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Rental Pricing

Rental Pricing

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Jonathan Cook: On today's podcast of the Investing Revolution, we're going to talk about rental pricing. We're going to talk about how we come up with it and why it's important. This is the Investing Revolution, a podcast designed to help your real estate investment strategy. On this podcast, we'll teach you the actionable steps to take and pitfalls to avoid so that your real estate investing can thrive. Welcome to the investing revolution. I am your host, Jonathan Cook. And today I want to talk about rental pricing, why that's important, what that means, how we come up with those numbers, you know, things like that, because rental pricing is one of the most important things that you can do as an investor, as an investor, to make sure that the tenant that rents your property is a good, high quality tenant. General knowledge seems to say that if you can get more for the rent, you should try and increase it. And and I don't think that that's always the case. So I want to talk about how we go about finding those numbers, what it looks like when I am performing a market analysis on a property, and then why we place the pricing where we do so. First of all, when I have a client that brings me a property and wants to get it rented, it's vacant. I perform a market analysis on the property and that that is a really in-depth process that a lot of people do differently.

Jonathan Cook: And so I'm not saying that my way is the best way, but it is a very thorough way. So I want to tackle that first to then explain why I price them where I do the first step that I always go through. And I mean, you can do this yourself. You can open up Zillow and look for a Zestimate. That's not terribly difficult. Part of that Zestimate, though, when you're looking at what the Zillow Zestimate says, which that's that's just Zillow's algorithm to automate. Here's our estimation for what we think that your property is worth for rent. The neat thing about a Zestimate is that's what the consumer often is going to see, even if the Zestimate is wrong and all real estate agents are going to tell you how Zillow's algorithm isn't exactly correct. And that's why you need to work with a real estate agent or a property manager, which to some extent is true, but it's usually a pretty good ballpark for what you should expect close around for rent. So the consumer is looking at that once we market your property. And so if it's way off in one way or another, they're going to notice. But that's that's our first step. So let's talk about how Zillow comes up with a Zestimate when it is performing its own data search. It drops a pin right on your property just right there. And then it creates a very large radius.

Jonathan Cook: It starts out smaller, less than a mile. Then it expands out until it finds other properties that are comparable to yours. Now, it's not tracking what has been leased, it's just tracking what is being offered for rent near you. And a lot of us know that there are certain markets where there's hard lines. If you cross over one street, it changes to a whole different school system or a different city, a different municipality, whatever. We know in real estate that markets have pretty defined lines, and if you just draw a really big circle around there, you get stuff that's not exactly comparable. It's not got all the same fit and features and accessibility and things like that. A good example is there is a part of Birmingham, Alabama that is divided by a river and the river separates to where you can't go from one neighborhood to another. And that's that's a separate school system. That's a different market entirely. You can see it on a map, but if you have a house right there on that edge, it's grabbing properties from a whole different market to to say that that's affecting your rent price. And that's that's not how that's going to actually end up working. And there's a lot of different websites that are designed specifically to fix this problem because most people, when they're offering a property for rent, don't place their offerings on the multiple listing service.

Jonathan Cook: So that's what real estate agents use to track the sales price of a property. That's the actual price that it is when it's sold. Because when as a realtor, when you market a property for rent, it's going out to other realtors. That's what the NLS is for and it's giving offerings. Hopefully you have a client that's looking to buy this house, blah, blah. So when you put something on the MLS, you're required. When you close out the property, when it's sold to put in what it's sold for in a concessions, things like that. It goes the same way with. Rental properties. If you're listing a property for rent on Mlss, you have to put what it actually leased for because these are negotiable items. We want to be able to track what the market says. You might offer a property for rent for $2,000 a month, but if a tenant comes in and offers you 1950, maybe you want to take that, maybe you don't. And that also because it's trapped so, so heavily, we also get to look at things like average days on market time frame. So this property sat on the market for 14 days. This property sat on the market for 31 days, whatever it might be. And you can. Read into why something sat on the market for as long as it did. If it's usually if it's a really good property priced really, really well and it leases under a week that that's good.

Jonathan Cook: But if the property looks nice, there's no damage to it. And it's listed on the Mlss for 30 days, 40 days, 60 days. You know, that is an indication that it's priced too high. But if Zillow is pulling that big circle, it doesn't know what has leased and when or days on market time frame. So if there's one property sitting near you that is severely overpriced, it doesn't matter that it's been on the market for 180 days. It's still going to bring that in and use that as a comp for its Zestimate, which again, that's why these estimates aren't the most accurate tool to use. And that's why it's not it's not where I end my market analysis. So after I've got my Zestimate, I'm going to put it in an Excel spreadsheet or some tracking software so that I can I can use it and then average some other numbers together. The next thing I use is rent ometer. So that's a different website that a lot of property managers use or people that are offering properties for rent. So that does a similar tracking system. You enter in all the information and it's going to pull up a high, low average and a median price point for the rents. I always stick to mediums. A high is a good number to look at. The low is usually kind of it's interesting to see what the lows are, but average and medians are usually pretty close.

