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If I could follow my own advice, my rents would have
been much higher over the years. Many apartment
owners, including yours truly, get to know their
tenants over the years and do not adjust rents on a
REGULAR basis. By the time we realize the rents are
significantly below market (for long-term tenants), it
becomes emotionally impossible to play “catch up”
to current levels. If you’re comfortable getting
$495 a month rent for a $625 apartment, so be it. The
REAL problem arises when it’s time to sell the
building.
Though apartments truly sell based on a CAP rate,
most people use the layman’s guide – GROSS RENT
MULTIPLIER as a quick guide to value. Almost all of my
readers are familiar with 6 x gross, 7 x gross or 8.5
x gross, which is a multiplication of the annual gross
rents. Lets assume a 15-unit building is put on the
market with an asking price of $950,000.
Unfortunately, the landlord has been a softy and the
rent for these units average $500/month instead of the
$650/month that they would bring today. A potential
buyer or seller’s broker would find this almost
laughable, as the seller would be asking a sum that is
over 10 ½ times the gross rents. The typical seller’s
response is that the rents can “easily” be raised
to $650/month and, at $650/month the asking price is
only 8.1 times gross. The seller is merely trying to
have the buyer purchase the building based on future
rents rather than existing rents. Apartment buyers are
not stupid and they base purchase prices on existing
rents.
In the example I have just given, the building will
truly sell for more than 8.1 times existing rents,
i.e. $730,000. It will certainly not sell for a future
rent value. Obviously, the seller is trying to have
the buyer do the “dirty work”. A seller with long
term tenants is not realistically going to be able to
raise rents from |
$500/month to $650/month in one raise to maximize the sale
potential of the building. It’s only when the seller tries
to sell the building that the above scenario comes into play
and the seller realizes that few or no rent increases over
the years will cost a substantial sum yearly (lost rents)
and then many thousands.
Many owners believe that low rents equal good long-term
tenants. This is a cliché and has been debunked over and
over. The obvious solution here is to raise rents on a
regular basis (usually yearly) to keep your rents CLOSER to
par. I’m not suggesting one demand “top of the market”
rents, though I am suggesting regular rent increases that
keep the rents close enough to avoid the above scenario.
As an example, your newest tenants may be paying $650 a
month. You may find that some of your tenants are paying
$575 a month and have been for over a year. I would
recommend an increase into the $610-$630 a month range.
Whenever I increase rents I always include some verbiage to
the effect that “we value your tenancy”; “we hope this
adjustment will not be a hardship”; “we assure you that
this adjustment is still well below current rents”. By
constantly monitoring your rents you will avoid the major
problem of trying to get a buyer to pay a price based on
next year’s rents.
If I had just taken my own advice, I wouldn’t be faced
with a similar problem on a 12-unit building I am now
selling after many years of ownership.
Peter Rosenthal
VIP Trust Deed Company |
