What To Expect When Buying A Turnkey Rental Property | PREI 069
On today’s show, I have one of my senior investment counselors, Steve, and we will talk about what to expect when buying a turnkey rental property. We answer a lot of frequently asked questions and all of our clients, whether they’re new or newbies or they are fully seasoned investors, have certain questions and certain expectations. They all want to know what the next step is and what to do at a certain point and what to do in certain situations and how to move the purchase along. We have certain answers for all these situations.
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What To Expect When Buying A Turnkey Rental Property
Welcome to Passive Real Estate Investing. I’m your host, Marco Santarelli. On today’s show, I have one of my senior investment counselors, Steve, who’s going to help me cohost this particular episode. What this episode is about is what to expect when you’re buying a turnkey rental property. Let me explain what that means. We answer a lot of frequently asked questions and all of our clients, whether they’re new or newbies or they are fully seasoned investors, have certain questions and certain expectations. They all want to know what the next step is and what to do at a certain point and what to do in certain situations and how to move the purchase along. We have certain answers for all these situations. They’re pretty common across the board. We have this purchase process, if you will. On today’s show, we’re going to talk about some of the most common scenarios and what to expect with appraisals and inspections and a whole list of stuff. I have Steve on the line here. Steve, welcome to the show.
Hey, how you doing today?
I’m doing great. It’s good having you back on. It’s been a while.
It’s been a while. I’m here, still alive and kicking.
I’m happy about that. That’s good. As you heard me say, we’re going to talk about some of the frequently asked questions or more about the expectations. They’re not so much questions but what to expect in certain scenarios. I’ve scripted a bunch of items on a sheet of paper here. We’re just going to go through those. They’re more or less in a chronological order. What I’ll do is I’ll just throw out the topic, maybe you can comment or answer the question and then I’ll provide my commentary and then we can just banter if need be and then we’ll move on to the next one.
I’ll answer it and we’d move on.
Let’s start with the most general item. It’s something we talk about a lot. In basic terms, what is a turnkey property?
That’s a good question. It does cause some challenges if somebody comes to the table with certain expectations about what that is. The problem is that there is no correct definition. You go online, you research turnkey properties. There’s a lot of different opinions about it. I think in general what it means is that everything is going to be done for you. That’s probably something that everybody would accept as what a turnkey property is. You’re going to buy a property that will be rehabbed and in rent ready condition. That usually means that the mechanicals and the major systems of the property should have I would say a minimum of seven years useful life left in them. You’re not going to have to worry about any major expenditures like that for at least seven years. Your roof’s going to be good, your furnace is going to be good.
Also, the property has had a cosmetic overhaul inside. These are rental properties, they’re not going to get courts counters and amazing hardware and stainless appliances, that’s not very common. In some markets, properties, it’s standard for them to come with appliances. In other markets, the tenants bring them. If you’re buying a property and there’s no appliances getting put it in, you make sure you talk to the property supplier because probably what’s going on there is it’s a market where tenants bring their own appliances. Also, you can expect the property manager to already be in place, to just pick right up after you close on the property and market for tenants or collect rent from tenants if they’re already in place, which we’re going to talk about that. That’s a little bit of an asterisk. You should also expect all the referrals you need on a turnkey property for insurance and inspections and those kinds of things, even lenders, if you need it. That’s my definition of what a turnkey property is.
That’s good. What I like to say about a turnkey investment property is it’s a property in stable or growth market, the property is in a desirable neighborhood. That really is a function of what the investor’s criteria is. The property’s either new or has been newly renovated as you just described. It’s a property that’s in safe, clean, functional condition with no deferred maintenance. The property is obviously cash flow positive and even if that’s fully leveraged, meaning you’ve got a minimum down payment, which is usually 20%, the property is leased or at least in the process of being leased because the goal is to have a stable tenant. You have a stabilized property generating income. The property’s under professional property management and of course the property has been carefully selected with renters in mind.
Because the idea is that this is not a flip to a retail purchaser, it’s meant for a longer term buy and hold in your portfolio to generate rental income and of course build your wealth over time. That is my/our company’s definition of a turnkey rental property. Like you said Steve, different companies define it a little differently. This is our definition. I think comparing it to many other people’s definitions, it’s raising the bar because we’re taking a broader approach. It’s not just about the property, it’s about the neighborhood, it’s about the market, it’s about the people involved. That’s my definition and how I look at turnkey investment and turnkey properties.
One more thing, Steve, you mentioned it’s done for you. I would agree with that but I also would say that it’s done with you. Because when we work with clients, obviously we like to, figuratively speaking, hold them by the hand and walk them through the process and make sure they understand the process and have them involved. During that purchase process, they are actively involved from beginning to end. Once they’ve closed the escrow and that property has been added to their portfolio, now it becomes more of a passive investment. Now their passive but engaged, not really active in the purchase.
With that out of the way, let’s start with the first expectation item. That’s, what to expect with appraisals?
What to expect with appraisals? Appraisals are a great way to make sure you’re not getting ripped off. The bank, Fannie Mae, whoever you want to call them here, they are just as concerned about you overpaying for the property as you are. In fact, they could be more concerned because they’re putting up 75% maybe 80% of the capital to buy this property. They are going to give an appraisal. You, the buyer, you’re not going to order the appraisal. The seller, they’re not going to order the appraisal. It’s not done that way. There is so much appraisal fraud back in the market boom, back in the 2000s, that now the way that these are ordered is when a lender needs an appraisal, they will typically work with a couple, what are called, AMCs, appraisal management companies. They’ll say, “Hey AMC, I need an appraisal.” The AMC will randomly assign one of the appraisers in their network to that. They don’t want the sellers and the buyers talking to the appraisal, influencing this. This is meant to be an unbiased appraisal.
