3 Reasons Your Rental Properties Are Not Earning Positive Monthly Cash Flow
Does this sound familiar? You buy your first rental property and you’re so excited! You have the spreadsheet of your expected cash flows laid out ahead of time and you know you’re making a sound financial decision. You just know this is the right property to help you build a passive income stream that will eventually help you retire earlier, or help you fund your kids’ college educations or maybe allow you to travel around with the world with your partner. You didn’t really spend a lot of time interviewing the property management company because you know there are a million out there and anyone can do the job. Fast forward two years later and the positive monthly cash flow and returns haven’t lived up to the original expectations. You dread getting calls from your property manager because they only deliver bad news. It’s like every time you pick up the phone you feel a few hundred dollars leaving your pocket. Your partner has forbidden you from even talking about the rental property. You want out. Early retirement? Probably not going to happen. How could it all have gone so wrong? Here are 3 reasons why your rental properties are not earning the positive monthly cash flow you expected.
#1-Your property management company is only signing ONE YEAR LEASES.
Anyone who owns rental properties will tell you that the key to a successful rental property portfolio is achieving long-term resident stays. The longer the resident stays in your home, the better chance you’re going to hit your return goals. A simple rule of thumb is that your resident needs to stay in your home at least 2 years in order to hit the expected returns. But, why do almost all property management companies only sign 1 year leases? Ultimately, it comes down to the fact that it’s harder to rent money with longer term leases and most property management companies don’t have the financial incentive to do it. Almost all property management companies charge a “tenant placement fee” when they put a new resident in your home. If you look at the financials of a stand-alone property management company, you will find that a large source of their income comes from tenant placement fees. They rely on that income. If they were to sign 2 year lease, that would mean that the would cut their tenant placement fee income in half. Most property management companies are paid like the stock broker who gets paid on the number of trades he makes for you; not on the returns he delivers for your stock portfolio. It’s your job to find a property manager who makes more money when you make more money.
#2-Your property management company is TERRIBLE AT RENEWING LEASES. For most property management companies, renewing leases is an after-thought. There are no systems or sales training that would increase the rate of renewing among residents. Again, much of this comes down to the way stand-along property management companies make money. Renewal fees earned are usually 25-50% of what tenant placement income would be for the property management team so the don’t have a big incentive to really care.
However, renewing residents is one of the best things that can happen for you as an investor. Every time a resident renews it means that you don’t have to spend money to fix up the house into great rental shape when the resident moves out. It means you don’t have a to pay a new tenant placement fee. That adds up to thousands of dollars of savings for you that goes straight to your bottom line.
#3-Your PROPERTY TURN COST eat up all of your positive monthly cash flow from the previous year. Nobody likes to talk about this but the reality is that you will come out of pocket to repair items when a resident vacates. Typically, the security deposit held from your resident will not cover all expenses. However, there are specific items that should be done on the front end of your rental property purchase which will reduce your property turn costs long-term. The most important item that will reduce future maintenance costs is to have a hard surface in the living areas of your rental properties. Vinyl plane flooring, tile, laminate or hard woods will all do well. A personal favorite is vinyl plank flooring as you will get the best bang for the buck if you are doing a new install. Just make sure you don’t have carpet. Carpet will not last and you will be forced to replace it on every property turn. Spend a little more up front on a hard surface and save yourself thousands in the long run.
As you can see from these 3 reasons, the biggest cause of success or the biggest reason for failure in your rental property portfolio is the strength of your property management team. You want to be working with a team who has the same goals as you. Unfortunately, most property management companies actually make more money when your residents stay a shorter amount of time. That is the fundamental reason why so man investors are consistently disappointed with their rental property experience.
When you’re interviewing your property management team, ask them questions about how they are incentivized to have longer resident stays. Are they signing long-term leases? What percentage of residents do they resign? Ask them to show you the acual data so you know they’re not just making it up (as many property management companies have been known to do.) The most important questions you should be asking is this: is the property management company going to make more money when your resident stay longer? If you want to build a successful portfolio that actually produces positive monthly cash flow, that answer better be “yes”.