Investments in commercial real estate have always been a big draw for people who want to grow their wealth while avoiding the volatility of investing in equities. Recent trends in commercial real estate for residential use have made this type of option even more appealing. However, taking on financial responsibility for a multifamily or apartment building and assuming the legal responsibilities of a landlord is not wholly without risk. In order to practice effective risk management and maximize a property’s profitability, you need to make decisions and conduct your activities with an abundance of caution. If you are considering an investment in a property for rental income, here are some important things that you need to do to mitigate risk exposure and generate good returns.
Table of Contents
Seek Out Competitive Funding Options
The initial investment necessary to take a desirable property off the market can make the proposition of a large purchase overly daunting to first-time investors. It is crucial that you do not overextend yourself financially in any way that will cause you immediate hardship, so be sure to identify funding options that will work well for you both short-term and long-term.
It can be advantageous to work with lenders that have experience working with borrowers in your area and are familiar with the real estate market in targeted locales. If you are looking for hard money loans in Los Angeles, limit the scope of your search to include only providers that serve property investors in your area and offer competitive rates.
Budget With Contingencies
You need to make your financial projections with a high degree of accuracy. In fact, your specificity about operating expenses and revenue management in your proposed budget could be a critical factor in a prospective lender’s evaluation of you as a borrower. Try to research specific costs to arrive a precise when figures, but do not leave yourself little or no margin for error in your bigger picture budget planning.
When you are creating a budget for both initial renovation and repair work afterward in addition to a budget for ongoing operations management, you need to incorporate contingencies. If everything needs to work out exactly as planned for a venture to produce healthy returns, any unexpected expense or setback could have extremely unfortunate ramifications. Rather than approximating one lump-sum contingency figure, try to structure contingencies into specific line items. Assigning a range to individual expenses can make it easy for you to pinpoint which areas of a project or ongoing operations need the most stringent and steadfast oversight.
Insure Yourself Against Liability and Loss
Insurance coverages for rental properties differ from traditional homeowners policies. Of course, you need to insure the premises for physical damage that could necessitate costly repairs or even rebuilding. Lenders are likely to impose requirements mandating minimum coverage levels, but it may be prudent to evaluate enhancing coverage limits beyond minimum requirements. In addition, you should find out about the cost of carrying secondary policies for certain types of damage that traditional policies often exclude such as flooding.
As an added measure of protection, it is generally a good practice for landlords to require tenants to carry renters insurance as a condition of their lease. A tenant can include a landlord on a policy as an additional insured. If a carrier will not permit this designation, then a landlord can request a designation as an interested party. This stipulation in a policy would require a carrier to send notice to a landlord if it cancels an insured’s policy.
Set Rents Strategically
It is a common pitfall for property owners and management companies to list units with the highest rental prices that they think they might get. This practice can be problematic for multiple reasons, and it is one of many reasons why the cost of housing has become so unaffordable in metropolitan areas. An exorbitant rental rate could make a very marketable unit unattractive to your target base of renters. Setting prices too high can make a listing sit on the market for months when you could otherwise get great tenants within a matter of days.
People who pay too much towards rent are less likely to become long-term tenants than individuals whose housing costs are comparable to fair market rents. Rather than renew leases, they will seek out more affordable options or look for ways to upsize their living space or amenities while paying the same rate of their current rental payments. Resultantly, landlords will have to contend with more turnover. High turnover rates can lead to excessive vacancies in addition to repetitive repair and maintenance costs every time that a new lessee takes possession of a unit.
Do a market analysis of rental rates in your area to make an informed decision about the right rates for your units. Bear in mind that a lot more factors besides just location and size should weigh into your analysis. The condition of a property can have a huge influence on how much people are content to pay. Likewise, renters will pay a premium for highly sought after amenities such as covered paring or pet-friendly buildings. Ultimately, an attractive rental rate that reflects the practical value of specific units will help you maximize profitability even if the rent is slightly less than what a handful of renters might be willing to pay you because it is more likely to invite successful tenancies.
Establish a Relationship With a Great Management Company
If you are interested in getting more than just a couple of units, retaining professional management may be the best course of action. Find management companies in your area that have positive client reviews, and be sure that anyone who works in a managerial role has any necessary licensure that your state requires. Professional management can take a lot of the hard work out of owning a rental income property.
You need to be both practical and cautious when you are performing due diligence about properties. Thorough research in addition to methodical financial planning can help avoid surprises while optimizing returns.