They’ll go out there, they’ll walk the property, they’ll look at all the comps, they’ll run their formulas, they’ll do their appraisal thing and they’ll say, “It’s worth X.” One thing that I see investors have questions about is when they get their appraisal, they’ll say, “It only came in and we’re not buying it.” That’s normal. In fact, a lot of times, an appraiser, I’ll go ahead and say it Marco, they get a little lazy. If they see legitimate data that the property is worth more but not a ton more, they’ll just say it’s worth what you’re buying it for. They’re trying to be safe. They’re worried. They have buddies in prison that committed appraisal fraud a decade ago. They’re being very careful. If appraiser comes in and says, “Your house is worth $5000, $10,000 more than what you’re buying it for,” it’s probably worth more than that because you’re talking to somebody who’s careful here. Most of the time, I think nine out of ten times, the appraisal is just fine, they come in at or above what the purchase price is of your turnkey property. That means all your financing is going to be what you thought it was. We are very careful to make sure that our local market providers put appraisal contingencies in the contract. When you’re buying a property, it’ll say in the contract something like this, “This purchase is subject to the property appraising for at or above the purchase price.”
For example, if you were buying a property for $100,000 and the appraisal came in at $95,000, you’re not necessarily obligated to buy that home because if you were going to, then that $5000 shortage between the $95,000 and $100,000, somebody’s got to come up with that. We’ll try and help you negotiate with the seller. A lot of times the seller is willing to cover some, sometimes they’ll cover all of it. They want to sell the property. Sometimes, they might dig their heels in. I think this is rare. They might dig their heels in and say, “No, it’s worth every bit of $100,000. Go ahead and cancel the contract. We’ll sell it to somebody else.” I think for the most part Marco, they recognize, “If it came in short, it’s probably going to come in short for the next guy. Maybe we just didn’t price this very well.” Sometimes the appraiser is an idiot. We’ve run into that before. Everybody’s got to decide, “Do we want to meet halfway? Is the seller going to cover the difference?” Sometimes the buyer loves the property so much that they agree to cover the difference. In any case, just know that if it does come in short, you’re not going to be obligated to close at that price. Usually, we can negotiate a solution with the seller.
Those are all good points. That’s a very good description of what to expect with appraisals. I’ll add to that. First of all, I like to say that if you order ten appraisals from ten different appraisers on the same property, you’ll probably have eight come in at the purchase price or very close to. You’ll have one that’s going to be measurably higher and one that’s going to be measurably lower. Those are the two appraisals that cause issues because you have to go back and do some negotiation and discussion. That’s the one that comes in low. The one that comes in higher is usually a pleasant surprise to the investor because they’re purchasing a property for a certain price and it comes in 10,000, 20,000 or more higher. We don’t see either one of those happen too often. It’s the other eight that we see typically, which means that that appraisal comes in at or very close to that purchase price. If it’s a little bit over, no one’s going to say, “Hey, the property’s worth more than you’re buying it. You owe us more.” We never see that happen.
No, you have a contract. Your price is your price.
You have a contract, you have a locked in price. That’s your purchase, that’s your purchase price. If it comes in a little bit lower, then it’s a matter of discussion or negotiation to see who’s going to cover that or if it’s going to be split between buyer and seller. Anyway, that’s just the nature of the beast. With appraisals, what we have found ever since 2008 is that there’s this concept of CYA, cover your butt. Appraisers, they’re licensed and they’re very cautious about not being too high or inflating the value because they’re working for their client, their client is the lender, the lender has hired them and sending them business. If they do a good job, meaning, i.e. a conservative job, they continue to get business. If they have some pretty wild appraisals and they’re constantly aggressive on them, aggressive on the high side not on the low side, the lender might say, “We’re taking on too much risk with this particular appraiser. We’re not going to send them as much business.”
There’s always this concept of covering their butt. They’re very conservative because they don’t want to lose the business, they don’t want to lose their license, they don’t want to get into trouble. A lot of them are lazy. I’ve literally been in a car, driving, looking at client properties where an appraiser called up and talked to the seller. I was overhearing the conversation on speaker phone. The appraiser was literally asking the seller to send them both sales comps and rental comps. They should not be doing that. That’s their job to do it. Not all appraisers are alike. You just hope you get a good one who understands what they’re doing and they’re not lazy and they’ll actually appraise the property properly. What do you think of that?
I think that works. Just know that they’re not usually, if they’re wrong, it’s typically in your advantage. They’re too conservative. I don’t think that they’re allowing investors to overpay for properties because they’re all still pretty freaked out about the big crash back in the day when you could pick your own appraisers and it was Wild West. It’s not that way anymore. It’s very arm’s length. The only time the appraiser will contact the seller is if they need some clarification on something or if they’re the one that you talked about. That’s generally what you should expect on those.
Anytime you have financing, you’re going to have an appraisal. The appraisal’s paid upfront typically, buyer pays for the appraisal, it’s ordered, they go visit the property, write up their report. Takes about a week, start to finish. That’s pretty much what to expect with appraisals. What to expect with inspections? Let’s talk about inspections. We insist that all our clients have inspections done. 99% of them do. Very few people opt out of that. Although it’s not mandatory, we strongly encourage and insist that they get inspections done because we want to make sure that they know what they’re getting. Steve, what can buyers expect with inspections?
