Purchasing a rental property is, in many cases, an excellent investment.  It provides steady income while you’re renting, you have the opportunity to expand your business, and you can always fall back on owning or selling the property if you fail to rent it.  However, if you are looking to make property management your first foray into the world of real estate, be advised that it is difficult, time-consuming, and incredibly demanding of the property manager or owner.  Your job can basically be divided into two broad categories: the logistics and finances of your business (the nuts and bolts), and your daily interactions with tenants.  In this article, we will focus on the portion of property management which pertains to tenant relations.

Your first interaction with tenants as a property manager will come in the form of marketing.  This is how you attract and acquire new business, and it is an integral part of your success as a landlord.  Many inexperienced property owners searching for tenants wonder why their properties remain vacant for months, despite the blatant “For Rent” sign on the lawn or door.  But in a real estate world where professionals are champing at the competitive bit to make a profit, and potential tenants’ efforts are facilitated by the convenience, ease, and comprehensiveness of the internet, property managers cannot afford to be so passive in their marketing efforts.  Your job is to reach tenants any way you can and tell them about your property for rent.  That means posting on internet sites like ForRentByOwner.com and even craigslist, purchasing email lists, etc.  Get creative, and get your information out there to the tenants.  In today’s world, if a tenant has to come to you to hear about the property, it’s simply not going to get done.

Once you’ve attracted some potential tenants for tours and interviews, the best way to deal with tenant-related issues (which, between failure to pay rent and having to be evicted, can be enough to drive a property manager out of business), is to avoid them altogether.  While this is impossible to do with certainty, you can minimize your future stress by carefully and conscientiously screening your prospective tenants.  Many new owners make the mistake of letting anyone walk into their property, as long as they can come up with the first month’s rent and security deposit—and this is certainly understandable, since every day their property remains unoccupied, they lose money.  However, it is essential to take the time and pay the fee for credit and criminal reports, as well as a bank statement or income verification.  If you take on a tenant who cannot continue to afford the rental payment, the cost of discovering and dealing with this (in terms of time, money, and energy), will be far greater than the cost of the research done upfront.

The key to successful property management is establishing and maintaining a friendly, helpful, and honest relationship with tenants.  You will be amazed at how many problems can be eliminated by simply being amicable and helpful when your tenant calls on you (even if that happens all the time—it’s your job).  When you find yourself in a good relationship like this, the trick to success is to keep that tenant.  This may mean giving even more time, or even reducing the price of rent to reward their long-term occupancy, but avoiding another period of vacancy and another process of acquiring and screening new tenants will make this price reduction well worthwhile.  Your business depends on tenants, so don’t take the good ones for granted!

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Most people assume that when someone fails as a real estate investor, it is because they couldn’t do enough deals to keep their business afloat.  Often, it is exactly the contrary.  Many amateur or unwise investors simply don’t know how to turn deals down.  They end up buying everything they can get their hands on, regardless of its merit as a profit-generating investment, and they wind up drowning in debt and unfulfilled responsibilities.  This, obviously, can be crippling, and is a primary force driving bad investors out of the business.

For those of us left behind—or at the very least those of us clinging for our lives to stay in the game—it is of critical importance that we learn how to pass on the offers that will ultimately hurt our businesses.  Here are some tips to keep in mind.

The first and most important thing to remember is to keep the bottom line in mind.  Although this sounds cold, calculating, and perhaps inhuman, it is the best way to earn a reliable income.  Keeping the bottom line in mind involves the coincidence of two behavioral tendencies: thorough research and emotional detachment.

Thorough research means knowing a property inside and out (quite literally) before buying it.  It means knowing exactly where the value is, exactly what is going to cost money down the line, any hidden expenses, taxes, maintenance, etc.  If it is your first time buying a home (or anything less than your tenth!) you will need the assistance of an expert in figuring out exactly what the property costs—beyond what’s written on the contract.  Once you do your research, you can draw up your own set of numbers which can serve as a tool of comparison during the negotiating process with the seller (it will also demonstrate that you know your stuff, and are not to be taken advantage of!).

