Building a cash flowing rental portfolio is one of the greatest achievements for real estate investors. Acquiring and managing several profitable rental properties is perhaps the pinnacle of real estate investing. Few exit strategies award investors with the financial freedom that has become synonymous with a properly built rental portfolio. For a rental portfolio to produce attractive returns, however, there’s one thing it must do more than just about anything else: charge a competitive rental rate for each of its subject properties. Too high, and the rent may scare away tenants; too low and investors could leave a lot of money on the table. Therefore, it’s of the utmost importance to know exactly how much to charge for rent.
The single greatest factor used to determine how much a landlord can charge for rent is the price point set by similar, nearby rental properties. Otherwise known as comparables (or comps), similar real estate assets within close proximity to the subject property will influence an asset’s rental price more than every other indicator. If for nothing else, an investor’s asset needs to conform to the local market in order to compete with the products of other landlords. That said, it’s not enough to simply compare your property with any one that’s close by; you need to look at the right properties. Identifying viable comps will help investors set the price of their own asset.
By definition, comparables are similar to the subject properties, but the degree of their similarity may not be so obvious to those who are unfamiliar with the industry. Therefore, investors will need to look at comparables with a more objective view. In particular, there are several criteria investors need to pay special consideration to if they hope to land on a good rental rate for their own home:
Distance: The distance between the subject property and the comparable should not exceed five miles. Better yet, the comparable should be within the same neighborhood; the closer, the better. In a perfect world, however, the comparable will be located within a half mile radius and share the same ZIP Code. The radius may be extended as needed, but the farther the comparable gets from the subject property, the less dependable it gets.
Size: Trustworthy comparables need to be roughly the same size as the subject property. Ideally, the comparable will be within 20% of the subject property’s square footage. Again, you can look at comparables with slightly more than 20% of the subject property’s square feet, but the larger it gets, the less dependable the comparison becomes.
Room Count: A good comparable will boast the same number of rooms and bathrooms. However, it’s not always easy to find a comparable rental property with the same exact number of rooms and bathrooms. Therefore, you’ll once again need to find a comparable that’s as close as possible to the home you intend to rent out.
Building Type: It should go without saying, but the best comparables are those that maintain the same building type as your own. In other words, if you are hoping to evaluate a single-family home, the comparable should be nothing other than a single-family home. Do not attempt to compare a single-family home to a multifamily home, or vice-versa.
Age: The year the property was built needs to be taken into consideration. It is not wise to compare a new property with an extremely old one, as there will be a number of conflicting price ranges. As a result, investors will want to look at homes that are no more than 20 years older or newer than their own.
Finding a “comp” that meets these criteria will give investors a better idea of how much they can rent their own home out for. It is important to note however, that comps merely suggest a starting point, and only represent one variable of the rent equation. After you know how much similar properties are renting for, you may then account for the subsequent variables below.
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Comparables are the best way for investors to learn how much to charge for rent. However, make no mistake, comparables only suggest a starting point; they do not set a definitive rental price. If for nothing else, there are most likely no comparables nearby that are exactly the same as a subject property; there are always differences—small or large as they may be. Once investors have an idea of how much to charge for rent, they’ll need to fine-tune the price according to the subject property’s amenities. Amenities, after all, are one of the final differentiating factors separating the subject home from its competitors.
There isn’t a specific dollar amount assigned to each and every amenity, but desirable amenities will—at the very least—increase demand (which carries its own inherent value). Therein lies the trick to accounting for the value of amenities in a unit’s rental price: the demand they create. Consequently, here are some of the amenities investors may be able to charge more for in their own homes:
Location In A Given Community
There are countless amenities investors may use to gauge how much to charge for rent, but there is no objective value. How someone values hardwood floors will differ from one person to the next. Therefore, it is best to determine how much rent to charge based on the demand each amenity brings.
Discovering how much to charge for rent is a delicate process that involves a lot of moving parts. It is not nearly enough to simply throw a number out and see what sticks, nor is it a good idea to charge tenants what you “think” is fair. Instead, rental property owners must first reference comparables while simultaneously adjusting for amenities. Doing so will give landlords a good idea of where to start. However, everything we have talked about up to this point only represents the initial variable in an otherwise multi-step equation.
Once comparables identify a great starting point, the next step is to factor in the home’s market value. For the most part, the rates investors typically charge fall between 0.8% and 1.1% of the home’s true market value. This variable, combined with the rate other comparables are charging should give you everything you need to know. In the event the home has higher-end amenities than it is being compared to, investors may feel free to charge towards the higher end of the home value calculation. If, however, the amenities may not justify the higher end, it may be in the owners best interest to lean towards the lower end of the homes market value calculation.
Calculating how much to rent a home for isn’t a single variable equation; it’s the sum of several variables: comparables, available amenities and the home’s value. Once all of this data is collected, a homeowner can then settle on the best price to rent their home for.
Increasing the amount of rent an investor may charge isn’t as simple as making upgrades to the home; the key is to optimize every opportunity. While upgrades will certainly increase demand—which will most likely increase value—there are several other things investors may do to justifiably increase rents:
While technically an upgrade, it is worth noting that adding more rooms to a rental unit will typically increase the amount investors are able to ask for in rent.
Charging more in rent doesn’t necessarily mean higher prices. Sometimes avoiding vacancies can result in more rent, which can be accomplished through more efficient marketing. Consider improving marketing funnels to cut down on vacancies. Remember, a penny saved is a penny earned.
It has become commonplace for landlords to award discounts for tenants who sign long leases. Consequently, shortening leases gives landlords the ability to increase rents. Careful, however, as shorter leases may lead to more turnover.
When comparing rental units, tenants will often look at the cost as a whole. That includes everything: the internet, water, electricity, gym membership, TV, and more. As a result, it may be wise to include some services of your own. Try including the cable bill or some utilities to increase the amount you are able to ask for in rent.
Increasing the cash flow from a single rental property, or even an entire portfolio, could drastically increase returns over the life of the assets. However, investors are not advised to simply increase rents because they want to; no, they must give renters a reason to be willing to pay more. That way, the increase in rents won’t drive away tenants and lead to vacancies. As a result, increasing profits isn’t so much as knowing how much to charge for rent, but rather knowing how to add to the perceived value of the home. When you give renters something they are comfortable paying more for, increasing rent isn’t all that difficult of a proposition.