The inspection, the independent home inspection is what prevents you from buying a piece of junk. The appraisal prevents you from getting ripped off. The inspection prevents you from buying a piece of junk. We at Norada will give you some referrals for home inspectors. You’re welcome to use them if you want to or you can get online or find your own. What matters is that it’s a third party inspection. On average, they probably charge around $300 to do a home inspection. He’s going to go out there and the inspector is somebody who’s been through a licensing process and he has knowledge of general construction matters, but he’s not specific. For example, he’s not a roofer. He’ll go out there, he’ll look at the roof, he’ll check plumbing and mechanicals. One thing that they do a lot of is they’ll look at the age of the water heater and the furnace and they’ll find out, how long is this going to last according to the manufacturer? They’ll put notes about that in the inspection report. They’ll check for structural issues and electrical, they want to make sure things are up to code.
I like to compare them to a family practice physician. If you went in for a physical, they’re going to be able to examine you and tell you in general that, “Hey, you’re in good health. No problems here.” If they see problems, if you’re family practice physician saw something, he would refer you to a specialist. He would say, “I suspect something could be going on here. Let’s get you over to the cardiologist.” Or, you should talk to a roofer, in house language. Code for that, I just had a conference call with a client and one of our Memphis team members about this. If an inspector says in the inspection report that he issues, “This roof appears to be at the end of its useful life.” In inspector language, that’s code for, “Hey, this is a bad roof.” You’re going to need a new roof. They can’t really come out and say it because they’re not the specialist in that. It’s common for these inspection reports that you get to have ten to fifteen items on them, even if the property’s been completely rehabbed. Don’t go crazy if you have a few of those on there. It’s common for things like, “The backdoor needs weather stripping. We need caulk around the bathtub. We need to insulate the condenser line.” Things like that are very, very common.
One thing too that you want to make sure, a lot of times, especially I’ve noticed this in the mid-western markets, it’s common for a turnkey providers to wait to install air conditioners and furnaces until they have an approved tenant. Sometimes they’ll give you the green light to order an inspection before this happens. What does the inspector do? He says, “Your furnace is bad. It’s shot.” Then you lose your mind. You’re worried, “Hey, I’m buying a property that I need to replace the furnace on.” Make sure that you clarify that because a lot of the times they’re just waiting to install it and you are going to get a new furnace or you are going to get a new air conditioner as a part of the home inspection. From there, we like to do conference calls sometimes if things aren’t clear. Like I said, I just got off of one where we went through this inspection report and we clarified a lot of things. They had yet to replace a furnace and a few things like that. It really helped the client understand what was happening a lot more.
Don’t expect the inspection report to come back squeaky clean even if the property is rehabbed because the contractors always miss a few things. There’s always a few things to go back and take care of, which the inspector will do. You can have the inspector do a reinspection and he’ll independently verify that, “Yup, these items have been taken care of. You’re good to go.” If for some reason the seller can’t or won’t take care of something on the inspection report, the ball’s in your court. You get to decide if you want to stay in the deal or not. Usually, we negotiate something there or sometimes they have a really good reason as to why they can’t or won’t fix that. That’s going to be up to you and your investment counselor to talk about and decide on together. Ultimately, if it’s going to keep you up at night, you do have the authority to kill that deal and not close on it due to the faulty home inspection.
The point there is that, the inspection is a condition of the sale and you have the right to refuse moving forward with the purchase if the inspection doesn’t come back to your liking. That rarely happens by the way, because often the things that are coming up that are of concern in the inspection are addressed and taken care of. Here’s what I say to clients to help set their expectations and understand what the inspection will do and what they should be looking for. I basically tell them that when the inspection comes back, they’re going to categorize or we’re going to categorize what’s in that inspection report into three categories: things that must be done, things that should be done and things that could be done.
The things that must be done are typically far and few between, in fact often you won’t see anything in this category. But anything that must be done is often a red flag or something that’s very blatant, like something that is broken or has reached the end of its life. Again, these don’t come up very often but those are clearly items that need to be addressed and do get addressed because it’s clear to everybody that those are issues. The should be done items are things that are questionable. They could be done, I hate to use the word could now. They’re items that could be done now but they’re not an issue, but they could become an issue. It’s a matter of discussion and putting some logic behind and discussing it with the buyer and the seller and just figuring out, “Is this something that we should take care of today? Is it a deferred maintenance item?” Those are discussion items.
This last category is usually what you see the bulk of the inspection report being. Those are the could be done items. The inspector will nitpick more often than not and try and find anything and everything they can to fill the report. If you’re going to spend $300 or $400 on an inspection, the inspector is not going to come back to you with a blank report saying that they didn’t find anything. They’re going to find paint chips and squeaky doors and maybe a bent eaves trough or something. There’s going to be a whole laundry list of could be done items. These make no material change to the property or the value or the functionality or the safety. If they do, then it’s probably a should be done item or maybe a must be done item. Expect a lot of could be done items, possibly some should be done items and hopefully no must be done items. Whatever is on there is open to interpretation and discussion. We work with you to go over it and get it sorted it out with the seller should there be anything that needs to be figured out. Does that make sense?
It totally does. That’s similar to anytime I’ve ever done a call with an attorney, I’ve never had one tell me, “We’re done.” They’ve always said, “I need to do some research. We got to get some more billable hours here.” It’s called proving your worth and inspectors do that. They’re going to put some things on the report no matter what. I’ve never seen one come back perfect. When yours doesn’t come back perfect, it’s okay. That’s normal. Everybody goes through with it. What does matter is, what is the seller going to do about it? That’s the key.
