you have insurance on the property. You have a lease. What's the problem?
Understanding the answer to that requires a shift in your thinking. Most of us are renters at some point in our lives, whether in college, or while we are working that first job, saving up for a down payment, or in a transitional period in life. When you are renting, it seems like the landlord has all of the power. He chooses the the paint color on the inside of the house, what trees or shrubs you have in your yard, when your lawn gets mowed or your driveway cleared of snow. When your toilet breaks or your roof leaks, a repairman shows up, paid for by your landlord. When your rent is late, even a teeny tiny bit, that landlord is on your butt like white on rice. And when your lease is up for renewal, the rent goes up as inexorably as the rising sun.
And yet, when you trade places, and suddenly you are the landlord, as in a horror movie, you realize the tenant has all of the power. The tenant physically occupies your property. They can damage the structure or the appliances. Their pets pee on the carpet and chew up the woodwork. If they sell drugs, the police could literally seize your property. And the tenant controls that ultimate item of power, the rent check, which you desperately need--on time--in order to pay the mortgage each month. In fact, unless you are very lucky, the rent check probably won't cover the mortgage. Worst of all, if your tenant suddenly turns deadbeat, it can take months to evict them from the house, and all the while that mortgage payment has to be made, on time, every month, or you could lose the house to foreclosure. A myriad of laws and advocacy organizations protect the rights of the tenant, but as a landlord or landlady, you are always the bad guy, and if things get ugly, you will be pretty much on your own.
Are you scared yet? You should be. If you decide to go ahead and become a landlord or landlady for the first time, here are some tips for controlling that risk.
1. Screen your tenants. You will be tempted to rent to the first non-scary person or couple that puts in an application, but be choosy. Make sure that you do a credit check and check references on your prospective tenant. If those thing don't check out, don't rent to them! This is no time to be "nice." Don't rent to the person who deserves the house. Rent to the person who can pay for it. Find out what their income is and do the math.
2. Don't rent to section eight tenants. This is not a rule for life, just for your first experience as a landlord. When you have dozens of units, and enough cash reserves to carry you through some unexpected vacancies, then you have my blessing to take on section eight tenants. In fact, please do. But your first time out, you should turn down section eight applications.
3. Get help from a lawyer. Spend a few bucks to get your lease written up by a well-qualified attorney.
4. Avoid situations that seem strange or "funny" to you. Use your spidey sense to weed out applications that seem weird, strange, off, or otherwise not right.
5. Obey the fair housing laws. You are not allowed to discriminate on the basis of race, color, national origin, religion, sex, familial status or handicap. Obey this law scrupulously to reduce your legal risk.
6. Have proper insurance. Don't skimp on insurance for this very valuable asset.
7. Rent to people with pets. Although pets can do a lot of damage to the house, that effect is balanced by the fact that pet owners tend toward "family" values. If you have a Mom, a Dad, a kid, and a dog, you're probably going to get a rent check every month. As a bonus, your pool of applicants will be larger, because most landlords don't allow pets. Think of it this way. Would you rather replace a carpet for $500, or evict someone who was growing pot in the basement? If you've got an applicant with good references, good credit, a steady job, a family, and a pet, take it as a good sign. Obviously, it goes without saying that you should not rent to shady-looking people just because they have pets.
8. Maintain good relations with your tenants. Respect their space. Respond promptly to maintenance calls. Be understanding of the occasional rent check that arrives late. Don't sweat the small stuff, because a bad tenant is so much worse than you can possibly imagine. Remember that they are more afraid of you than you are of them.
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A lot of people advocate becoming a landlord, both in general, and to me in particular. (I can't count the number of people who have suggested that I buy a duplex and rent out half of it.) But I realized early--before making that terrible mistake--that I do not have the right nature to be a landlord, pretty much for just the reasons that you spell out here.
I'm with you on pets--accepting them expands your pool of tenants, and having pets (at least, healthy, happy ones) may well be an indicator of good character. Besides that, around here places treat them as profit centers. My apartment charges an extra "pet depost," against damage caused by the pet, part of which is a non-refundable cleaning fee for when you move out. It seemed fair to me. The last time we looked to move, though, lots of places charged a "pet rent," adding an extra $10 or $15 a month for people with pets. I'd hate to think of paying that year after year--unless I was a landlord.
