The timing was perfect.
Just as I was preparing to make an offer to buy a fourplex, I overheard my wife, who does business turnaround consulting, talking to her client about the SIBKIS rule for making decisions.
When I asked her what the rule she was always preaching meant, she explained SIBKIS is an acronym for See It Big, Keep It Simple.
It means always looking at the big picture and not making things overly complicated. I plan to use it every day in my business to avoid getting wrapped up in complex solutions that cost a great deal of management and money to implement.
This fourplex that I really wanted to add to my portfolio was definitely nicer than anything I have ever owned before. I saw great potential in it and it was a building that I thought was not being properly managed and I felt the rents should be much higher.
The property was not for sale, but was owned by a fellow investor I knew quite well. It was general small talk with him where I learned all the details of the property: He bought it new 17 years earlier on a 15-year loan. The property was paid for, so with a 17-year old price tag and no debt any money he was making represented huge returns.
This gentlemen owned lots of real estate, was making huge monthly residual income, and recently started buying larger 20-, 30- and 40- unit complexes. As he was more motivated by his larger complexes, I knew I had to make a move, but first I had to figure out what the true potential was for this property.
I saw much more potential than the property was generating. So, I put this SIBKIS rule to work.
I wanted more cash flow and larger returns than the property was currently generating. I began to think about how I could make the changes and keep it simple.
First, I knew I had to run a competitive analysis and understand this micro-market thoroughly, so I visited nearby 3-bedroom, 2-bath rental units. What I found was that the property I wanted to buy was different than a normal fourplex building, and it should be managed differently as well.
This property had a separate entrance for each unit, and it had a garage for each unit, making it feel more like a condo/villa than a fourplex. Surely, I thought, this should bring in higher rents than a typical rental.
During my investigation on the purchase of this property, I found 5 simple ways to increase cash flow on this building, and these 5 principles apply to every property I have evaluated since. Here are 5 ways I found to increase cash flow:
No 1 – Fair market rents
I know sounds simple, right? What are competitive fair market rents in the area? To get a clear vision compare both the inside and the outside of the units and make sure you are renting to its best capabilities. Comparing your rental property to competition often can yield higher rents or give you clues as to the little tweaks you can make to justify higher rents.
When doing personal visits, I learned rents varied widely from $1,000 to $1,600 per month. Current rents for this subject property were between $900 and $950. There indeed was a large spread in the prices of units on the market. Based on my visits, I figured I could rent each of my units for at least $250 more each, as they were more like the villas and condos that brought higher rents than a conventional fourplex. With four units I could easily bring up the cash flow by $1,000 per month.
No. 2 – Rent to best demographics
Often, demographics can change in an area over time. When you are buying property in the path of progress, a property that was once renting to lower-priced paying tenant can often be upgraded to a more affluent tenant. This was the case here. During my visits to neighboring properties it became obvious that my potential property purchase was much more than a typical fourplex. However, it has been marketed in the past as a fouplex, and as a result it attracted tenants who were willing to live in a building typically with a main entrance and a common hallway. This building was like the villas and condos that attracted more affluent tenants.
No. 3 – Get a two- or three-year lease
The largest cash- flow drain a property owner has is a lease renewal. You have to clean, paint, maybe do some carpet repair or replace. Perhaps you will even have a tenant placement fee. I have found that when you use a two- or three year lease, you can find tenants who are looking for a long-term tenancy and are eager to sign a multiple year lease.
I have used escalator clauses where rents always increase by “X” number of dollars per year. I always wanted to get my tenants in the habit of expecting a rent increase, even if it was just $5 per month. When they expect a rent increase coming on their anniversary day they were not disappointed by it.
No. 4 – Do lease-options
Lease-options tend to be more of a psychological benefit to a tenant. Tenants who want to own a home, but for a variety of reasons do not believe they can buy one, love lease-options. These tenants take better care of the property, reducing your repair costs. Lease-option tenants will typically pay more money for rent as they aspire to own the property. Additionally, a lease-option tenant will pay a lease-option fee, which is not a refundable fee, increasing your cash flow. It is actually rare that a tenant will execute a lease-option for a variety of reasons, but the lease-option is very effective. This was a strategy I intended to use for this property. But first I needed to own it, and then I needed to do highest and best use conversion of this property giving it a condo classification. That is a story for a later blog post.
No. 5 – Give repair expenses to tenants and always repair to value, not to price
With lease-option tenants in single-family type properties, it is easy to have leases signed where the tenant is responsible for the small-ticket repairs, which will definitely help your cash flow. When you place tenants who are cool with these leases, you know you have a better tenant. When you do repairs, cheap is seldom better. Always repair for best value. Putting inexpensive Band-Aids on a repair will only come back at you time and time again for the same repair and may label you as a slum lord. Always look for the best value and fix things permanently. It will save money in the long run and will make for happier tenants.
See It Big, Keep It Simple
Understanding this simple philosophy made it so easy to look at the big picture and establish what to do. In this case, I wanted to increase cash flow. Visiting my competition helped me to quickly see opportunities that this fourplex property was not capitalizing on. These five simple things allowed me to increase monthly revenue, as well as reduce expenses, which all contributed to increased cash flow.
The outcome? I bought the property and increased the total monthly cash flow by more than $1,000 per month and reduced my management challenges with long-term leases.
In my next blog post, I will talk about how to increase the value of the property and go after the value play.