That’s the next question is, what to expect with inspection repairs? Let’s just say there are some items on there. I’ve touched upon this. Let’s say there’s some items on there, maybe there’s one item that we would classify as a must be done item, it’s clearly an issue. Everybody agrees to it. I’ll just answer this first, Steve. I think the must be done items typically get taken care of pretty quickly and without any friction because they’re clearly things that need to be taken care of. The should be done stuff, usually one or two phone calls and a few emails sorts that out and it gets it resolved. Often the seller will take care of most, if not all of those items. Often times these are trivial things. They’re clearly things that should be taken care of but they’re like low cost, no cost items. Inspection repairs are rarely a problem and rarely an issue. It’s one of those things where let’s see what’s in the inspection report and then let’s deal with it at that time. What are your thoughts?
For sure. That’s the key. Some of these property suppliers, in my opinion, they might give the green light to order those inspection reports a little bit early. You’re going to see some ridiculous things on there. You’re going to go, “Why do they do this? This wall is still open.” I’ve seen that happen before. Don’t be alarmed. The property is not going to look like that when it’s all done.
That’s also true with appraisals, because sometimes you start working with your mortgage broker or your lender and they’re pretty quick to order the appraisal because they can’t submit the file to underwriting unless they have that appraisal. They send the appraiser out there and the property is 98% complete but they don’t have the HVAC unit installed and maybe a few other things. They report that in the appraisal. The lender says, “Hey, we can’t fund this because it needs work.” It’s important to time the inspection and the appraisal properly. We help you with that. It’s not something you need to manage or be on top of. Typically, we’ll keep track of properties that are under renovation and then let the lender know and the inspector know when they can go out as far as a timeline.
That’s right. That’s the idea. Your appraisal will come back and he’s going to say some bad things about the property. If that’s the case, it usually means there was a miscommunication on ordering that too early. It’ll get worked out. Not a big deal.
Speaking of timelines, what should a buyer or investor expect with the closing timeline?
In my experience, in fact I looked at my average, my average is about 68 days from the time you sign the purchase agreement to the time you sign the closing documents. I think that 45 days Marco, is lightning fast these days. Because with the real estate market being the way that it is, a lot of these inspectors and appraisers and everybody that you are dependent on to get these deals done, they’re backed up, they’re behind schedule. I think that you could take as long as 90 days if it’s a heavy renovation, if there’s some delays, if we’ve got to go back and forth on inspection repairs, you could take that long. I have seen it take longer. That’s on a deal that is not going well. That’s not normal. Plan on that. 60 maybe into 75 day range is probably where you’re going to end up if you’re an average investor.
These days, it’s probably in the 45 to 60 day range. You probably have a better dial in on this than I do. Many, many years ago, in the good old days, it was possible to hit a 30 day closing, not all the time but frequently. That slowly moved to a 45 day closing. Now, just everybody’s busy, everybody’s backed up and just things take longer. I guess to set realistic expectations here, budget for 45 to 60 days for sure. If it happens sooner, great. We’re all trying to move things as quickly as possible of course so it does happen sooner. But don’t be surprised if things drag out to 45 to 60 days.
I would add to that, Marco. Let’s say that on your purchase contract it’s going for a closing on March 1st and it’s April 28th and you haven’t heard anything. You don’t need to panic. The lender is going to be requiring that we do an addendum that lengthens the closing deadline. If the seller doesn’t make that closing deadline, that’s pretty common. I would say that that happens more often than not. You just need to email your investment counselor, say, “Hey, do you know what’s going on with this one?” We’ll find out. Usually, they’ll tell you that, “This item on the rehab is late or something.” Sometimes, it’s on the investor, sometimes they haven’t been getting documents to the lender in time and they’re not ready to close. You’ll know that it’s for real when the title company contacts you and starts to schedule closing. You’re usually going to have a heads up on that. That’s not usually a surprise to most people. If it goes longer than it says on your purchase contract, that’s not the end of the world. That’s very common. There’s just a little bit of paperwork that needs to be done is all.
It’s not only common but it’s actually expected. What we do is we just write up an addendum to extend the purchase agreement because the lender will request it or require it. It’s not so much that the providers that we work with and the builders that we work with necessarily need it, it’s more for the title company and the lender. That’s almost expected. No seller is going to let go of a good buyer or an investor purchasing their property if things drag out longer than what the closing date on the contract is. They’re just going to say, “No problem. We’ve come this far, let’s just keep going. Let’s just get to a closing table.”
That’s exactly right.
What can investors expect with service provider response times? Let me just comment as to where this particular expectation or question came about. Sometimes, clients will want to talk to property managers or our builders or our turnkey providers or anybody that we’re working with. They don’t get a callback right away. It’s not the same day, maybe it’s not the next day. Even with email, they may not get a quick response. Sometimes people are left scratching their head, “Is this an issue? Is this a red flag?” I have an answer to that but I’m going to let you answer first, Steve.
Sometimes it is an issue. We add new providers on a somewhat regular basis. We occasionally fire providers. I would think that that’s the main reason that we fire providers, is a slow response time. They’re just not inspiring a lot of confidence. That is something that personally I talk about with my clients is, “Hey, you’re inquiring about this particular property in Indianapolis. Here’s what I found about that provider. Here’s the feedback I’m getting from other clients. Here’s what I’m seeing.” That’s why people love investing with Norada Marco, is because we can tell you honestly, “Hey look, 30 people have gone before you in the last couple of months buying properties with this guy. Here’s all the feedback I’m getting.”
