· Turnover is one of the most expensive parts of owning multifamily real estate. Not only do you have an empty unit that is not producing any revenue but, you are spending money to make it ready for another tenant. Both of these things added together to show the true cost of vacancy.
· Calculating the Actual Cost of Turnover
o When you are reviewing the financials of an apartment complex; it should break down the actual vacancy, and in most cases, the make rent costs for units. Some properties might lump together the make-ready costs with repairs and maintenance but for the purpose of this episode, let’s assume you have a small multifamily property with 5 units.
o Larger, stabilized complexes with 50+ units will normally use a 5% vacancy rate as their target vacancy rate. Much larger properties that are also stabilized might use a slightly lower number. The smaller the complex, the higher the vacancy number (in most cases).
o For our example with a 5-unit property, let’s say that 4 of the units turnover every year, and the units are vacant for 45 days each turnover or 1.5 months. That is a 10% vacancy.
o If only 3 tenants move per year, that is a 7.5% vacancy, which doesn’t sound bad for a 5-unit complex.
o However, when you add in the make-ready costs and other expenses, it can become very expensive. What are the other expenses? For this example, let’s just assume you are cleaning, repairing small things, possibly painting, and re-renting, with no major renovations.
§ The total turnover expenses would include:
· All of the make ready; the repairs, painting, and cleaning,
· The utilities for the unit during vacancy; electric, possibly gas; this can get expensive during the winter in northern locations
· The marketing expenses for the unit – larger complexes have consistent marketing but smaller complexes really just advertise as vacancies happen
· The leasing expenses for the unit, if you are using an agent or have a management company, you will need to compensate them (usually a half to 1 month of rent)
· It is not abnormal for make-ready to cost $500-$1,000 or more (depending on how long the tenants were there, and the condition it was left in)
· A unit that is vacant for just 30 days, that normally rents for $1,000, might end up costing the landlord $1,000-$2,000 plus the cost of the lost month of rent.
§ Now, the silver lining; if the last tenant was paying say $850 or $900 a month, you are now getting a $100-$ 150-month rent increase. This helps to cover some of the turnover expenses.
§ Turnover has some benefits; you are able to now achieve full market rent since most landlords are behind on rent increases (known as loss to lease).
· You are able to do a thorough review of the unit. Sometimes it is difficult to get into units and make repairs that otherwise might have been difficult with a tenant living there.
o If you are performing renovations to the unit during the vacancy, and you plan to recoup your renovation costs in 3-4 years; this vacancy will be a great investment, and your property will increase in value but, you need to make sure the renovations make sense (that the neighborhood can support the renovations and the rent increase). Certain renovations I will perform on a unit depending on when the investment is returned, if the unit renovations will correct, any other issues.
o For example, if you had a leaking roof at your property, and that since has been replaced but, it did damage to a kitchen, and the tenant is moving out. I might opt to renovate that unit, even if the payback is 5 or 6 years since you are going to pay to make repairs either way, you might as well get a return on the work being done, and the repairs alone, are not going to increase your income.
· So How Do You Avoid Turnover Costs?
o Be a tentative landlord – when there are issues or concerns, address them. Even if you are not going to make the upgrades they want, respond; and when there is a real issue; get it taken care of as soon as possible.
o Be mindful of rent increases; double-digit rent increases on renewal leases, are not going to keep tenants in your units for years to come. They may resign once but, they probably won’t stick around.
o When there are vacancies, prepare for them; start marketing the unit, right when tenants move out (don’t show the unit until it is 100% done). Get your handymen ready and scheduled before the tenants move out.
o Once tenants are out, you want to be out and in within a week, 2 weeks tops, and be showing the unit right afterward.
o Fully vet tenants; doing this upfront, will ensure you get great tenants.
o The goal is to keep tenants in your units for 24-36 months. Your turnover costs could be divided by 2 or 3 or more, depending on how many years you keep your tenants.