For a year lease, I rather pay a $10-15 a month pet fee than pay a $300 non refundable deposit (seems contradictory to call it that, it's really a fee).
I guess this is just part I and you didn't discuss the financial risks yet. When your rental property isn't occupied for a couple months out of the year you could lose money. Here in the Bay Area the cap rate is only 4% so it is easier to just buy a treasury bond than to deal with a rental property.
Buying any real estate as the bubble bursts is a dangerous; akin to catching falling knives out of the drawer. Prices are dropping fast but seem as though they have far to go.
Pay attention to the GRM (Gross Rent Multiplier). If you don't know what that is or how it's calculated, you have no business even considering buying real estate.
As someone who "inherited" tenants, my advice is to NEVER bend on due dates, rules, or other things to be the "nice guy." I had tenants that ran all over the landlord previously, and I granted a firmly stated "One Time ONLY" courtesy, and that inch I gave turned into them trying to take a mile. In the end, they were unable to pay their rent because someone did not follow the advice above, and they were evicted. Come to find out, they borrowed money to pay part of their rent in the last couple months from the previous landlord, and they ended up stiffing him for a couple grand.
It doesn't pay to be nice, when it comes to your money, reputation, and credit rating.
Thanks for writing about this topic, Catherine. I know enough (so far) about rental property that I knew I didn't want to be a landlord. Nevertheless, it might be something I will do later as I have a family member who has a couple of high-end properties (one is a vacation home) that she rents and so I have been thinking about it more. I look forward to Part 2!
Xin--yes, you're right about financial risks and vacancies. I had in mind a future post about our big landlording disaster, as sort of an object lesson in how bad things can get. There is definitely more to say on that subject.
Brett--I have to say I disagree with a give-em-an-inch-they'll-take-a-mile style of landlording in general. I found that if you picked your tenants well, you can be "nice" as long as they are "nice." However, you didn't get a chance to screen your tenants, so you had to deal with what you ended up with.
Kelja--you can't time the real estate market. No one knows whether prices will go up or down, especially in the short term. That's why I specified real estate as a long term investment. There are a lot of bargain-priced houses out there right now, and a lot of people who have been foreclosed, but still need housing. If I had more cash to play with, and if my husband were more interested, I would be looking at real estate investment right now. And a lot of people are stuck with property they would rather not sell at a loss, but want or need to move. Renting is a realistic option for them, and I have some positive things to say about it in the future.
Catherine Shaffer
Wise Bread Contributor
On my blog, I mention two related points:
1. Right now is a historic time to buy real-estate: BOTH property prices AND finance rates are cheap ... I say, buy as much as you can and lock in the rates for as long as you can, BUT
2. Keep the 20% rule in mind (have no more than 20% of your own Net Worth locked up in the equity in your own home. Have extra? Great, use that to buy more rental real estate.
BTW: there are other forms of rental real estate than houses and condo's: retail office, industrial and other small commercial.
Whatever you do ... buy and HOLD FOREVER (if you can) and eventually retire on the income. It's what the Rich have done for thousands of years.
Great Post. I would like to invest in rental properties one day. Right now I'm trying to learn as much as possible. Can you recommend any good books or websites?
Good post. I have one thought, though. You say the that new landlords should avoid Section 8, but you never explain why. If someone invests in lower income properties, I think section 8 is a great idea, no matter if someone is a novice or expert investor. Because the tenants are tied to the program and want to stay in the program, they typically do what is needed to be a tenant in good standing. I've experienced lower eviction rates from Section 8 tenants in low income properties
Just a thought . . .
Maybe you can tell us a bit more about your reasoning?
I am going to have to agree with Joshua on this one because when you look at your list # 2 & # % contradict themselves, when you start turning down people on section 8 just because they are on section 8 you will have a lifetime of legal battles (civil rights claims) to be exact and fairhousing claims than carter has pills because this "IS" discrimination. Check your laws and you will find that what I am stating here is true. So you might want to think about removing that #2 or replacing it with a better option.