Usually, it’s good, sometimes it’s bad, sometimes there’s just some day to day stuff. No business is perfect all the time. We can generally tell you, “These guys get back to you quickly. You should typically expect a response the same day. Or with this guy, it might be a day or two but he is going to get back to you.” If it’s going to take longer than that, that’s when we’re actually already having a conversation with them saying, “Hey, what’s going on over there? We need to hear from you a lot faster if we’re going to continue to do business together.” It’s a case by case thing. Make sure you talk to your investment counselor about it so that you know what to expect, so you’re not driving yourself crazy if it’s one that takes a few days.
Exactly. Communication is one of my pet peeves. I’m sure you and the whole team know, I have a general rule of thumb, if someone sends me an email, I try to get back to them within the same day. Often, I’ll try and get back to them within four hours. If it’s a phone call, I try and jump on that a little bit sooner. We all want quick communication and responses back from the people we work with, all our service providers and especially property managers. The fact is, like you had mentioned, we’re all very busy today. Demand is strong for rental properties all across the country, especially in the markets that we work with. Right now, we’re struggling to get enough or even some inventory in some of the markets we’re in. People are running eight different directions all that time. I know you are. I find myself doing the same thing.
I think a little bit of patience will go a long way. I think if it goes from being an issue to a problem, that’s when we jump in and we start questioning it and talking to the people and just say, “Hey, why is this happening? How can we fix it? Is it going to be an ongoing problem? How can we help you resolve this? Can we help out?” We’ll try and address it. Anyway, I think the thing with expectations is that, with service providers, everybody’s busy and just be a little bit patient. Hopefully, it’s not an ongoing problem. If it is, we certainly want to hear about it because we’ll jump in and try and fix that problem for not just you but everybody else.
I have a particular client I’m thinking of right now. He’s about to close on a property. It’s with a provider who generally can take a day or two to respond. He spent a lot longer on this one, all through the transaction, and sometimes he hasn’t responded at all. I’ve not been a happy camper. I know I’m not the only one. We’re really all over this deal. We’re really helping him with the communication. We may even help him move property management after he closes. We are going to be having a tough conversation with that provider because their level of communication … There’s a difference between taking a day or two because you’re busy, there’s a different between taking three, four days and letting half of the emails or contacts not even go answered. Not cool. We’re not okay with that. If that happens to you, please let your investment counselor know because we will step in and we’ll exert our leverage there to help make it right.
Good. I’ve answered this one many times in the past. That is, what should an investor expect when it comes to the lease status of the property that they’re looking at or purchasing or even have purchased? I’ll throw this over to you and then I’ll comment.
This is one where if your expectations are lined up ahead of time, you’re going to be a lot happier than if they’re not. Because it goes back to the very first question that you asked here Marco, which was what’s a turnkey property. Some people come to us with a definition that, “A turnkey property, it’s already rented up on a two year lease and it’s a brand new build. I have a 15% cap rate.” They’re looking for a golden unicorn. It’s not real. The reality is, in the market today, even in turnkey, there’s a very strong demand for rental properties and most of the good properties go under contract with investors like yourselves before a tenant is in place. What that means is you’ll go under contract on the property, there’s another three weeks for repairs to get ironed up. Once those get ironed up, the property manager starts marketing for a tenant. You’re in the home stretch of your closing. You might be a month out at that point.
I found that about 80% of the time, the property manager does secure the tenant prior to your closing on the property. That’s nice because you’re not going to have to pay a lease up fee. You should ask your investment counselor. Some of our providers will eat that first lease up fee for you if the property is not leased prior to close. A lease up fee is just when they find you a tenant, they’ll typically keep a large chunk, if not the whole first month’s rent as a commission for their leasing agents. Investors get sticker shock sometimes if they close on a property, there’s no tenant, then the manager gets one and then they still don’t get rent for a month because the manager gets the lease up fee. I can understand why that would be sticker shock. You got to make sure you understand that. About 80% of the time, they’re leased ahead of time, you don’t have to worry about it.
The other 20% of the time, they don’t lease up for whatever reason. For example, right now is a bad time of year to be finding a tenant. I know, I bought a property in December, I’m looking for a tenant right now and it’s not going great. I didn’t expect it to, it’s a bad time of year. Just watch for that. If you’re the kind of person that you’re not going to be able to sleep at night unless you have a tenant before you close, then buy a property that has a tenant in place. Easy. Talk with your investment counselor, find out which ones already have tenants. That certainly can alleviate that concern. I would tell you though Marco, I think you’ll agree with this, you might be left over with the scraps. Because in a competitive market like this, the good properties are going to go under contract whether they have a tenant or not because clients do the research with us and they figure out, “Hey, this isn’t going to be a problem. I’m going to get a tenant and long term on this thing I’m good. I know it’s going to rent all the time and it’s going to be a great property.” That’s my two cents on that.
The key there is to purchase a good property in a good neighborhood. Because if you have the right property in the right neighborhood where there’s strong rental demand, you’ll have no problem getting that property leased up on the front end and when your tenant moves out for whatever reason and you have a turnover, you’re not going to have an issue with getting another tenant and often fairly quickly. The key is to make sure that you buy right, and we help you do this, but make sure you have a good property, again, in a good neighborhood and also in a good market. Leasing and turnover shouldn’t be an issue with that. Your 80-20 rule there is pretty consistent to what I see. I think 80% of the time, investors find that their property is leased by the time they close escrow or at least there’s a tenant secured, maybe they haven’t moved in yet but there’s a tenant that’s been screened, qualified, secured, they have a signed lease. They just haven’t moved in yet.
