When I started investing, I was primarily concerned with cash flow. So, my first property was a fourplex C-Class (D-Class?) in Houston with outstanding cash flow on paper.
After one year of skips, evictions, vandalism, and excessive maintenance, I realized instead of being a cash cow, it was a money pit. I was thrilled when I sold that property.
My next investment was two fourplexes in an Atlanta suburb. These were A-class properties, and I had no issues with missed payments, evictions, or vandalism. The tenants stayed for several years, and the cash flow was excellent.
From this, I learned two important lessons:
- Paper returns have nothing to do with actual returns.
- The tenant who occupies the property is the critical success factor; it is not the property itself.
These two lessons changed my entire approach to rental properties.
Buy the Property for Your Desired Tenant, Not for You
You need a reliable tenant if you want to minimize tenant issues (and have reliable rental income). A reliable tenant stays many years, takes good care of the property, and always pays the rent.
You maximize the odds of always having a reliable tenant if you buy a property that matches the housing requirement of a tenant segment with a high concentration of reliable people. We did this when we started our investor services business over 16 years ago, targeting a segment with a high concentration of reliable people.
Here are our results:
- We delivered more than 500 single-family rental properties.
- Zero decline in rent and zero vacancies during the 2008 financial crash.
- The COVID-19 pandemic had almost no impact.
- The eviction moratorium had almost no impact.
- Our average tenant stays over five years.
- We’ve had six evictions in the last 16 years (out of over 1,000 tenants).
- Our average tenant turnover cost to the owner is $500 (due to minimal damages).
How Do You Target a Specific Tenant Segment?
Every tenant segment has specific housing requirements, and people are unlikely to rent a property that does not match all of their requirements. If you select properties similar to what the target segment is renting today, most applicants will come from that segment because their housing requirements match the characteristics of your property.
How do you find out what your target segment is renting today? By interviewing multiple local property managers. Once you’ve identified the correct segment through interviews, purchase properties similar to those they are currently renting.
Screen Your Tenants Skillfully
Even if you select a property that attracts the right tenant segment, not everyone in the target segment is reliable. A property manager skilled at selecting reliable tenants can save you thousands of dollars.
For example, I know a property manager who believes the FICO score is the most important selection criterion. This is not true. For example, suppose the tenant has a high FICO score and:
- They smoke in the property, resulting in expensive odor eradication when they move out.
- They constantly turn in minor repair requests, eating away at your profitability.
- They have a history of moving every year, which results in high vacancy and renovation costs for you.
I could elaborate further, but the FICO score is only one factor in tenant selection and not necessarily the most important.
For example, one of my best tenants had a 530 FICO score. This was a family with a child who became seriously ill, and they had no medical insurance. They ended up with a $480,000 medical collection against them.
Before the medical event, they had a high FICO score and owned a home. Due to the medical collection, they had to sell their home and rent. They will be long-term renters because they cannot buy a home, car, or anything else with their FICO score and medical collection. The last time I checked, they had been in the house for over six years and always paid the rent on time.
The point is that you need to work with a property manager skilled at choosing reliable tenants—a skill few possess. There are only two property managers in Las Vegas that I would trust to select reliable tenants.
Final Thoughts
The best way to prevent tenant issues is to not put problematic tenants in the property in the first place. This begins with purchasing properties that match the housing requirements of a segment with a high percentage of reliable people.
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Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.
