When managing a rental property, cash flow should be one of your highest considerations. Cash flow, of course, refers to how much money you have coming in from rent compared to how much money you’re spending on things like your mortgage, property taxes, insurance, and ongoing maintenance.
Ideally, you’ll be able to make a profit of a few hundred dollars per month, per family property in your portfolio. Assuming you’re able to establish that, your cash flow should remain relatively consistent for at least several months, since your loan conditions won’t change much, and your tenant will likely be contractually obligated to pay a fixed amount every month.
However, there are some conditions that can slow down your cash flow significantly, so it’s important for you to take proactive action to correct it.
How Cash Flow Falls
These are the main reasons why your cash flow could be interrupted:
- Falling rent prices. There’s a chance the rental prices in your area could fall significantly. This could happen in response to a wave of criminal activity, falling test scores, a large movement of people away from the area, changes to job availability, or any number of other factors. If this happens, your tenants may demand lower rent prices to match the surrounding area; if you don’t give it to them, they may leave. Either way, you’ll end up with less income every month.
- Vacancies are the biggest cash flow killers in rental property. If your property isn’t occupied, you’ll make zero dollars, but you’ll still be responsible for any ongoing monthly expenses. Your revenue model should include some excess funds to compensate for vacancy time, so a month or two won’t hurt you long-term. However, if you face a vacancy for more than a couple of months, your property’s profitability could plummet.
- Missed payments. You might also experience a holdup in cash flow if your tenants frequently miss their payments, or miss multiple rent payments. It’s not a big deal if they plan on paying you that rent a bit later, but it can interfere with the cash you have on hand—and if they end up leaving without paying you what they owe, you’ll either end up with a loss, or a legal headache trying to get that money back.
- Maintenance and repair costs. Your cash flow can also weaken during months of especially high maintenance and/or repair costs. Again, your budget should accommodate at least a few instances of repair per year (between 1 and 4 percent of the home’s value per year, depending on who you ask). However, your rate of repairs will not be steady or consistent. Some years will require heavy investments and large costs, while other years will be almost completely hands-off. You’ll have some months that require multiple expensive repairs, and when they hit, your cash flow can take a nosedive.
- Insurance and tax costs. Though not often, your monthly payments for property taxes and home insurance will occasionally increase. When this happens, you’ll owe more money every month—but you might be temporarily locked into your current rent prices.
- Management costs. Finally, you may experience lower cash flow if you enlist the services of a property management firm. The flip side here is that all your other responsibilities and stresses will disappear; the management firm will take care of things like repairs, tenant issues, filling vacancies, and maintaining the property, so while your cash flow may be reduced, your workload will be reduced as well.
Options for Improvement
So how can you turn the situation around and maximize your cash flow? Most of your options come in the form of prevention:
- Choose your properties carefully. Some neighborhoods are going to be more prone to volatility than others. It’s impossible to correctly predict the trajectory of neighborhood rent prices 100 percent of the time, but with a bit more research and critical thinking (not to mention experience), you can select properties with a greater likelihood of increasing in value over time.
- Screen tenants and keep them happy. Your first instinct, upon experiencing a vacancy, will be to fill the vacancy as quickly as possible—after all, the faster you get a new tenant, the faster your cash flow will be restored. However, it’s almost always better to wait, screening your tenants carefully and only accepting tenants with a strong history of on-time payments. You’ll make a short-term sacrifice to your cash flow, but you’ll end up with tenants who stay longer and pay more consistently as a result.
- Opt for lease agreements. There are advantages to offering rental agreements with a great degree of flexibility, including month-to-month rentals, but it’s usually more advantageous to offer long-term lease agreements of 12 months or longer. This can help you lock in your rental prices for a longer period of time. They aren’t a guarantee that your tenants will stay, but they can help you create better models for your future revenue, and attract more serious long-term tenants.
- Set aside a cushion for unexpected developments. You should always budget conservatively, and establish an emergency fund to help you deal with unexpected developments. For example, a tenant might choose to move out early for a new job opportunity, or your roof might suffer major damage that needs immediate repair. Having a financial cushion to fall back on will mitigate the short-term risks of low cash flow, and will buy you time to recover from the incident—whatever it may be.
- Plan to occasionally raise prices. Some expenses will increase no matter what you do. To compensate for them, plan to incrementally raise your rental prices. Small increases—those less than 5 percent—will rarely be met with much criticism from your tenants, so long as they aren’t too frequent. Make sure you’re able to justify those increases with cost increases that you’re facing (or rising rent prices in your neighborhood).
Are you tired of dealing with the stress of managing cash flow by yourself? Are you interested in preserving a line of revenue while letting someone else handle the core responsibilities of property management? Contact Green Residential today to learn how our property managers can help you keep your rental property in top, money-making condition for the lowest ongoing monthly rate.