Emotional detachment is often a function of experience in the field of real estate, but that doesn’t mean it’s not something you can be aware of and aspire towards in the early stages of your career as an investor.  This is the notion that you cannot simply go around buying all of the properties that you like (you might be amazed at how many investors do this—you probably wouldn’t be shocked to hear how few of them are successful though).  It is important to love what you do—that is the only way to be sure you will do a good job.  That being said, after a few forays into home-ownership, it becomes apparent that when you tour a home for sale, you are evaluating nothing more than the home’s location, structural integrity, and price.  That is to say, everything else (all of the cosmetics and amenities), can be applied in whatever manner the buyer sees fit.  In other words, make sure that if you fall in love with the home, you are not simply falling in love with what the previous owners have done to it (you can decorate any property any way you want).

Keep the bottom line in mind, don’t become overly attached to any properties you tour, and learn to say no by default.  Saying, “No” should become such a habit that when you find the right property to buy, you should have to literally convince and remind and drag yourself to finally say the word “Yes”.  This will prevent deal saturation and overextension of your resources.

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Many inexperienced real estate buyers (and customers in any industry, for that matter) make the mistake of assuming that if they pay someone to do a service for them, that person will be looking out for the customer’s interests.  Clearly, not everyone is a die-hard altruist, and the vast majority of real estate professionals and agents are primarily interested in padding their own bank account as much as possible.  Is it illegal? Certainly no.  Is it unethical?  Well, maybe.  But that’s capitalism, and if you want to jump into an industry where profits are made and lost based simply on who pushes hardest for what, then you had better be prepared to look out for your own interests.

That doesn’t mean you have to go through this process alone, and in fact if you are a relatively inexperienced buyer, then you absolutely need the assistance of a licensed and experienced professional.  The most common critical error made by buyers is to hire the same agent that the seller is using (this seems like it might be a huge coincidence, but in fact in most cases it is just a matter of a buyer’s calling the agent who’s number appears on the property listing).  This is a huge mistake.  The seller’s agents has a fiduciary responsibility to the seller—which means his number one goal is to protect the interests of the seller and get as much money for the home as possible (clearly in conflict with your own interests).

The Federal Trade Commission did a study in 1983 revealing that many buyers (73% of whom felt their interests were being well preserved by their agent) were actually using sellers’ agents, and getting fleeced on prices.  Within a few years, most states began to impose Agency Disclosures, which require an agent to disclose for whom he is principally working—but only when asked directly.  No mater what, always take the time to ask whether or not your agent is working for the seller (it may only cost you 5 seconds, but it could save you thousands).  Never call the agent on the property listing—there is no shortage of other qualified agents out there, why subject yourself to one working for the seller?

The quality of your relationship with your agent may ultimately determine how hard he works for you.  That means the healthier the relationship, the more money you walk away with.  Preserving your interests when buying is a function of selecting the agent that’s right for you.  Don’t skimp—interview at least five agents, preferably all from different companies.  Take the time to ask all the questions, and really get a sense of your interactions with the agent.  Intuition can be an invaluable tool when it comes to evaluating future business relationships, so don’t hire an agent until you get the sense that they are going to work diligently on your behalf.  It is important to have a trustworthy and reliable guide to help you through your first purchase.

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The only constants are death and taxes, right?  Not so.  As it turns out, its not altogether impossible to defer taxes on profits earned from the sale of real estate.  For simple homeowners, this pathway is highly unlikely to be utilized.  But for investors who have the foresight and insight to prepare to meet the requirements of the 1031 when arranging deals, this can be an incredible pathway to saving (that is, earning) thousands of dollars on every transaction.  Here are the three fundamental requirements which must be met in order to take advantage of a 1031 exchange for tax deferral.

The first step to saving money when selling a home is finding a replacement home.  The 1031 requires sellers to identify one or more properties that (when combined, if multiple properties) have an equal or greater fair market value than the home being sold (called the relinquished home).  The tax deferral is based on the principle that the seller is not selling to walk away with cash in their pockets, but rather because they intend to move into a new home.

Therefore, when the relinquished home is sold, the 1031 requires that all profits from the sale of the original home be placed into the purchase of the property or properties identified to equal or exceed the value of the home being sold.  This sounds like a catch, but for an investor it is merely an excuse to be ahead of the game—to have your next deal ready to go before the first one has ended.  As in most cases of government tax leniency, you are being rewarded for continuing to pump your money into the economy (as opposed to stuffing it in your mattress).

Finally, the 1031 exchange requires the buyer to accumulate debt on the new home or homes that equals or exceeds the debt on the original home.  This can be disconcerting for many seller/buyers looking to take advantage of the 1031, who are looking to break away from an old situation and start fresh with a new one.  Alternatively, cash can be applied to offset the required accumulation of debt.