In those situations, 20% of the time where the property is not leased when you close escrow, in my personal experience, I’ve seen that it only takes about one to two, maybe three weeks from the closing date for a tenant to be secured and/or moved in. The downtime is pretty low. Your comment about providers covering or eating the lease up fee in situations like that is really provider specific. Talk to us about that beforehand. It’s not a promise or a guarantee, it’s not true for everybody all the time across the board.
Another comment is that sometimes investors ask us about the rental income amount on our website, it might say $1000 a month. The question is, is that property leased right now for $1000 or is it to be leased? The simple answer is this, let’s put it this way, if the property is leased and there’s a tenant already moved in and paying, then that’s an actual amount. The thousand per month is what we’re collecting or what the property manager is collecting, what you’ll be collecting. If the property’s under renovation or it’s a new build and it hasn’t been completed therefore, it cannot be leased yet. Then that’s the target rent. That’s what the property manager is going to be shooting for to get for that property when it is leased.
The thing with that is this, they’re usually spot on but it is possible that that rent may come in a little bit lower, maybe $50 a month lower, possibly $100 a month lower. It doesn’t happen very often. The flip side of that coin is also true. Sometimes the property is leased for more than what we have on our website. That thousand could be a $1050 or $1100. I’ve actually seen a property rent for hundreds more than what we had on the website. Keep in mind that if the property’s leased, its actual rent. If the property is not leased yet, that’s the target rent. More often than not, the property manager leases the property for that exact amount or very, very close to.
I think it’s a good idea too, you can lean on your investment counselor for this to a degree, you may need to do some on research, but make sure also that that target rent or that the amount that it’s currently leased for is a fair representation of the long term lease value. Make sure that when you put this thing back on the market in two years, when it turns over for a new tenant, that you’re going to be able to get about the same amount that you’re getting today. That’s something important to realize as well.
We can help you with that because there are tools available to show you what market rent is. A more accurate measure is really what property managers are renting properties in that neighborhood or that area for. Those would be rental comps or comparables. We can help you with that. The next item of expectation here is property selection. What should an investor expect with property selection? I think this is pretty simple because it’s really what we do every single day. You have any quick comments on that?
Sure. I think that you can go to the website. There are a lot of resources there. Your investment counselor will educate you separately about what your goals are, what markets you should be in. Just know that not all of the properties that we put clients into are on the website. Sometimes in a conversation with a local provider, they’re going to divulge to you they’ve got this other one available. Your investment counselor can help you analyze that and how it’s going to look and perform, even though it’s not showing up on the website.
I think the key here is that every investor is unique and has individual investment goals. I like to break that down into an investment criteria. That helps define what you’re going to look at and what you’re going to invest in. When you define that, it becomes a filter. When you’re looking at properties on our website in the different markets, you mentally eliminate everything that doesn’t meet that criteria and then you shortlist everything that does. That’s where you can get into a conversation with you investment counselor about which ones might be the best fit for you and your investment goals. Ultimately, you’ll shortlist it down to, let’s say two or three properties and you’ll pick the best one. If it’s available, you’ll move forward with that one. If that one’s not available, then you move on to number two and then number three. Some of our clients will purchase two properties at the same time if they have the credit and capacity to do so.
But whether you’re purchasing one or two at the same time, what you really want to do, is know what you’re looking for and shortlist it and then pick one or two properties that you’re going to move forward with. We’re going to help you do that. I’d say 90% or more of our clients will “shop” the properties on our website and then come up with their own shortlist. Every once in a while, we have a client that says, “Hey, can you help me pick one or two good ones? In other words, cherry pick a couple for us.” That’s fine. We’ll take your criteria, we’ll see what we have available and we’ll make a couple of recommendations and then you make the decision on which one you like and which one you want to move forward on. We’ll help you do the preliminary due diligence and then there’s the due diligence that follows after you go to contract, such as your inspection, maybe reviewing a lease or talking to the property management company, etc.
Again, we have a defined methodical purchase process. It’s quite literally a checklist for you. We share that once we engage with you and we start going down the road of picking properties and markets. The property selection process is pretty simple. It’s a formula. We do it all the time and it works very well. Again, this is where you get into the weeds with your investment counselor and we just, again, take you by the hand and walk you through that process.
There you go.
Let’s wrap up here with a few other points that I have here. What are the buyer’s responsibilities? In other words, our clients, the investor that we work with, what’s their responsibility?
They need to communicate with us, let us know what they’re looking for, what they want. There are no dumb questions. Feel free to just open up with what your expectations are and what you’re thinking. Don’t be shy about any questions, especially if you’re new. If you thought of the question, it’s okay to ask it because a lot of the times that helps prevent problems down the road. Your responsibilities are to get your financing setup, that’s where it starts. We can give you some great referrals there, some lenders that are licensed nationwide that deal exclusively an investment properties. You need to get with the lender, make sure you turn your documents in, keep in touch with them on what your terms are, all those kinds of things.
