One of the biggest mistakes we continually see real estate investors make is buying a rental property that produces a NEGATIVE monthly cash flow. When it comes to rental properties, positive cash flow is much more important than equity!
Here’s a typical example: An investor buys a single-family rental for $90,000. The property will rent for $725 per month and have mortgage payments of $485. The investor thinks: Wow, the property will produce a positive monthly cash flow of $240 – boy will I be sitting pretty.
But what about little expenses such as property taxes, insurance, repairs, vacancies, and management? When you factor these costs into the equation you suddenly find yourself knee deep in a pit of money-losing quicksand.
Always remember that investors make their profit – including positive cash flow – when BUYING the property. For a deal to be profitable, it’s critical that you know all the numbers and structure it accordingly.
Experience has taught us that expenses (property taxes, insurance, repairs, vacancies and management) often – but not always – run between 30% and 40% of rents. Here’s the formula we use to determine the most we can pay in mortgage payments: Rent – Our Profit – 35% of Rent = Maximum Mortgage Payment. ($725 – $250 – $254 = $221 Maximum Mortgage Payment)
Another common mistake made by landlords is using rent increases as the sole way of increasing cash flow. Upping a tenant’s rent – especially above market rates – is a sure way to end up with a vacancy – and vacancies can be VERY expensive!
At our July real estate investors meeting, we discussed different ways landlords can increase cash flow without increasing rents. Knowing that most of the folks reading this column weren’t able to attend our July meeting, here are two of the strategies we covered. Be sure to get together with other investors and discuss these strategies!
We are pet friendly. I know what you’re thinking: Pet smells, stains, hair, damage and poop. Rest easy because pet owners are NOT created equal. Some folks take GREAT care of their pets, while others do not.
So how do you tell the difference between the two? The most critical thing we do before choosing a tenant is to conduct a surprise in-home inspection of their current residence. Whatever their current home looks (and smells) like inside and out is EXACTLY how they’ll have our home looking (and smelling) one week after they move in. If they have fleas in their current home, know that those fleas will be coming to your home. If their home smells like a kennel, so will yours a few days after the new tenants move in.
And here’s how we make money with pets: We don’t charge a one-time pet deposit. Instead, our tenants pay $20 per pet per month. That’s right, at our properties pets pay rent!
Another way to increase cash flow without increasing rents is to regularly inspect your rentals – both inside and out…especially the first three months a tenant is in the property. Most tenants have to be taught how to be good tenants. And just who taught them to be bad tenants? It was bad landlords, of course.
During the inspection, if we find property damage, the tenant is given seven days to repair the damage. If they don’t, we do the repair, and then charge the tenant accordingly…plus we include a service fee for our trouble. Our goal is to teach folks the importance of taking care of our property. After all, the bedroom wall is not a drawing board, the bedroom door is not a punching bag, and our carpets are not a bib!
Hope these ideas lead to great landlording discussions.