More than 2,000 years ago, Roman statesman Cicero said that “refusing to set aside trivial preferences” is one of the most common mistakes mankind makes.Clearly, Cicero was a landlord.
I’ve been a renter my entire adult life. So when I bought a three-unit property and started showing it to potential tenants, I assumed I’d be an ace at knowing what tenants want. After all, I’m a renter myself – right?
Turns out, my “trivial preferences” are totally different than everyone else’s.
I’ve always looked for spaces with character. I love cheerful, bright colours that burst from the walls. It’s flavour you’ll never find in a mass-produced market.
So when Will and I had to replace our home’s exterior siding (it was old and starting to rot), we painted the outside a vibrant, uplifting shade of blue. It’s a beautiful contrast to the drab colours on cookie-cutter homes – or so we thought.
But renters are startled by ‘something different.’
“Gee, that’s sure bright,” the polite ones would say. “Wow, it looks cartoonish,” the blunt ones would say.
Oh sigh. Here was my first lesson as a new landlord: homes are “cookie cutter” for a reason. Neutral tones are boring, but they’re socially acceptable. They sell better. They increase your chances of finding a tenant. Unfortunately.
This sounds like a small lesson, but it strikes at the emotional core of owning a home: To succeed as real estate investors, we have to set aside our “sense of ownership.”
When you buy a home, it’s natural to want to put your personal stamp on it. But this isn’t our home – even though we own it and we live in it. This space doesn’t belong to us – it belongs to our “clients,” the renters.
So Will and I had to stop thinking of this as “our” home. As we make upgrades we have to refrain from stamping our personality onto it. We must restrain our “trivial preferences,” as Cicero would say.
This space belongs to the renters. We’re just the guardians, the caretakers.
WHO CARES IF THE FLOORS ARE LOPSIDED?
Cicero’s lesson actually works to our advantage.
As I described in the previous chapter of this series, the house is lopsided. The floors and walls slant towards the centre, and the foundation is sinking into the ground.
I worried this would be a turn-off to tenants. Who wants to live in a lopsided house?
Turns out, tenants don’t care about that. Tenants and owners have different interests.
Owners care about the structural stability of the foundation. Tenants want to know how much the utilities cost each month.
If I could make one major upgrade to the house, it would be to get the floors and walls as level as possible. If I could make a second major upgrade, it would be to replace the piping or to move some walls around so that the human traffic flow is more intuitive.
That’s not what tenants want. Tenants want a nicer dishwasher.
Which is great news for me. A new dishwasher is easy to install. A major foundational shift is much tougher.
This makes it easy to rent the space. Washer and dryer in every unit? Done. Motion-activated security lights? Done. More insulation so that your utility bills are lower? Done.
These are relatively cheap and easy upgrades – and these are the upgrades tenants care about the most.
Cicero also said one of mankind’s mistakes is “the delusion that personal gain is made by crushing others.” Two millennia later, bestselling author Stephen Covey (7 Habits of Highly Effective People) rephrased this more succinctly: create win-wins.
This is the key to good real estate investing. Always create win-wins between yourself and your tenants.
Two months before the former owner of the building sold the place, he re-signed one of the tenants into a lease at a steeply discounted rate. Her rent was far below market value – and far below the rate that she herself paid the previous year.
After Will and I bought the house, we asked her why she drove such a hard bargain.
“My heating bills in the winter are ridiculous,” she replied. “I need the cheaper rent to make up for the high heating bills.”
We let her keep her below-market rent for the rest of her lease – we had to; the lease was signed and there was nothing we could do. But we showed good faith by installing $1,000 of new insulation in the attic above her unit. We added weatherstripping to her windows and re-sealed her ducts.
10 months later, when it became time for her to sign a new lease, we raised her rent $100 per month. She agreed happily.
This is a perfect example of a win-win. We’ll “earn back” our insulation cost in less than 1 year. She enjoys lower heating AND cooling bills year-round.
OK, LETS TALK MONEY.
Now for the question on everyone’s mind: Paula, spill your numbers.
We had a few financial upsets. City of Atlanta water prices are among the highest in the nation – we averaged a $350 monthly water bill when we bought the place. Our efficiency upgrades (low-flow shower heads, aerators on the faucets, glass jars in the toilets) lowered our water bill to around $250. Another win-win between our wallet and the earth.