That’s one thing that you have to handle. You’re actually going to have to engage the home inspector. We can put the two of you together. You’re going to have to be the one that says yes, pays the home inspector their fee. They send the report to you and you’re welcome to forward it onto us. You’re going to be the one that has to get with the property manager, get your banking info over to them so that they know how to send rents over to you. I like what you said, Marco. I might be slaughtering it here. You’re managing a passive investment. You’ve got to keep in touch with everybody and you can’t overcommunicate with us. We want to hear questions, we want to know what’s going on.
During that purchase process, from when you first engage with us through to the close of escrow and possibly just even for weeks thereafter, communication’s going to be very important. There’s going to be a lot of people communicating with you. Primarily, it’s going to be us, your investment counselor, but you’re also going to be hearing from your lender or your mortgage broker on a regular basis because that’s an important piece and that goes on throughout the entire process. You’re going to hear from your title company. The title company will request some information and some documentation from you. It’s usually pretty simple stuff. There’s going to be paperwork that needs to be filled out and a lot of that has to do with your lender, your financing. Communication and paperwork are the two big things.
As far as what your responsibility is, keep an eye out for it, respond to it in a timely manner and get the stuff over to the people that are requesting it as quickly as possible. It’s not a lot of stuff but it’s just a matter of just jumping on it and dealing with it in a timely manner. We were talking about how long does it take to close a transaction before. Steve, you were saying it could take up to 60 days or more. One of the variables in dragging that timeline out is and has been the buyer. It’s actually the investor purchasing it because the longer it takes you to pay for the appraisal or pay for the inspection or get the paperwork back to your mortgage broker, the longer it’s going to take for them to complete the file and submit it into underwriting and keep things moving forward. Sometimes you become the bottleneck and you don’t want to be the bottleneck.
Then my last comment is this, like you said, there are no dumb questions. I like to say that we love questions because when you ask questions, guess what? You’re learning something. It’s answering the question that you have in your mind that you don’t have an answer to otherwise you wouldn’t be asking the question in the first place. We encourage questions, we like questions, ask questions, let us help you. That’s why we are investment counselors, we are counseling you and providing you some guidance. That’s really what your responsibility is. Other than that, your responsibilities to yourself as an individual, as an investor to achieve your financial goals and work towards whatever financial freedom is to you. I think that pretty much covers the responsibilities of buyers and investors.
I thought of two actually that are probably worth bringing up here while you were saying that, Marco. One thing too is, and this is real estate etiquette, when you ask a seller, “Great, I want that property. Please send me a contract,” it’s your responsibility to return that purchase contract signed relatively quickly. Not like right away, you obviously need to read the contract, make sure you’re okay with it. If you need legal advice on it or you have questions, it’s fine. What’s not okay is to sit on it for a week and continue to ask questions about the property. Because the seller has taken that property off the market in good faith. You’re going to have a due diligence clause in the contract anyway. When you’re under contract, then we can find out whatever remaining questions you have. It’s not okay to take something off the market for a week and not sign the contract. If you’re not ready to sign it, then don’t ask for it. Does that make sense?
Yeah. That’s sometimes referred to as time is of the essence.
That’s in every contract. They’re taking it off in good faith. You’re going to have a due diligence. If you still have questions about the property, that’s okay. We can find those out.
Be reasonable is what it’s all about. Time is of the essence, be reasonable, don’t drag your butt on it because you’re not doing other people any favors.
This is not a hard and fast rule. It’s just my experience in real estate. If you ask for a contract, you should probably sign it within a day or two. If it’s going to take longer because you’re travelling or something, that’s fine, just let everybody know. The definite no-no here is to go dark when you get a contract. These contracts do expire, they don’t have the sit on it for you forever. If you’re dragging your feet, they can pull that deal from you. I’ve had that done before. I would also add too, an important responsibility for buyers is, you’re all different, you’ve all got different credit and employment and down payment situations.
Your responsibility is to make sure you understand and you’re okay with your closing costs. Because on our website, we put 20% down, we assume a certain amount of closing cost but there could be more based on what kind of loan you’re using, what kind of lender you’re using. Make sure you ask the lender, “Hey, what do you think my total out of pocket costs are to get this deal done?” If you ask a lender or a title company, “What are my closing costs?” It’s common for them to tell you just what their costs are. You want to know from a lender, “Hey, about what am I going to be looking at out of pocket?” So you’re not surprised when the notary shows up at your house. I think that’s definitely an investor’s responsibility, to understand and be okay with those things before they proceed.
When you have an estimate of costs or a truth in lending statement, anything like that, or a good faith estimate, I think it’s important to understand that they’re going to throw everything in the kitchen sink into that document. All those so called fees and expenses are estimates. A lot of those things may not actually show up on the final closing document, you’re closing disclosure. It could be a lot less. Don’t get thrown off your rocker and surprised if you see a couple thousand dollars or even more of miscellaneous fees on that document because they don’t know yet. Until the title company actually writes up the final closing disclosure, we don’t know or they don’t know what all the exact numbers are on what fees that are going in that document. There’s an important question I want to throw in here. We just talked about buyer’s responsibilities. This is one that I think is important for us to talk about because it’s one of those things that makes us unique and differentiates us from working with other channels, other resources, going out on your own, working with a real estate agent, etc. That’s really, what is our role as investment counselors? It’s not just about our company Norada Real Estate, but what is the role of the investment counselor with our client?
I think it’s important to note here that Norada Real Estate is not acting as your realtor. We would have to have a lot of real estate licenses to do that. That means we’d just be sitting down, taking continuing education courses all day, every day. That’s not practical. I have two real estate licenses, going on three. That’s more than enough. What we are is your advocate all along the way. Norada will educate you on markets, we will give you feedback on providers, on neighborhoods, on specific properties and property managers. We will be totally upfront and honest with you on that stuff and tell you whatever it is we know. Because getting the truth on the table, having all of the facts out there is really good for everybody. That’s really a big benefit.