Although the 1031 is a reliable way to retain money that would otherwise go to the government, it is fairly rigid and affords its user little room to navigate.  There are alternate, less conventional routes of accomplishing virtually the same task, such as the built-to-suit exchange (which is essentially the same as a 1031, except profits can be applied to both the purchase and repair of a property, as opposed to just the purchase).

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The advent of myriad digital real estate resources and tools made available to buyers through the internet have removed some of the leverage from the hands of real estate professionals.  Now, buyers (and sellers alike) are much more inclined to circumvent professionals and be as involved as possible at every stage of the process in an effort to save the money otherwise spent on services.  The question arises, then, “How many costs can I safely cut as a buyer, without subjecting myself to real risk or overextension?”.  This, to be sure, will be determined by the interaction of many factors, including your level of experience, the kind of deals you are interested in, and of course your budget.  One corner that should not under any circumstances be cut is the professional home inspection, regardless of your level of experience or engagement in the process.

The cost of a professional home inspection is negligible at most when compared against the potential fortune it could save you in terms future repairs, overpaying, or simply making a bad investment.  The inspection, if carried out with integrity, will afford the buyer three major advantages: 1) negotiating leverage, 2) an opportunity to repair before purchase, and 3) the information required to walk away.

If an inspection results in any deficiencies or requirements of repair—and the buyer is well informed of these—then that buyer can cite the inspection as justification for a lower sale price.  This is one of the only negotiating tools at your disposal that comes with hard evidence in support, and it should not be let go to waste.

Further, the buyer could agree to purchase the home on the condition that the seller make all inspected repairs before the date of purchase (this is effectively presented as an alternative to reducing the sale price—you may pay more, but the seller will foot the bill and effort of getting the home up to code).  This can be done simply with an Amendment to Offer.

Finally, if the inspection reveals deficiencies or hazards great enough, the buyer is now informed enough to walk away from a bad deal.  As a conscientious real estate investor, your default mode should always be to say “No”.  It should take a great deal of convincing to get you to agree to a deal (too many investors are so eager that they buy up every bad deal that they come across).  Unless you are purchasing a rehab home (or really trying to pinch pennies), you should only go through with a deal that has a clean bill of health from the inspector.  You can choose to save money at almost every stage of the purchase process by being proactively involved, but the home inspection provides information too valuable to skimp on.  Pay the price now, and you won’t be paying the real price later.

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1. Cash Flow – Investing in multi-unit properties is, hands-down, the best way to generate sustained monthly cash flow as an investor.  Nearly any other type of ownership requires losing money during the period of ownership and until the date of sale, but property management will generate as much monthly income as you determine (based on the size of your investment and the extent of your efforts to keep units occupied).
2. Economies of Scale – The logistical difference between investing in 5 single-family homes for rent, and a single 5-unit building for rent, is the difference between constantly repairing and maintaining 5 properties, and constantly maintaining and repairing 1 property.  It stands to reason that if 5 different families pool together to only use one roof, one lawn, etc., then it will be much easier to manage those 5 families (for practically the same income as managing 5 separate properties).
3. Less Competition – For whatever reason, competition for investing in single-family homes is and has always been very high.  Despite its opportunities for major active and passive income, multi-unit investing does not attract the same kind of mass appeal that single homes do.  This may be due to the shear number of amateur investors out there, who think a multi-unit investment is too major for start-up.  It may simply be because property management is not always a glamorous gig.  Whatever the cause, multi-unit investors enjoy more leverage in selecting and negotiating deals, due to a relative absence of competition.
4. Hiring Management – With bigger multi-unit investments come bigger monthly cash flows, and a wider profit margin.  In many cases, this means owners hire management companies to deal with all repairs, maintenance, tenant-related issues, etc.  Now you’re really cooking!  No direct involvement, sustained monthly income, and freedom for leisure or expansion of your business!
5. Pay-Day – The final major advantage of multi-unit investments is that they appreciate more than single homes (not in terms of percentages, but dollar amounts, since they are generally more expensive than single-family homes).  This means that when it comes time to sell, you should make a hefty sum (and remember, you’ve hopefully been earning income during your entire period of ownership).  It’s a smart investment if managed carefully and worked diligently.