Jonathan Cook: The reason that I don't use average and I instead use a median is because averages can get really out of whack. Again, going back to that last example, if a property nearby is just severely over listed, if something is listed for 7000 a month, but everything else in the neighborhood is a 4000 a month that skews your average, even though the median is 1000. So that's that's why I use a median. But so I'm tracking medians here. I take my median from my rental meter and I'm going to plug that underneath my Zestimate. After that, I'm going to use a service called Rent Tax Pro. It does a very similar search method. It gives me a lot of numbers and gives me, again, a high, low meeting, an average, and I'm going to take the median, plug it right underneath there, and then I'm going to go to my Mlss. Like I said, not everybody plugs their properties in on Mlss for rent, but a lot of people still do. And when you you look at your MLRS tracking, it allows you to see what something started for rent and what something actually leased for. So you can see the history of that rental listing. And then separately on the Mlss, it allows me to create a very specific map so I can draw a map out when I'm looking at where my comps are going to come from.

Jonathan Cook: So when I'm looking at market research, I start with the most close end data that I can find. I'm going to start in the neighborhood that this property is listed in I'm going to start for. Have there been any other properties in this neighborhood that have said that have rented? I'm going to start there and just map out exclusively that neighborhood straight, straight. If I have enough rental properties, I might even go directly to just this one street. And until I get enough averages or enough properties to have a a general consensus and they're all pretty comparable to each other, I'm going to stay as small as possible to track that so that I have a number that I can add to all the other automated numbers, pull that all together and get an average between that. And that is where I am going to estimate as the rental value of a property, and that's using a lot of medians, not highs, not lows. Now, does that mean that you can't get more for rent on that property? No, of course it doesn't. But when you are offering a property for rent, you are in competition with every other property around you, offering something for rent. And there's right now in today's market, there's quite a bit of renters looking for some place to stay. And the best of those renters, the highest quality of those tenants are looking for the best deal.

Jonathan Cook: When I offer a property for rent, I like to put it just slightly under what everybody else is listed at, because that's going to make your property or my property that I'm that I'm offering, it's going to make it the most attractive, just purely numerically. And that is going to make the most people start with that property. The bigger the pool of potential residents that we have, the better it is for us to be able to sort through and find the highest quality candidate. So when we have the the largest number of renters looking at that one property first and putting in applications, it's going to give us the the best options for who we're going to put in there. And I'm going to keep explaining that. So I've read that if you price it too low, you'll get lower quality tenants. But pricing high will get you higher quality tenants because only high income earners can afford the the upper scales of rent, which I disagree with wholeheartedly. The market is going to have a certain range to it. It might be from 1000 to 1500 or it might be from 2500 to 3000. There's there's always going to be a swing in the market. And looking at that median, what that's going to do is it's going to get the tenants that. Are again the highest quality, looking for the best deal, and they're trying to find something that they're going to stay in for a long time.

Jonathan Cook: Desperate tenants will pay anything. They will sign a lease for anything, if you will let them. If you put it at 5000 a month, they may not be able to afford 5000 a month. But if you'll let them move in because they've signed that lease, great. They'll do it. They're desperate. They'll move into anything that they're allowed to move into. And then that's where you start getting. Bad tenants. That's when you start seeing missed rent payments. That's when you start having to do evictions. That's that's where you start losing money. The most money lost in a rental investment is going to be due to vacancy and delinquency, which are very they run hand in hand vacancy. The first part of vacancy is just in the time that it sits on the market. So for every week that your property is sitting vacant, you're losing about 2% in income. And if you wait 60 days or 40 days to put a tenant in that property you've lost in in that case, I mean, you've possibly lost 16% of your annual revenue, whereas if you would have dropped the rent price to a more attractive and better positioned rent price, you would have had at least in eight days, seven days, nine days, somewhere in that range and cut that back significantly. So you cut out a lot of loss right at the very beginning by pricing your property correctly.

