Updated: Jan 9, 2021
It’s a common knowledge that rent increases play a major factor in wealth creation in real estate. When investing in multifamily properties there are two ways to earn income: rents and appreciation.
The main and immediate source of wealth creation is the opportunity to earn income on a monthly basis from rents and fees, such as application fees, pet fees, etc. The second way is making money on appreciation when the property sells. One of the main goals of the sponsor is to increase the income earned from rents and fees during the period that the property is held, as well as to maximize the appreciation potential by selling the property at the highest price possible.
A multifamily value-add deal presents the opportunity to improve the property and increase rents. It’s pretty straight forward. The value-add plan may include renovation or rebranding of the property, including interior or exterior improvements that will attract renters who will be willing to pay higher rents. In a heavy value-add deal, the sponsor will reposition the property and completely change the tenant base, bringing tenants that are able to pay higher rents.
But the first place to start is to see where the property’s current rents rank in the market. The main question remains: how can an investor verify the future rent increases when they buy the property? How can they make sure their rent projections are solid? The process of answering this question and analyzing the market is called “rent comps analysis”.
View Rental Comparables
One of the first places to start when looking at rental rates is to view reports of comparable rents at other properties in the area. Compare your property to similar multifamily properties that are within 5-years of age of your property. Check rental rates on properties that are located with 1-3 miles that have similar amenities to your property.
There are services that provide this information, including CoStar, YardiMatrix and REIS, but these services can be expensive. CoStar offers real-time information and market analytics on over 400 markets and is widely used by property managers. YardiMatrix can provide rents, occupancy rates, along with short and long-range forecasts of rent and occupancy at the market level. And REIS offers a variety of analytics and research reports.
Another alternative is to use Rentometer.com. This website is free, however, it doesn’t have any adjustment to number of units and vintage, so an 8-unit apartment building can be compared to a 400-unit apartment building, which are not really comparable. The same goes to comparing a building that was built in the 70s and one that was built in 2016. Though it’s good to know what’s out there, these two building are not competing with one another and should not be considered as comps.
Another option is to call around the market to learn what rents are being charged, or visit the comparable properties to actually see what they have to offer. That’s the best way to judge comparable properties, as online photos and ads can be manipulated to make the rental unit appear more attractive than it actually is.
Look at Price Per Sq. Ft.
The most accurate way to compare rents is to compare how much is being charged per square foot. Assuming the units are comparable, square footage provide a baseline to work from and provide a barometer on what the market will bear. Otherwise, you are not comparing apples to apples, because the rent for a 1,000 sqft 2-br apartment cannot be compared to a 1,200 sqft 2-br apartment.
Find True Comparable Properties
When doing rental comps, be sure to compare like units. If you’re looking at rents for your 2 bedroom, 2-bath apartments, be sure to compare it to similar unit in order to be accurate. Be sure to check out the competitors’ amenities as well. Do they offer a clubhouse? Covered parking? Pool? Gym? Are there any washers and dryers within the units? All of the amenities can impact the rent. if you found a property that charges $1.30 per sq. ft. and your property charges $1.10, you might be able to increase rents to match the comp, but only if both properties have similar amenities. So, if the other property has a nice pool and a dog park and you have neither, then it’s not a true comp, and renters might prefer to pay more to get access to more amenities. Same goes for level of unit renovation; if the other property has been recently renovated and yours is older (assuming the property construction year is similar), then you can raise rents, but only if you renovate the interiors.
One of the ways to judge rental prices and potential rent increases is by analyzing how the market is performing. A strong market with strong demand will support rent increases. A good indicator of a strong market is when population increases are occurring due to employment opportunities. In markets that haven’t seen a lot of new multifamily construction, it’s important to analyze the improvements other multifamily properties have undertaken.
Looking at the market’s organic growth is another indicator. Organic growth is rent growth due to increase in demand, and not because of improvements to the property. You can find information about population trends and growth projections on www.city-data.com and www.census.gov.
Visit with the Property Manager
Discussing rents with the property manager could be your best bet in determining whether rents are appropriately priced or not, and if there is an opportunity to increase them. The property manager should know the rental market better than any online service, as they live and work in the market and have an excellent knowledge of what their competitors are charging tenants.
The property manager may have viable suggestions on ways to increase rents, as they’re the ones that hear everything from the tenants firsthand. Their knowledge of the property puts them in a unique position to suggest potential improvements and additions that could justify rent increases. They’ll know what type of upgrades the locals are interested in and what the next door building is offering and give you a good overview of the market so you can understand what you need to do and what upgrades are necessary in order to be competitive in the market.
I always visit the property with the property manager and get their perspective on the rents and the likelihood to increase them. After all, they are the ones who will manage the property and find tenants that will be able and willing to pay for the new rents.
Determining rent increases requires some work but it’s worth the effort in the long run. By analyzing the market, comparable rents and discussing rent increases with the property manager you’ll have a realistic number to charge tenants. Increasing rent is a key to increasing profitability but you want to make sure that the increases are realistic.
About the author
Ellie is the founder of Blue Lake Capital, a real estate company specializes is multifamily investing throughout the United States. She is also the host of a weekly podcast called "That REllie Happened?! Unbelievable Real Estate Stories with Ellie", a podcast that brings the true stories behind the deals, from the most successful real estate investors around the globe. Ellie started her career as a commercial real estate lawyer, leading real estate transactions for one of Israel’s leading development companies. Later, as a property manager for Israel’s largest energy company, she oversaw properties worth over $100,000,000. Additionally, Ellie is an experienced entrepreneur who helped build and scale companies by improving their business operations. She holds a Masters in Law from Bar-Ilan University in Israel and an MBA from MIT Sloan School of Management.