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Negotiating is probably the most difficult single aspect of any business model to master, simply because it requires the subjective prediction and interpretation of another person’s idiosyncratic tendencies. Unless you are psychic, understanding and anticipating what people are thinking can be an extremely tall order (especially for the inexperienced negotiator).  One of the most common modes of negotiating disaster is when one party allows itself to be bullied into an unfair contract.  This does not necessarily mean the opposing party is mean or nasty, it simply means they are exerting negotiating force where it does not belong (like a bully fighting in school).  Especially considering the poor state of our economy, people (sellers in particular, who have been backed into a financial corner by current market conditions) look to save every penny they can.  There is a whole class of sellers out there who wield the confidence, savvy, and fuzzy ethical boundaries required to bully a buyer, even in this recently-unprecedented buyer’s market.

The best way to protect yourself in any negotiation is to be prepared.  While you can’t necessarily prepare for your opponent’s strategies or behavioral tendencies, you can certainly be knowledgeable about the facts.  That means knowing exactly what the property in question is worth, in the current market.  Don’t let the seller tell you about how much he paid just five years ago, and about all the improvements he’s made since then.  The fact is, it’s a bad time to sell, and you—the buyer—hold the chips.  Don’t get fooled into paying more just because the seller had to pay more.  Whether you are an experienced investor or this is your first purchase, it is essential to hire a professional inspector and appraiser, in an effort to be as informed and prepared as possible going into your negotiations.  If the seller tries to high-ball you, you can site the deficiencies uncovered by the home inspection or the lower appraised value on the home (both official accounts and strong support).

If a seller is bullying you in this kind of market, it should be treated as nothing more than a bluff.  Stick to your guns and don’t overpay.  The seller is either a smart negotiator (and will reduce the price eventually, knowing that he holds very little leverage), or is incredibly stupid (and should be avoided on the fields of real estate battle in the first place).  Either way, in the current market there are far too many listed options available with motivated sellers, for buyers to be getting taken to the bank by bully sellers.

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Purchasing a rental property is, in many cases, an excellent investment.  It provides steady income while you’re renting, you have the opportunity to expand your business, and you can always fall back on owning or selling the property if you fail to rent it.  However, if you are looking to make property management your first foray into the world of real estate, be advised that it is difficult, time-consuming, and incredibly demanding of the property manager or owner.  Your job can basically be divided into two broad categories: the logistics and finances of your business (the nuts and bolts), and your daily interactions with tenants.  In this article, we will focus on the portion of property management that pertains to your business considerations.

The first important responsibilities of your career as a property manager are going to be selecting and purchasing the right property, and marketing that property effectively enough to attract prospective tenants.  However, the former of these considerations could be—and is—the subject of entire books, and so I will not address it here; the latter is a matter of tenant relations, and so I have addressed it in this article’s compliment (“Property Management: Selecting and Interacting with Tenants”).

Beyond these two first steps, you will be responsible for the creation of a contract.  If this is your first rental contract, make sure you do thorough research to get it right.  Contract issues are one of the top reasons real estate professionals fail, because if a problem arises, they have trouble referring to a faulty document as legal support.  Be sure that you are covered in all cases, and that there is no ambiguous language (everything should be in plain black and white). Have a lawyer assist you or approve your work.

The next major consideration will be setting rental rates.  This means finding that perfect balance—the market value—between setting the price too high (remaining vacant) and setting it too low (losing money).  Determining the rates means knowing exactly what your property offers, and how it compares to similar properties in the area. Condition, square footage, bedrooms, bathrooms, systems, appliances, yard, lot—these are a few of the myriad considerations that may add or detract value from your property.  Get out in the area and research what other properties are renting for.

Next, every property manager must be aware of all housing regulations and property laws (local, state, and federal) which govern what may and may not be done with and on a property.  This becomes extremely important if a regulation is unwittingly violated, often leading to crippling lawsuits brought against landlords.  Make sure you research and are aware of all the laws which are applicable to you and your property.

Inspections are an important feature of property management which many inexperienced landlords overlook.  These need to be done regularly and thoroughly, in an effort to nip in the bud any small problems before they become major systems malfunctions.  This is the difference between paying $50 for a simple house call, and paying $15,000 for a major replacement or repair.  It can seem expensive and irritating, but keep up with your inspections.

Finally—document, document, document!  Everything done by you or your business needs to be carefully and conscientiously recorded, in the event that any type of investigation (by you or the government) should require reference to payments or business affairs.  Beyond this careful and consistent documentation, be prepared to put on a smile and deal with tenants’ problems on a daily basis!