Jonathan Cook: But then let's talk about the dangers of having a bad tenant in your property. If you place a good tenant in your property and they last for a long time, they don't cause you any headaches. Fantastic. But when you put a bad tenant in the property, somebody that's desperate, the first thing you're going to often see is, yeah, they might pay the security deposit first month's rent. The second month is where they'll start to kind of make those excuses to you. Well, I just came out of my pocket for the security deposit and first month's rent, so I'm going to be a little bit late on the second month, which. Logically makes a lot of sense, especially if you're pricing at $2,500 a month or somewhere around there. Okay. Well, you recognize that they just came out of pocket, you know, five grand, which if you have an income level that is a third of your monthly income level is what your requirements are for rent then? Well, guess what? That means that they've spent two thirds of their income just just to sign the lease and allow a move in there that doesn't even include moving expenses or anything and regular bills that they have to pay. So in that first month, they're spending a large amount of money just to get moved in. And so a lot of self managed landlords will take that excuse and it makes a lot of sense and I've heard it.

Jonathan Cook: I mean, I've had investors bring me properties that that was the case. My family has had properties where that was the case. It's it's a good excuse. It makes sense. I just came out of pocket $5,000. I don't have the money to get you right this minute, but, you know, I'll pay you on the 15th or I'll pay you on the 20th or whatever, whatever excuses they come up with. That seems to make a lot of sense. And people allow that occasionally. Now, we don't we don't have people miss their second month in rent. That's there's a lot of reasons for that. And part of that is pricing properly. The third month after they've paid their second month, maybe they get caught up, maybe they pay you on the first. But then those bad tenants, they start you start to see these little things to where they will make up for it and then slide back down and they'll they'll catch back up and then they'll become a worse tenant. And it takes about a year to recognize that you have a really bad tenant in place and now you've wasted a year, maybe you've gotten 50, 60, $100 more per month for rent, but now you've introduced all these headaches to your property and they've spent the entire first month being late or being, you know, not a great tenant to some degree or another.

Jonathan Cook: That's when you start seeing leasing violations. That's when you start seeing that these tenants aren't even really taking good care of your property. They're not doing their periodic reports like you want them to. That's when you start having a trouble tenant. And then once they get so far behind that they can't catch up, especially if you start tacking on late fees to it, it's going to start to become an antagonistic relationship and. As an investor, you want your tenant to be happy with where they're living. You want your tenant to be happy that you're their landlord. If we listen back to my podcast episode about being an ethical landlord, part of that is making sure that your tenant is happy where they live because the happier the tenant is, the longer they're going to stay in the property, and therefore the more money you're going to make. And so when you start getting these little antagonistic arguments, these they say, Oh, well, I'm paying late, but you've got this property rented to high anyways and blah blah blah. That's going to create not a great fit because now you're butting heads. Now every little thing becomes an argument. Now the reason that they're not going to pay rent is because you didn't fix the kitchen bathroom like flickers or the fan in the bathroom doesn't work or whatever little things that they can start nitpicking about your property.

Jonathan Cook: That's when they start doing them instead of putting in work orders. Instead of asking you to repair them, they just say, Well, I'm not going to pay rent until you fix X, Y and Z. Now, some of those may be emergency situations which you do need to fix in that case. Sometimes it's not, though, and that's the kind of battle that you're putting yourself up for getting a low quality tenant and pricing has a whole lot to do. With finding that really high quality tenant when you end up only having a tenant that lasts for a year and that's how long it's taking you to recognize, man, I don't I don't want to renew with this tenant. I want I want to move them out and put a better tenant in there. Well, if you've just spent 30 days or 60 days or whatever it is to find that really bad tenant you put them in, and then you realize, well, now I've got to move them out and put a new tenant in there. That doesn't just mean that. All right, I've got a year's worth of income at a little bit higher price point, and maybe they weren't the best tenant, but hey, I got my money. It's usually not going to be worth it because your vacancy on the front end, plus the fact that you're moving that tenant out now you have vacancy again.

Jonathan Cook: Now you have turn cost on top of it. And if they're not paying on time, do you think they're taking really good care of your property? They're probably not. So would you take that property back over? You've got 2000, $3,000 worth of a turn on your hands. And yeah, there's a security deposit, but a security deposit has to be argued for why you're going to take X, Y and Z out of it, that you're going to have regular maintenance on a turn anyway. You're going to have to clean it. You're going to have to do some stuff. There's a lot of stuff that a security deposit isn't necessarily going to cover, especially if they do more damage than what the security deposit was. You're in for a world of hurt, putting a bad tenant in a property. That's that's ultimately the point here. And that's why pricing at a median and pricing at a good value is a very important aspect of listing your property because that is going to set you up in the long run to make the most money, even if you price it a little bit below market median. I mean, I know I'm not talking about a lot. I'm talking five, ten bucks. Seven bucks actually is a good number to go with and I'll talk about that in a second. But when you price it slightly below, you're going to get the highest pool of the best quality tenants.

