If Goldilocks was a residential real estate investor trying to figure out how to price a rental property, the story may have gone like this.
Goldilocks was faced with deciding how to price her rental unit.
She got out her calculator and came up with a number. “This number is too high!” She exclaimed.
So, she daintily (but diligently) pecked away at her calculator keys and concluded, “This number is too low!”
Then she researched some more and declared, “Ahhh, this number is just right!” And the amount of the rent was decided.
Pricing your rental unit is as much art as science. In this article we’ll examine both sides of that equation to come up with a formula or checklist-for-success to maximize ROI, and minimize leaving money on the table.
Before we tackle pricing strategies and tactics (what you want to gain), let’s examine what you want to avoid. That can be summed up in a question: How many months of missed rent can you afford and still enjoy a profitable investment?
Assuming you have a mortgage to pay, it’s likely that any vacancy lasting more than a couple of months will essentially cost you a full year’s profit on your rental. This being the reality, skilled property managers seek to fill vacant rentals within 30 to 60 days.
Erin Eberlin is a Landlords & Property Investments Expert. In an article she wrote for about.com she offers five excellent tips for setting the right rent. Here are Eberlin’s five tips and some of her commentary along with additional resource material that we have included and acknowledged.
1. Desirability of the Unit
Erin cautions to “not set a standard price for all one bedrooms or set a standard difference in price between one bedrooms and two bedrooms … unless the units are exactly identical.” Her reasoning is that prospective tenants will determine the slightest difference as a determinant of one unit being superior to the other. The answer: Charge different rents based on the perceived desirability of the unit. Other elements of desirability may include view, updates, amenities and square footage.
Know your market. That means what are current rents for comparable units. Some ways to research: • Craigs List • Local realtors • Newspaper and online ads • Other landlords • Call phone numbers on “For Rent” signs
3. Price to Attract Tenants
Tenants will be repelled by a rent set too high … or too low. Priced too high and your unit is perceived as not in keeping with the competition. Priced too low and your rental property is viewed as somehow being inferior.
4. Market Demand
Eberlin writes, “The basic rule of thumb is, when there is greater demand for your particular unit, you can charge higher rent. When there is less demand, you may have to lower the rent to attract tenants.”
Erin Eberlin notes that “many property owners … do not see an actual profit until they sell their property or until they have owned the proper long term. … if the unit is not benefitting you in some way each month, you have not set the right rent. Minimally, the rent should cover your mortgage payment, maintenance and repairs and vacancy costs.”
Many residential rental real estate investors also add property taxes and insurance to the above minimum budget considerations.
Professional organizations such as the Institute of Real Estate Management have more information on the income and expenses that come with different kinds of property.
New on the Scene – Dynamic Pricing Increasingly, dynamic pricing software is being adopted by landlords and property managers to decide rents based on realtime supply and demand. In an article published in CNNMoney the author, Les Christie, compares it to a Priceline.com for landlords. When demand is high, the software signals to ask for higher rent on vacant apartments. When demand drops, it advises lower rates.
The added benefits are:
According to Andrew Rains, president of the multifamily division at Rainmaker Group, dynamic pricing is now used to determine the rent for some 5 million apartments. That is about 30% of rentals handled by professional managers, up from 10% just a few years ago.
Now let’s take a look at a pricing strategy to maximize rental income and minimize turnover as published in Financial Samurai. The author’s premise is, “I hate turnover and I don’t know many tenants who enjoy the process of moving either.” The answer is to offer a pricing incentive based on duration.
A pricing incentive based on duration is to entice a tenant to stay for a second year or more. That encouragement is in the form of a discounted rent in the second and subsequent renewal years clearly set out at the time of the lease signing.
As stated in the article, this “pricing strategy drastically increases the probability of the tenant staying for more than one year because not having to move AND getting a price decrease is too attractive a proposition to pass up.”
Finally, be sure to prepare your property to rent. So, armed with the foregoing … do your homework, seek helpful resources, price objectively, spruce up your property … and don’t be greedy.