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I should start by confessing that this is a misleading title.  Just as nothing comes free, the concept of passive income doesn’t really exist in reality (but it sure is nice in theory!).  It is the notion that you don’t have to work to generate a sustained income.  In real estate, the most obvious form of passive income is for property managers or landlords, who an external observer might think simply sit back and wait for the monthly checks to come in the mail.  Obviously, those of us in the industry know that this is not the case.  Maintaining “passive income” requires continuous effort on your part—after all, if you are making money, that means someone is paying you, and no one is willing to pay for nothing.  The work of a landlord requires constant attention to tenants’ issues, failures to pay, legal and contractual work, maintenance, etc.

All that being said, property management is still the most reliable way to generate passive income, in that you can multiply your monthly income without making new investments.  If you are an investor who purchases single family homes, then you can probably generate a pretty substantial income by going out and doing 5 or 6 deals.  That’s great—hats off to you!  But those 5 or 6 deals probably required an enormous amount of time and effort on your part, not to mention the hundreds of bad deals you probably had to wiggle around in order to land on those few good ones.

On the other hand, what if you could focus all your time and energy on doing one big deal, and then getting a few smaller deals in order (it is infinitely easier to secure tenants than buyers) to generate 5 or 6 monthly checks delivered to your door.  This is the nature of multi-unit investments, and although they are not the most glamorous prizes in real estate investment, they are a great way to secure a substantial monthly income with room for expansion.

As I said, the reality of making money anywhere is that it requires work, and so this monthly income is of course not really passive income.  Unless you hire a property manager (which can be done relatively cheaply), you will be spending a great deal of time dealing with tenants, and it is essential that you maintain friendly, healthy, honest, and unfailingly polite relationships with them (that’s your income!).  Happy tenants become long-term tenants, and they become more likely to refer more business to you.  This means you can focus less time and energy on marketing, and have fewer tenant-related issues (because you retain the good ones).  This will allow you to pool your monthly income and put it toward expansion or simply enjoying the fruits of your labor.

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There is no catch-all evaluation of current real estate conditions.  That is to say, although we hear a lot these days about the “buyers’ market”, it is impossible to utilize one trend as a means of describing an entire national or international market characterized by complex idiosyncrasies.  Here is a list of factors which must be considered when attempting to gauge the climate of your market.

The first and most obvious of these parameters is pending home sales, which gives a since of just how much business is being done in a given market.  It is not as useful to look at the raw number of sales as it is to look at the changes and trends over the course of the past few years.  For example, although it’s a difficult time economically in this country, pending home sales nationally have increased by 17% over the course of the last year (indicating a rise in deals done and the start of a healthy comeback of the real estate industry).

In addition to pending sales, you will want to take into account how many of those sales are new vs. existing homes.  This gives a sense of what’s happening in the community—whether or not projects are under way, buildings are being built, communities being developed, etc.  Existing home sales are good, but new home sales mean your community is healthy enough to grow.

Inventory is a very important parameter, as it gives the investigator an idea of how many homes are listed for sale (which can be compared to the number of homes sold in the same time period for a sense of market efficacy).  A lot can be gleaned simply from studying how many and what types of homes are currently on the market.

The next big feature of the housing market to analyze is interest rates.  Although when taken alone, interest rates don’t provide a clear picture of what’s happening in the market, they do give a sense of the affordability of home ownership.  When mortgage rates are as low and attractive as they have become over the last few years, buyers have added incentive to pull homes from the overstocked inventory of the buyers’ market.

Finally, no analysis of the real estate market would be complete without including a consideration of the economy in general.  In the same area as your real estate market query, you’ll want to know the income level and unemployment rates, as well as any foreclosure statistics.  This will give you a good sense of the amount of disposable money available in these communities, and will provide insight into maximizing your opportunities to get a good deal.  Low-income combined with debt makes for a very dangerous cocktail, and although it can be a sign that the economy is suffering, such motivated sellers can provide great opportunities for savvy buyers.

Wherever you are looking to invest in real estate, do not be swept up by too many reports of national real estate trends.  The fact is, although many of the economic problems currently being faced by this country are ubiquitous, real estate success and failure is a local phenomenon.  Just because it’s a slow economy, doesn’t mean it’s not a great time to jump in!  And just because everyone is reporting that it’s a buyers’ market, doesn’t mean any deal you find is a good one!  Be careful and conscientious, and have an understanding of the statistics and trends pertaining specifically to your local real estate market before making any investment decisions.

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