One of the things that makes real estate investing so great is that there are different options for different tastes. A situation that you would may personally be staunchly opposed to, someone else may see value in. It doesn’t make either of you right or wrong, it simply boils down to personal evaluation. One of these scenarios is in buying rental properties in poor locations. On one hand a rental in a below average market may be available for a lower price, with subsequent higher cash flow. On the flip side the property will also have its share of challenges that not every investor has the time, or desire, to deal with. Only you can decide if these type of properties make sense for your schedule, portfolio and patience. The upside may be abundant but there may also be some unexpected headaches. Here are five potential problems with buying rental properties in poor locations.
- Resale: It is always important to remember that even the best rental properties will eventually leave your portfolio. Whether you want to simply liquidate an asset or move on from a property, they typically don’t stay forever. That is why you need to at least consider the resale value whenever you buy a property. The value you think is there may be much less than the market will bear. You don’t need to be in real estate to know that people want to live in the good locations. They will generally pay a premium for a nicer neighborhood and subsequently not pay as much for a poor market. When it is time to sell, you may be looking at a limited buyer pool, especially if the property has multiple units. You may be able to justify a lower sales price if you can squeeze years of positive cash flow from it, but at some point in the future the poor market may impact the finances of the property.
- Tenants: Rentals in poor locations generally come with poor tenants. Any landlord who has ever dealt with a bad tenant before knows just how much of a challenge this can be. Your life will be filled with constantly chasing rent, responding to phone calls and texts and resolving disputes. In most cases the issues are relatively harmless and nothing more than a bad use of your time. However, the worse the tenant the bigger the problems become. Bad tenants will slowly reduce the useful life of the property and become a constant bother. You can have the buffer of a property manager, but this will reduce the cash flow and your bottom line. If you decide to manage the property yourself just one bad tenant can engulf your day. It is because of this that many investors shy away from these properties, because they don’t want the burden of poor tenants. Not all rentals in bad locations produce bad tenants, but many of them do.
- Rent Increases: Value of an object is created by supply and demand. You don’t need to be an economist to understand that concept. However, it is important to remember when you are buying real estate. With properties in poor markets you may not be as able to increase the rent when you want to. Even if you add value to the rental through updates and improvements, they aren’t always reflected in the bottom line. Tenants who are influenced by price aren’t as willing to stretch their budgets. They may love the property and you personally as the owner, but they simply don’t have the means or desire to pay for it. Even if the market is on the upswing it doesn’t mean that your tenant base will catch up to it. Poor markets are not a desirable place to live and you are at the mercy of your demand. By increasing the rent you may outprice the market and leave you in a situation where you are scrambling to find a tenant.
- Evictions: Dealing with an eviction is one of the worst things a landlord could go through. Tenants with limited income have little margin for error in the event of an unexpected financial expense. Even the slightest alternation to their budget can have a trickledown effect to the rest of their finances. If the unexpected increase is large enough it may impact your rent. If you are forced to deal with an eviction it is a lengthy process that will hamper your bottom line. For starters, you are forced to cover the void in the rent received. Next, you would be wise to enlist the services of an attorney and have them start the official eviction process. An attorney can cost several hundred to several thousand depending on the specific situation and how much time is necessary. All the while you are trying to get the eviction dealt with you need to find a new tenant, which takes time and money and is difficult with a tenant in place. The chances of an eviction increase the worst the market.
- Decreased Rental Pool: Properties in poor, and unique, locations often have a decreased rental pool. As we stated the number of people wanting to live in these markets is slim. They generally live or work in the area, with few people outside the market entering. This makes it difficult for you to pick and choose from a wide array of tenants. You can also screen to find the best fit, but your pool won’t be as attractive as you may think. This leads to choosing between the best of poor options instead of truly finding the best qualified tenant. This often leads to problems with tenants down the road.
If you see value in a property, regardless of market, don’t be afraid to follow through in your convictions. Just know that these are some of the potential issues you may face. You won’t face them with every property, or even in every lease, but the potential does exist.