Your responsibility is to act on that information according to how you feel is best for you. Ask us questions, like we said, and then we walk through this whole process with you. We can make the proper referrals, we can help you navigate through this. Like I told you earlier, just one example of this is in home inspector language saying the roof is at the end of its useful life. We can tell you, “Hey, that’s code for it’s a bad roof.” We can help you. If you’re a first time investor, you’re investing from afar and you’re not sure, work through those nuances, work through that minefield of investing because we’ve been through it ourselves so many times and been through with other people so many different times. I think primarily, we are a resource to educate and get you information so you can make the best decisions for your investment portfolio.
The key point here is that it’s about you, not about us. Think of us as a friend and someone you can trust and can confide in. At the end of the day, we always start off by finding out, what is it you’re trying to achieve? Do you have some investment goals? What are you trying to do with real estate? Where do you want to go? What are you looking for? Let’s talk about an investment criteria. The only reason that we care to ask you that stuff is because we’re not going to blindly recommend a market and properties without knowing whether they even will work for you. Some people only want to be an A grade neighborhoods, they want premium tenants or what I call Nordstrom’s tenants. Some people want to be in more of the lower, middle income categorization. They’re fine with working what I lovingly call Walmart tenants. There’s nothing wrong with either one, but what suits you best?
For us to understand you as an investor will help us give you better, unbiased, agnostic advice on markets, providers, strategies and whatnot. Lean on us, let us hold your hand. Even if you’re seasoned, just pick our brain, ask questions and let us help you and work with you. There’s a reason why we’re referred to as investment counselors. We want to help, counsel you and provide you feedback and be a sounding board. I guess that’s just the best way for me to describe an investment counselor’s role. We’re here to help you, guide you and help you make better decisions. We’re not going to make those decisions for you, but we can answer all the questions that you have or bring the resources to the table to help you answer or find the answers or get the answers to those questions, whether it’s asset protection or tax related, you name it. We’re here as your primary point of contact and your primary resource because we can help you build that portfolio that’ll help you get out of rat race and become financially free. That’s our role.
I have a hard time thinking of any referral that you will need that we don’t have. I really think that we know just about everybody are going to need to know. Along that line Marco, I can tell you what our responsibility is not. We’re not your research assistant that you can send in 30 inquiries about 30 different properties for. We’re not sitting around all day just waiting for that. It’s not that we’re not willing to do that. That’s like just walking into the doctor’s office and saying, “Hey, write me a prescription for everything you got.” The doctor’s not going to do that. He’s going to say, “Hang on, tell me what’s going on here.” We’re going to want to talk with you about your goals because there’s a lot about these properties, there’s a lot that goes on behind the scenes that we know that you don’t. If you’ll chat with us for a minute, we can help you narrow the field, we can help you thin the herd a lot in a relatively short period of time.
Well said. Let’s wrap up Steve, because we’re running long, we’re almost at an hour here. Let’s just wrap up with the last question. It’s really not so much an expectation question, but just a question in general. Sometimes clients ask us, how do you get compensated? What they’re really asking is, is there a fee and how much is that fee to me? Let me answer this first because I have a canned answer to this. It’s this, we don’t charge you before, during or after your purchase or your transaction. In other words, we never charge you a single dime. Our services are free to you. It’s a value added service that we provide. The reason we work in multiple markets with multiple providers is because we want to be agnostic and therefore we can be unbiased.
Our compensation, in fact our only compensation comes to us from the builders and the turnkey rehabbers that we work with. They provide us essentially a sales fee or referral fee, a compensation of sorts after you close escrow on a property. Therefore, it doesn’t matter to us whether you purchase property A in Birmingham or property B in Kansas City. At the end of the day, it doesn’t change our compensation. There’s no cost to you. The question becomes this, if there’s no cost to you, we provide a lot of free education, consultation and value and we have a large nationwide network of mortgage brokers, insurance companies, inspectors, title companies, etc. If we have all these resources available to you to make your investing as hassle free, frictionless and enjoyable as possible, why wouldn’t you work with a nationwide turnkey provider like ourselves? Anyway, that’s the long answer to the short question of how do we get compensated. It’s on the seller’s side, not the buyer’s side. You as an investor do not pay us a dime ever.
That’s exactly right.
That means you have no comment?
I think we’ve pretty much covered everything we need to cover. We’re going long, we’re at an hour. You’ve provided a lot of valuable info, Steve. I really appreciate your time today. Do you have any final comments?
It’s been great being on the show. We really like working with our investors and we get to meet a lot of cool people from all over the world. Reach out to us if you need advice. I think too, just expect that we don’t go away after you close on the property. I hope you never have any problems with you investment property but if you do, call us. We can make things happen a lot of times and facilitate correction to those problems.
Good point. It’s an open door. You can reach out to us any time after you purchase any property, whether it’s email or phone call, we want to hear from you. In fact, we always survey you after the sale to find out how all the parties did. We do care and we take your comments and your survey responses very seriously. Work with us even after the sale. Steve, I appreciate your time today. I think we did a great job. Hopefully, this is helpful to our audience. If you guys have any questions, be sure to reach out to your investment counselor or just call our office or shoot us an email at [email protected]. We will look forward to you on our next episode. Thanks.
Take care, Steve.
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