How about this, so you want to be a tenant :) I always bring my mom with me when I go look at places. She always feels better knowing that I am living in a sensible place, and the landlords really seem to like meeting her. I think having my mom there was what made my current landlord so keen to have me, and when my landlord bought a new house, she was so anxious to keep trustworthy ol' me as a tenant (she wanted a really reliable person as the new house is quite nice) that she threw in all sorts of freebies like free laundry, cable, internet and garage storage. I save so much money living with her, and she is happy that she does not have to worry about hooligans who will trash her swanky new house. When the tenant's mother is inspecting the premises to find out whether YOU are good enough landlord for HER, you know you have a tenant who won't be a problem :)
I don't have direct experience with section 8, so I respect your perspective on it. There are some good things about it. However, our lawyer recommended against it on the basis that section 8 tenants are riskier in general than employed, middle class tenants. This is probably true of low-income housing in general, however, so if you know you are going to be involved in renting low income housing, then section 8 will not have added risk. The goal is to avoid evictions and vacancies, so your best bet is gainfully employed, self-supporting tenants. I'm trying to steer new landlords and landladies to the safest option, but there are definitely other alternatives.
Because it's so difficult to find section 8 housing, anyone who is renting an "affordable" home will get section 8 applications, but the vouchers don't cover the full rent on a home in a typical middle-class neighborhood (which is the type of property I had in mind).
Catherine Shaffer
Wise Bread Contributor
*I don't know why these posts on not renting to Section 8 tenants has my blood boiling so...it just does...
*I was on the Section 8 program for 6 years. When I started out I was a college freshman with 2 kids and a paltry loan check. A guidance counselor referred me to the program, and I try to remember her in my prayers every night. I think about her so often because she gave me and my kids the gift of stable housing.
*When I began to look for housing on the program, I ran into many landlords like yourselves who were unwilling to rent to me SOLELY because I was on the program. After $200 odd dollars in various wasted application fees, I finally found a nice gentleman who agreed to rent to my family after a visit to the place we were living in (I guess he wanted to check on my housekeeping skills!).
*Anyway, long story short, I lived in the little apartment for 3 years while I finished college. I moved once I graduated but I was still a program participant. After 6 years on the program I had accumulated enough money (Section 8 has escrow accounts for tenants to put a down payment towards a home- little known, but valuable info!)to put a down payment on a house!
*That was 10 years ago. The little house I purchased is now a rental unit that I rent to Section 8 tenants only. A very nice house, mind you, that has not sufferred any damage beyond normal wear and tear.
*The moral? Sure, some tenants are irresponsible people, but you're going to find those folks in the affluent population too, not just low income. Use your own discretion to decide- dont just deny a family because they are on Section 8.
*And another thing- Section 8 tenants MUST pay their rent to be compliant with the program. I have never had a case of late/missed rent what-so-ever. I think a common misconception is that Section 8 Tenants are shiftless people who rely on the Governement for rent, but most of the folks are "working poor"; I was there once myself and its a hard time thats only aggravated when folks judge you because of it.
The apartment complex I live in has a very cosmopolitan feel to it. We've got lots of grad students (which around here means lots of foreign students), seniors, young singles, young couples, young familes, working class folks, affluent folks, etc. It's a good mix and I really like the community.
However, a non-trivial fraction of the people who live here lack basic life skills.
I first realized that when they gave us our move-in packet, which included a bunch of sheets of instructions, telling us not to do really appalling things that we would never consider: don't flush aerosol cans down the toilet; don't run kitty litter through the disposall; don't turn the heat down so low the pipes freeze.... There was quite a list. If I hadn't been so amused, I might have felt insulted. But, the fact was, people who lived here had done every one of those things before it went on the list.
All that is preable to this: The opinion among landlords is that section-8 tenants are particularly likely to suffer from this sort of deficit in life skills. I don't know if that's true--obviously plenty of people using section-8 vouchers have average-or-higher life skills--but that's the perception, and it's the reason that they recommend against new landlords renting to them at the outset.
I have to agree with Section 8 Tenant.
As a long time (over 10 years) landlord, I've seen my fair share of Section 8 tenants. Some were good and some.....
