Higher Rental Rates Could Be a Problem for Landlords?

It’s been a busy season for property management in Charlotte.  The market is hot, activity is high, and rental prices continue to escalate. 

 

So this sounds like good news in our arena!  Higher rents, bigger profits for landlords, and faster turn-around times to fill rental homes is the new normal.  Property managers are looking great!  Everyone is happy!

 

Well, maybe not everyone.  Tenants are seeing rents go up dramatically and they generally aren’t making much more money to offset the increase.  This is really making some of our traditional tenant screening criteria, like debt-to-available-credit and rent-to-income ratios, go off the charts of even marginal acceptability.  Truthfully (and this comes from screening a lot of applicants over the past few years), many of the applications didn’t have great ratios to begin with then.  But as rents have moved up, things have begun to look even worse.  Example:

 

Tenant makes $3,500/month.  Old rent was $900/month and the rent of the new house they want is $1,250.  Credit card debt is $8K out of $10K available.

 

For the rent to income ration:

$900/$3,500 = 26% (pretty good- we try to keep it around 25-33%)

$1,250/$3,500 = 36% (marginal)

 

But the real kicker is more of a common sense question.  If the prospective tenant isn’t living within their means with almost maxed-out credit cards with a $900/month rental rate, what happens when the rent goes up $350/month?

 

Some landlords might say, “So what?  I’ve got enough problems of my own.  Let them deal with it.”  But I’m reminded of a quote from the billionaire John Paul Getty:

 

"If you owe the bank $100, that's your problem. If you owe the bank $100 million, that's the bank's problem."

 

So if we slightly revise this for the Charlotte property management genre:

 

“If your tenant’s car breaks down, your tenant has a problem.  If your tenant is living paycheck-to-paycheck and has no cash reserves or available credit and his car breaks down and he can’t make rent, that’s the landlord’s problem.”

 

So what’s the answer?  Well, I actually have two for you, and you won’t like one of them.  In fact, I’ll put it second so you would read a little longer before abandoning this blog.

 

1. Screen a lot of tenants and don’t compromise your standards.  However, this is easier said than done.  When your rental home is sitting empty and you already have done 20 showings that generated 10 applications and you haven’t accepted any, you’re tired because it’s a lot of work.  And by the way, expect angry phone calls and e-mails because prospective tenants DO NOT like being turned down.

 

2. (Gulp) Price the rental house at the lower end of the market.  I know, I know- I’m hearing it already:

 

“But, Brett, that’s heresy!!  I’m here to make as much money as possible!  Do you understand how investments work?  I’ll give to charity on my own!  Top dollar or new property manager!”

 

That’s harsh.

 

We recently had a rental home where we ran through 7 relatively bad applications in a few weeks.  We were priced near the top of the rental rates in the area.  We lowered the rent $45.00 and received two great applications that were both easily approved.  Now they lovingly share the house together (kidding- we sadly had to turn one away).  Good tenants find good deals.

 

When I’m running comparables on rental properties, it seems like the large institutional investors always have filled their properties for the highest rental rate (by a good margin).  It’s seriously impressive and I almost feel like less of a man because I wouldn’t even attempt some of the rental rates they have asked for (and gotten!).

 

But, being that some of them are public companies, they had to release their occupancy and eviction rates to their investors.  They had a 25% eviction rate (1 out of every 4 tenants!).  That’s really high.  Evictions are expensive.  Their model works because they can spread these expenses over thousands of units at higher than market rents.  However, this wouldn’t work well economically (or emotionally) for the typical landlord who owns south of 5-10 units.  One eviction can really hurt.

 

Higher rental rates are limiting the “safer” tenant pool.  Screen wisely and (at least think about) keep the line at the rental rate.

 

Happy Landlording!