Jonathan Cook: You can sort through those, find the best one for you and go. And those tenants, the best quality tenants that recognize they're getting a good deal on this property. Not only are they're going to pay on time, they can be able to afford it. They're going to keep much better care of your property. They're going to be happy that you're their landlord. They're going to stay for one, two, three, four, five, six years. Who knows how many, how long they're going to stay a much longer period of time. And thus, in your annualized returns, when you're looking at this on a three year or a five year pro forma, the lower the vacancy you have in that time frame, the more overall return you have. And that directly increases your cash on cash return in those time frames. So that's what I'm talking about here. That's why that's so important. And the last thing that I want to kind of dive into with these rental pricing concepts is the actual number that you use. People. Often price in kind of the round numbers. I want to I want it to end in a five. I want it to end in a zero 2000 or, you know, 20, 50, 25, 55 things things like that. If you end it in a five or a zero, that seems like a rounded up number. I love to price properties at exactly what those averages come out to.

Jonathan Cook: If the average, when I've looked at all my market value comes back to $2,547, that's where I want to put my price point. I like it to end in a seven. I like it in a two like in in a four something that's not round because it seems exact when a consumer is looking at a product, a product like a rental property, and it's got a very specific price point on it, and yet it's still within market norms. What that does mentally is it lets them know that this has been calculated down to the exact dollar. This is somebody that has put in effort to make sure that the market value on this is is exact. And it adds a level of trust and it adds a level of justification to it because they'll start walking through that property, they'll start looking at little things here and there and go, Oh, well, we've looked at five or six properties and that one had the banisters that looked like this. But this one right here, it's a little bit this one is $3 less. But hey, look it, it's still got all the same nice stuff and it's $3. They'll start to justify all the little reasons why your property has ended in a seven or a four or a two or an eight or whatever it happens to be. They'll start to justify that in their own head, and that will become the one that they just can't get out of their mind.

Jonathan Cook: That's the one that I want to rent. You know, we looked at five or six properties, but that one, the one that was that ended in the seven and they start calling them little nicknames and properties, which that's a whole different concept that talk about the wow factor there. But they start nicknaming the properties and that's what sticks in their head for. That's the property that I want. So there's, there's a lot of little tricks that a really good property manager should be able to walk you through and why you should price where you do, where they come up with those numbers and trust the experts here. Too many times I have clients that call me and you know, for the first three quarters of the phone call or the discovery call, they're telling me that, oh, I am a good investor. I'm not going to be a slumlord. I'm going to do all the things that you tell me to do because I want an expert property manager. I want somebody that really knows what they're doing. And I am willing to to follow your advice. And that's our ideal kind of client. And then when it comes to the rent price and I tell them what the rent value is, that's when they want to argue with me and go, Yeah, but do you think we can get a little bit more? Oh, do you think we can get a little bit more? Can we get just $50 more, $100 more? These are the numbers that I came up with.

Jonathan Cook: And and it comes back to where did you get your numbers from? Like how much research do you do for rental property? I'll tell you this, I study rental pricing for all of the markets that we're in on a daily basis. Every day I'm looking at the markets trying to figure out where the best deals are, where the highest rents are per sales price. This these are the things that I do every day to make sure that when I'm looking at market analyses that I'm that I'm right because this is what my job is. If you come up with a rent price, that's great. You've started a good benchmark, maybe. But when when your expert property manager tells you it doesn't need to be that price, it needs to be this price, they're not. Especially if it's lower. They're not trying to make themselves more money by offering your property for less, because most property managers are going to get paid more for the higher rent that we can get. So it's not that they're trying to cut you out of a deal. They're trying to perform, make your property perform at the best level that it should. So arguing with your property manager or real estate agent or whoever you have running your rental business about a rent price.

Jonathan Cook: Maybe that's not the best solution because there are people that know better. And now I'm not saying that I know the most. I'm just saying I put in a lot of effort for market analysis. And when the numbers come back at one number and my client wants to argue that it should be $200 higher and they don't have any data to back up their number other than, well, it costs me an extra amount, so I need that extra $200. Well, that is not justification for raising the price. All that's going to do is hurt you in the long run when we come up with a price point. There is it's not flippant. It's not due to oh, well, this one website told me it's worth this number. It takes a lot of research to get an accurate market analysis of a property. And so trust the experts here. It's guys like don't think that you are getting in any way losses due to someone not wanting to put in effort. It's a lot of time to get these numbers, so trust them. It's going to make you more money in the long run. And I hope this podcast has explained the why, the where, the how for all of you. And so, you know, I really, really appreciate you watching. I hope you like and subscribe. Come back in two weeks when we have another episode. Thank you so much.