Dean Graziosi

When purchasing a multi-family or other rental property, part of the due diligence on the financial side is the careful examination of all financial reports, profit and loss, assets and liabilities.  One of the items an investor must give some attention is the vacancy and credit loss history of the property.  If the seller cannot provide adequate records to indicate their vacancy rate, as well as the non-payment history, be very careful.

Assuming the seller has great records, what has been their historic vacancy rate?  Let’s say that records show a rate of 6% for vacancy.  If this were a six unit property, that would only be about 4.32 months of vacancy out of the 72 month rental year.  However, if the average rent is $900 per month, this is $3888 in lost revenue.  And the vacancy rate could be higher. 

Whatever it is, don’t just take the last year as an indicator.  Look several years back and see if there is a trend in either direction.  If vacancy has risen over the last couple of years, factor in an increase for the next year for your valuation research.  Don’t’ stop there either, as you should try to find figures for comparable properties in the area.  This is more difficult, as landlords don’t advertise these numbers.  A search on the Internet for “apartment vacancy rates” yields a great deal of data, some of it specific to urban areas.

If the property you are considering has a vacancy rate significantly lower or higher than others in the area, determine the probable reason(s).  If higher, is there something you can correct or change economically that will bring it more into line with others, as well as increase profitability.  If lower, you might want to tack a little on to the number you’re using for the valuation to provide a “worst-case” scenario.

When examining the non-payment of rent, or credit losses, it isn’t just numbers.  You might even have to ask the seller some questions about how they go about rent collection, particularly when a tenant becomes delinquent.  If the seller is a bit laid-back in their style and collection practices, you can possibly look forward to better results with a strict policy that’s enforced with speed.  Of course, a firm grasp of your legal rights and responsibilities as a landlord will go a long way in this regard.

The important thing is to make the vacancy and credit loss numbers a part of your due diligence and financial evaluation of any rental property.  It could save you from a financial mistake or it could show you hidden opportunity in a property.

We diligently search advertisements, work with property bird dogs, and do extensive research trying to locate that excellent rental property investment.  For multi-family properties, we want all the normal things, like reasonable condition, good location, a below-market purchase price, and stable market leases.  It’s the leases that bear really close scrutiny.  We have honed our skills at condition, remodel/repair estimating, and valuation, but we must be very careful when it comes to leases.  We know that WYSIWYG in computer talk means “What You See is What You Get.”  Unfortunately, we can’t count on that with leases.

The first, and most obvious, thing to check is the duration of the current leases.  Are most of them rolling over in the next six months or less?  What is the anticipation of renewals by the current tenants?  If they are at market levels, you’ll really want to get new leases without having to get new tenants.  If the lease terms are out a year or more, examine them to make sure that they don’t have loopholes or easy escape clauses.  There’s no fun in having a number of tenants bale on you unexpectedly a couple of months after you buy the property.

Are the rents at current market levels?  If they are below market, you really want to see shorter terms before expiration, giving you the ability to raise rents sooner.  If they are at market level, are they really paying what it says in the lease.  This is one area in which buyers have been very upset after purchase.  Just because a lease says that Tenant Smith pays $900 per month, it doesn’t mean that the really do.  Check lease rental terms against actual rental deposits.  You don’t want to buy and then find out that several tenants are trading out services for rent.

Dean Graziosi, in instructing his real estate investment clients, is very clear with tips about getting the real information behind leases.  Do the tenants have options to renew?  Do these options allow rent increases, or can they renew at their current rate?  This could be a very important factor in your purchase decision.  Are there automatic rent increase escalator clauses?  With long leases, you want to be sure that the increases negotiated will cover inflation.

When you think you’ve found that perfect multi-family investment, pay extra attention to the leases currently in place.

Auction isn’t only for foreclosures or tax sales, though it is used frequently to move this type of property.  Getting more popular are auctions by regular owners who just want to move their home with a bit less hassle, and possibly save a little money as well.  Why do some sellers take the auction route?  First, this method of sale brings the buyers together into one place at one time.  It is very focused on a single purpose, the transfer of ownership of real estate.

Second, the fact that buyers are present, together and in competition, can mean competitive pressures will result in a better price for the property.  Another thing sellers like about auctions is the fact that there is a fast track to closing.  The typical home auction will move a property without follow-up inspections, repair negotiations or other time consuming back-and-forth from contract to closing.  Generally, the buyers are market-savvy, and they will do their due diligence and property evaluation before the auction.  The price that takes the property is the price that goes forward to closing.

Buyers, of course, like auctions because they perceive an opportunity to buy at bargain prices.  Whether it’s a foreclosure, tax sale, or just a motivated seller, buyers come to an auction to buy at below-market prices.  If you are considering buying at real estate auctions, Dean Graziosi, in his book Be A Real Estate Millionaire, suggests doing your homework carefully, and going in with a plan for bidding, including a top number for each property.  Stick with the plan, and you’ll either walk away with a bargain, or you’ll leave empty handed but not trapped in a losing deal.

There are three major categories of auctions, and they can result in very different outcomes.

·           The Absolute or No Reserve Auction - With no minimum bid, and a requirement that the seller sell to the lowest bidder, this isn’t an auction type used a lot in real estate.  The buyers love it, as it guarantees the highest bidder will get the property, but sellers fear the high bid will not be even close to what they were expecting.

·           The Minimum Bid Auction - In this auction, the high bidder is also guaranteed to get the property.  The difference is that the seller sets a minimum bid that they are willing to accept.  This is a popular auction style for real estate, but sellers need to be sure to set their minimum at a price they’re willing to accept.  There is a tendency for buyers to arrive wanting to pay only the minimum, thus the property might only get one bid.

·           The Reserve Real Estate Auction - Because the seller reserves the right to sell the property at the high bid or not, buyers aren’t fond of this type of auction.  They could do a lot of research work, come in with the right plan, be the highest bidder, and still not get the property.