But our insurance costs spiked. We thought we could buy ‘homeowners insurance’ for the building – and apparently our insurance company thought so, too, since they covered us for the first few months. Later our insurance dropped us when they decided we’re a ‘commercial’ property. Our new commercial insurance totals an astronomical $250 a month – far higher than we budgeted.
I nearly fell out of my chair when I opened my $1,200 bill for city trash service. Although we’re just a sectioned-off house, the City of Atlanta charges us for trash as through we’re three separate households – tripling our trash bill.
So our total monthly costs – higher than expected – amounts to $2,500, excluding repairs and upgrades. It fluctuates depending on the water bill and variations in property tax, but that’s a reasonable average.
For the sake of budgeting for emergencies, we assume each unit will be vacant for one month a year – which will cost us $3,100 per year in vacancy loss. We also set aside $3,000 in “standard” maintenance costs per year (such as replacing the roof or hiring a property manager if we ever move away from Atlanta). This means our total yearly costs come to $36,100.
The rent brings in $1,650 for the three-bedroom unit ($550 per bedroom), $700 for one of the one-bedroom units, and $750 for the other one-bedroom. That’s a yearly gross income of $37,200.
In other words, this home is cash-flow positive at a rate of only $1,100 a year. This doesn’t sound like much, but remember: I’m using ultra-conservative numbers. I’m assuming that we lose $3,100 a year to vacancies. So far – knock on wood! – we’ve never had a vacancy.
I’m also assuming that we pay a property manager. Right now we manage it ourselves, which costs us time rather than money.
This means that our “actual” positive cash flow is about $6,000 a year. After setting aside some money for emergencies, we reinvest the rest into fixing up the house.
This creates another win-win. The tenants get to live in a progressively nicer house. Their rent money goes directly into improving their living space. And we get to fix the many (many!) problems in this 100-year-old building.
WHAT WE DO — FOR A LIVING
I should add that we live in one of the units, and every month we “pay rent” to ourselves. This requires discipline. It would be easy to forgo paying rent and blow our money on junk (or on another trip to Italy, which is tempting). For all the hours of unpaid work we put into this house — at least 15-20 hours a week — we could easily justify that we “pay rent” through our time.
It’s harder – but better – for us to ignore the value of our time, pay ourselves rent, and reinvest that money into the house for the benefit of everyone.
Oh yeah — and in case you’re wondering, we live in the cheapest unit. We share the three-bedroom unit with two roommates: one grad student and one recent college grad.
Will is 32 and I’m 28, so our friends ask: “Aren’t you too old to still be living with roommates?” By the time Will is 52 and I’m 48, those same friends will be asking: “Aren’t you too young to retire?”
There’s a stress trade-off to what we’re doing, though. We “live in our work.” We sacrificed quiet evenings at home. We spend almost every evening and weekend working on the house. If you calculate the amount of time we pour into this place – if you put a dollar value on our time – it’s a losing investment. For now.
But that’s how business start-ups work. In the beginning, you pour in hundreds of hours of unpaid work. Later, you reap the benefits.
So right now, we throw all our spare time at this project. But in 3 to 5 years, our hefty time commitment will be almost finished. As the decades roll by and inflation kicks in, our rental income will increase but our mortgage will stay the same. And in 30 years – OK, 29 years from now — we’ll pocket an inflation-adjusted equivalent of $17,000 a year (after expenses like taxes, water, trash and insurance) in passive income.
We want to buy another place. This house doesn’t qualify as our “primary residence” – even though we live in it – because it’s a “commercial property.” In theory, Will and I should each be eligible to take out a mortgage on a primary residence.
Last year the bankers told us to reapply for a “primary home loan” after 18 months of work history with the same employer. Will reached his 18-month mark in November. (I’m self-employed, so the banks want to see 3 to 4 years of self-employment history, which I don’t have yet.)
But we’re wavering on when to apply. We’d have to live in our primary residence, and we’re not ready to move out yet – not until we’re done with our “part-time job” on our current fixer-upper.
In the meantime we’re saving for a down payment on another house. Will we qualify for a loan? Time will tell. But if we do – WHEN we do – you, my readers, will be the first to know.
Read more posts on Afford Anything »
Business Insider Emails & Alerts
Site highlights each day to your inbox.