Anyway, I've had two Section 8 tenants that rented from me in my primary residence (duplex) that were great and went on to purchase their own homes. One of them I actually wrote a letter for the bank verifying that she had paid me on time for 2.5 years and that she would be an excellent credit risk. These two tenants were great.
On the other hand, I did have one tenant (once again in my primary residence) that rented from me that sucked the system for all it was worth. She paid me on time every month, but refused to work and did not treat my property as I had hoped she would. She actually had the nerve to tell me one time - as she approached the end point of her Masters Degree - that she used the system for all it was worth and had no regrets about it. Finally, the housing authority told her to "get motivated" and "get a job" which she finally did. She then moved out and into an apartment with her long time boyfriend.
I've also had multiple Section 8 tenants in my other buildings and some were perfect occupants and others were a huge headache. I think my worst Section 8 tenant was a young lady that abandoned the apartment, didn't pay her utility bills, subsequently had her electric shut off and left fresh fish in the fridge. By the time I had legal access to enter the apartment, I thought that I was going to die from the smell and the bugs.
I guess what I am trying to say is that you should treat a tenant with a voucher/assistance no differently than you would any other potential tenant. Prequal them like you would any other tenant. Check their references, sources of income, etc. and go from there. Some will be great tenants, some will turn out bad....just like any other tenant you put in one of your units.
**To not rent to a person or family because they rely on help from section 8 does not only show your ignorance; but you are truly making these regular peoples lives so much harder than they have to be.**
**How would you like to be turned down for a home just because a portion of your rent gets paid from somewhere else, it still gets paid**
My mom raised my brother and I with the help of section 8. Without it we would have been homeless, not because we are scum or bad people, but because it's just that hard for a disabled single mom to raise two children on her own. She is the best tenant I have ever known, her house is always spotless, and when she has moved out of a property it always looks better than when she moved in. Whether it's from her repainting or adding beautiful gardens to the property. (I know very wealthy people now, who's houses are pig sty's.) Nobody would ever know my family is on section 8 unless you told them. Just because we are the working poor, doesn't mean we want to live or look like it. Now that I am older and moved out of my mom's house, it amazes me what people say about section 8 tenants. People talk about section 8 tenants as if they are lesser beings, it honestly makes me sick.
PLEASE!! CONSIDER RENTING TO SECTION 8 TENANTS, JUST SCREEN THEM LIKE YOU WOULD ANYBODY ELSE.
Common sense people... if it looks like a duck, it probably is. You can tell good tenants from bad, get to know the person before you let them live on your property.
In my state, if the rental property is also your primary residence, you are allowed to turn down someone for instance a section 8 applicant.
If your property is solely income property and you(as the landlord) don't live there then yes that is discrimination.
You have to know the laws on rental properties or you can get yourself into trouble quickly.
I'm not interested in becoming a rental property tycoon, but we do own 1 rental home. We moved into another more rural home on several acres, and plan to subdivide when we retire. We are now saving furiously for duplex. The rental home is my 1st home that I occupied for 11 years, and I am actually cash flow positive on it in spite of the housing situation and drop in rents.
I am not comfortable having all of my money in paper or Govt assets. I like to have some income generating/tangible assets as well. RE is not for everyone, it can be expensive and scary. But if you will take a friendly, but firm hand with your tenants, be proactive, do regular maintenance walk throughs (for the renters sake, nobody wants to live in a place that's falling apart) and do your homework & credit checks prior to renting, I have found that things generally go very smoothly. Keeping a healthy amount of cash in the bank is crucial to dealing with unforeseen tenant/legal issues.
Of course a renter is not going to take care of the home as if it were their own. This is investing, you must work to distance yourself emotionally from the home. That can be hard to do when you once lived there and love the house, but it's best for your sanity!
good piece. where is part two??
Thank you for this article I have been looking thinking about working with property auctioneers to get a building to become a landlord and begin renting for some extra cash and resources. I feel that this is some very useful information to keep in mind and I am going to bookmark this page for later!
Legalize weed and you won't have to worry about anyone taking your home because your tenant has, what basically is a garden, in the basement. Wake up people.