Why The Normal Property Management Business Model Fails
The Buy-and-Hold Rental Property Investor
When it comes to building a portfolio of passive income rental properties, the single most important decision you will make an investor will be the property management team that you choose. Clients are flocking to the turnkey rental property model for building their portfolio not only because they want consistent, above-average returns, but also because they want a peace-of-mind client experience. Both returns and a wonderful client experience are simply not possible unless you have world-class property management in place.
When we started JWB Real Estate Capital almost 10 years ago, the first thing my business partners and I did was go out and buy roughly 40 cash flowing rental properties for our own passive income portfolio. At that point, we managed these properties ourselves so we learned how to keep long-term tenants and maximize rental income.
What we found was that the property management business was not too difficult as far as understanding how it should be done. The things that make property management successful are not earth-shattering, but it does take people who care. It takes hard work and dedication. And when you’re managing your own properties, you get pretty good at it because – at the end of the day – nobody cares more than you when every action affects your bottom line.
Through this experience, we learned how property management should be run and what was possible to achieve as far as long term tenants, consistent rents and, ultimately, higher returns on investment. However, when you get to 40 rental properties, it is a lot to handle in addition to a real estate business which is actively servicing many other clients as well.
So our idea at that time was to go out there and hire the best property management company that we could. Keep in mind that as we transition our portfolio to a different property manager, we already had roughly 2 years of experience with these same 40 rental properties where we were able to keep long-term tenants and achieve high rents.
So we sent our portfolio over to the new property management company and it wasn’t long before tenants weren’t resigning and we were told to lower our expectations for monthly rental income. I wondered how it could be possible that in the span of a year the market rents had dropped considerably and, somehow, all of our tenants decided to move. It made no sense and it was very frustrating.
However, I should’ve seen this coming.
When I saw the Financials behind a property management company operates, I quickly understood why I am getting so frustrated with my old property management company. It was because most property management companies are not incentivized to keep long-term tenants nor are they incentivized to achieve maximum rents for the owner. However, as an owner, the way you win is by achieving high rents and keeping that same person in your home for as long as possible.
One of the biggest drivers of income for a property management company is what is called a “tenant placement fee.” Tenant placement fees are usually equal to one month’s rent and this is what the property management company earns when they put a new tenant in your home. For an average property that rents out for $950, the property management company will make $950 for tenant placement on day 1 of managing your property. Then, for the rent for the year, the property management company will earn $1,140.
That means we make just about as much day 1 as we do the entire rest of the year. Keep in mind that there is a lot of hard work that goes into collecting rent, handling any maintenance issues, inspections, etc., for an entire year.
Put yourself in the shoes of a normal property management company who is trying to grow their business. Are you going to stay up late at night thinking about how you can keep tenants in the homes longer? Of course not. That would decrease the amount of tenant placement fee income you would be earning – which is one of your key drivers of income.
This is one of the main reasons that most property management companies don’t sign long-term leases. They don’t focus on re-signing tenants. They will try to convince you that the rent you hope to achieve is unrealistic. If they can convince you that you should rent the property out for $50 below market rent, you just made their job of placing a tenant a lot easier. And what did it cost them in lost revenue from monthly management fees? $5 a month. Would you work twice as hard to rent a property out to earn an additional $5 per month?
You want someone who sees the big picture, is accountable to deliver returns and is financially rewarded when they do a good job. We brought property management in-house in 2010 to ensure that the property management team’s goals were completely in line with our owners.
JWB Property Management is different because we have to be if we want to win for our clients. The normal property management model just simply doesn’t work in the long run. We do charge industry standard rates on the property management side, including tenant placement fees, but our goal keeps that tenant in that home forever and never charge you another tenant placement fee. The longer we keep a tenant in your home, the lower the maintenance and vacancy costs you’ll experience, and the better chance we have of beating your return expectations.
We are also incentivized differently. We make the most money when we sell you a home, not by charging tenants placement fees. Our property management company is there to fulfill the services of selling you a turnkey investment property.
It’s pretty simple. Our clients come to us with big plans of building a substantial rental property portfolio of 5 to 20 houses, on average. If we are beating your return expectations, it would make sense that you are going to come back to us and buy many more homes with us. You’ll also probably tell your friends and family about us, which helps us sell more houses as well. None of this is possible if we are putting new tenants in your property every year.
Here are some numbers that reflect the different approach. In 2015, we signed 692 leases with an average duration of leases signed for 27 months. Most property management companies struggle to sign 12-month leases. We are also much better at resigning leases. On average, we resign between 60-65% of leases because we treat this as a sales opportunity for our property management team. The concept of you coming on board and buying a home with us which is rented for 2 years, and then it gets resigned for another 2 years, is quite common for our clients. That’s what we’re shooting for because that’s how we win together.
This is the essence of how we produce and deliver returns to clients over the years. If we can sign long term tenants and treat them like gold and keep them happy, a majority will resign their leases. We aim to keep tenants in your homes for at least 2 years because, if we do that, we give ourselves a very good chance of beating your original return expectations.
Gregg Cohen is the CEO of JWB Real Estate Capital. JWB Real Estate Capital serves clients in 12 countries and 37 states by helping clients build a portfolio of cash-flowing rental properties to create consistent, passive income streams. JWB has been recognized in the Wall Street Journal, New York Times, Bloomberg & Inc Magazine and other national publications. Learn more about JWB at www.JWBRealEstateCapital.com or call our office at (904) 677-6777 or email us at [email protected].
Disclaimer & Warning: Consult your tax professional when doing any self-directed investment. All the information provided in this blog is for educational purposes only and neither iPlanGroup nor JWB Real Estate Capital is not providing accounting, legal or other professional advice. Consult a financial professional before conducting any self-directed investment.
By: Gregg Cohen, CEO of JWB Real Estate Capital