Strategies For Maximizing Rental Income

I currently own a total of 22 rental units, 9 single family houses, 1 6 unit apartment building, and a 7 unit mixed use building.  I have grown to this level in 6 years.  During this time I have had the opportunity to learn of several methods to maximize rental income. After reaching more than a few units it is possible to gain more net income from optimizing existing rentals than by purchasing new ones, especially with interest rates as high as they are now.

 

The Units Themselves:

Bedrooms: The number one way to increase rental income is to “find” an extra bedroom.  Typically rental rates are based on number of bedrooms.  In my market a 3 bedroom typically rents for around $200 more than a 2 bedroom, and a 4 bedroom rents for about $200 more than a 2 bedroom.  Finding an extra room to make a bedroom will greatly increase the revenue of a unit. A bedroom needs a heating source, an egress to outside, and a certain square footage amount (varies by state). Some states may require a closet, Michigan does not.  Adding a basement bedroom is the most difficult, which I have done once. This required cutting into the brick wall to install an egress window.  I have added an extra bedroom in 2 other houses by turning a “den” or “office” into a bedroom. Always look for these opportunities when buying a new property or in between tenants.

Appliances: I typically include a stove and fridge in my units. Our lease is written so that the tenant has use of these, however the landlord is not repairing or replacing them.  Effectively we give them a working stove and fridge, and after that they are on their own.  I hate replacing appliances for tenants.  Even if I can prove that they damaged the appliance, I still have to coordinate moving them in, moving them out, and on short notice.  I typically acquire these initial stove and fridge from a local used appliance store near me. I can often get a stove and a fridge for $600 combined.  Providing a stove and fridge can easily add $50 to the rent over a property that doesn’t include them, and this lease clause keeps me from being an appliance repair man.

I have not gotten into washer and dryers yet, but that is another possibility. I know of another landlord who rents washers and dryers to tenants, so he discusses if they want a washer and dryer before move in, then charges $50 a month to provide a washer and dryer.

Storage: Storage is an easier upsell in apartments.  My apartment units average around 600 square feet, there is not a lot of storage space.  Most storage facilities start at around $70 a month for a 10 X 10 space.  providing storage on site can be a win win for both the tenant and landlord. I am in the process of adding storage to the basement of my 7 unit building.

 

Financing:

Financing can be tricky. With interest rates where they are now at around 7% for non owner occupied loans, the interest expense really digs into the cash flow.  When I started out I got all of my properties on 15 year loans and most of these were around 4%.  Common advice is to refinance every 7 to 10 years to pull out equity.  My goal isn’t to pull and deploy new equity though, my goal is to maximize cash flow with what I have.

Refinance:

I’m actually in a spot now where I could increase my cash flow by refinancing 3 properties into 1 loan, even though I would be paying more in interest.

Current loans:

  • Property 1: $54,800: $459/mo
  • Property 2: $36,203: $337/mo
  • Property 3: $22,299: $209/mo

In total I am paying out $1,005/mo in Principal and Interest on these 3 properties. If I were to get a new 30 year mortgage at 7% on Property 1 (which is worth around $180,000), it would be for $113,000 and replace all 3 of these loans.  I would be paying $750/mo, increasing my cash flow by $250/mo. This would certainly be more appealing if there was not a 3% spread in interest rates.  If interest rates were at 5% instead of 7%, then my mortgage for a new loan would be for $606, I would increase my cash flow by $400, my monthly interest payments wouldn’t increase by a lot, and I would be able to take better advantage of “inflation induced debt destruction” by getting a 30 year loan.

 

Loan Pay Offs:

Alternatively, I could increase my cash flow by paying off existing loans, even if they are low interest. The first loan to pay off is my Heloc.

My Heloc has been used for acquisition and rehab costs.  Currently I have around $130,000 on my Heloc. This is 100% of the cost for the 7 unit building, the brick house and rehab, the rehab on the house near us, and a small chunk remaining on the rehab of the 6 unit building. What’s great about paying down the heloc is that as I pay it down I see an immediate increase in cash flow.  My heloc is currently at 7.75%.  If I pay down $10,000 on my heloc I immediately save $65 a month.  The Heloc also happens to be my highest interest rate debt.

After my heloc is empty, rather than working from highest interest rate to lowest, I would attack the lowest balance mortgage. This is because there is no increase in cash flow unless the mortgage is entirely paid off. For me, this would be my mortgage of $22,299 with a payment of $209/mo.  My payments are $2,508 per year.  Spending $22,000 to pay this off would be effectively buying cash flow at an 11% rate.

Paying off properties either through refinancing 1 property to absorb the debt of others or through paying the balances off directly from cash flow and savings has the additional benefit of making the property “free and clear”. This cleans up finances to some degree and gives a peace of mind.  Sometimes the intangibles are worth it.

Rent Increases:

Rent Increases are necessary for long term rentals. I have known many landlords (and even more non-landlords) who talk about how it is noble to not raise rents on tenants.  They say that keeping a good tenant is better than dealing with turnover for $50 or $100.  To some degree this is true.  I typically do not increase rent on the first renewal, but I do after they have been there for 2 years.  Inflation is real. prices go up and as the landlord providing housing I should not be the one getting squeezed by inflation. No other service provider is expected to eat inflation.

Long term not increasing rents creates a value trap. The tenant realizes they have a good deal and that moving out would be too costly an increase for a similar property, so they choose to stay.  The landlord decides because they stay and pay their rent to keep renewing at the same rate.  Then tenant, wanting to keep a low profile never mentions any maintenance issues, because they don’t want to draw attention to themselves.  Slowly the property accumulates maintenance issues and the landlord loses more and more money.  The difference in year 1 was $50 or $100 but across 5-10 years could easily be $500. $500 a month, every month forever…and increasing!  The landlord could afford a down payment a new property every other year if not providing this subsidy. Then multiply this across 5 to 10 units. Also, because the tenants never move out, the unit is never listed for rent, and therefore there is a shortage of supply on the market, pushing rents for everyone up.

My goal as a landlord is to provide safe, clean, functional, affordable housing to as many tenants as possible. In order to do this I need to respond to what market rates are. There is nothing wrong with being on the lower end of market rates, as long as you are in line with the market. If market rate for a 2 bedroom house is $1,200 a month, then renting it at $1,100 to keep a decent tenant is OK. renting it at $1,100 for 5 years straight when the market rate is $2,000 is not OK.

For this year I am increasing rents on 8 long term units. 4 of these are units that have been well below market rate for years.

Rental Strategies:

Rental strategies is the concept of how you decide to manage your property.  Here are some different choices:

Long Term Rentals: This is straight forward, typically 1 year leases at a fixed rate, say $1,000/mo from Jan 1 2024 to Jan 1 2025.

Section 8 Rentals: The Section 8 program is a government program where essentially the federal government is paying most of, if not all of the rent for a low income tenant.  The program is fairly complicated, but there are some situations where Section 8 pays better than what a market rate rental would.  HUD “Fair Market Rents” are based on a large geographical area, so typically renting Section 8 units in a lower value neighborhood works out better than in a higher value neighborhood.  Section 8 FMR are based on bedroom count, so once again, having more bedrooms is advantageous.  The FMR rate includes rent and utilities.  When the landlord does not provide the utilities, then that amount is subtracted from the FMR to get the max rent Section 8 would cover for the unit.

Here is where apartments come into play.  Section 8 does not distinguish between single family homes and apartments for the fair market rent, however it does for the utility allowance.  The utility allowance is typically lower for apartments anyways, and with apartments a landlord has major scale improvements by offering to cover water, trash, sewer, and water heat.  All of these don’t cost that much more on a per unit basis, but have a large fixed cost. For example, I am spending around $60 a month on the water heat for my 7 unit building.  It has 1 large water heater. If I had 7 single family houses, each one would need a $1,000 water heater, and each one would cost around $50-$60 to operate.  I have 1 large dumpster that costs $90 for the month.  A single trash cart costs $30 a month, so past 3 units, the multi-unit is more cost effective.  7 houses that each use 2 units of water will each have a $70 water/sewer bill for $490 total. 7 units using 14 units of water will have a single bill of around $150 a month.  By providing most utilities Section 8 landlords with apartments buildings can end up renting for much higher than on the open market.

For Example:

I have a 3 Bedroom house rented on Section 8 where the tenant covers all utilities.  I will be able to have a 3 bedroom apartment on there when I replace the windows in the unit.  For this one the tenant pays only electric with electric heating. Here’s how these 2 compare:

3 Bedroom House:

  • FMR:  $1488
  • Nat. Gas heat -$50
  • Elec Cooking -$17
  • Elec water heat -$46
  • Other Electric: – $88
  • Water: -$70
  • Sewer: -$91
  • Trash: -$18
  • Gas Service Charge: -$14
  • Electric Service Charge: -$10
  • Max Rent Allowed: $1,084

This is less than the $1,200 I could likely get on the open market.

3 Bedroom Apartment:

  • FMR: $1488
  • Electric heat -$70
  • Elec Cooking: – $17
  • Other Elec: -$60
  • Elec. Service -$10
  • Max Rent Allowed: $1,331
  • The actual marginal cost of providing water and sewer is around $25.
  • The actual marginal cost of providing hot water is around $7.
  • The actual marginal cost of providing trash service is $0.

This is $431 more than what I am finding market rate tenants for.  It certainly highlights the need to look into those window replacements ASAP.

 

Mid Term Rentals: These are typically 2 months to 6 months in range.  Leases are often month to month and are more likely to have utilities included in the price of rent and to be furnished. The monthly price of rent is therefore higher to account for this and for the shorter lease.  A major advantage with mid terms is that the landlord can increase rents much more frequently to stay in line with the market.  Mid terms require A LOT less work than short terms. I would expect to charge enough money to cover all utilities and then another 25% of what rent would be on a long term, so perhaps the base of a $1,000 rental would increase to $1,200 to include utilities, then to around $1,450 to account for it being mid term.

Mid term rentals are typically people travelling for work and people in between housing.  In the last year we have seen a large increase in our Airbnb listings booking for mid term rentals, people looking to stay for 2 months or more.

Short Term Rentals: This is typically anything in the 1 night to 2 month range. These are typically listed on Airbnb or VRBO.  I am making around double with STR what I would with an LTR for the units I have on the system. There are some months where it is much higher than that.  With short term rentals you provide the furniture, utilities, snow removal, and mowing.  Then there is the added hassle of flipping the units consistently.  In addition to the money, one thing I really like about STRs is that I get my unit back! It is much easier to stay current on maintenance items.

House Hacking: House Hacking is the idea of renting out a house by the bedroom.  Before going this route it is important to know what is and is not permitted in your municipality.  Years ago I had a long term tenant without my knowledge turn my 5 bedroom house into a house hack. I found out about it when I received a formal cease and desist from the township police to stop renting individual rooms out because it was against their ordinance. The cops found out this was happening due to a domestic disturbance there.

To house hack you would certainly need to be ready to deal with some drama.  There needs to be agreed upon house rules, designated parking, designated common areas, and designated shelves in the kitchen and the fridge. House hacking is probably the highest ROI for the same house.  That house that rented out at $1,000 a month may be able to rent each bedroom out at $700 each.  Now the house is making over 2X what it would as an LTR.  “Find” another bedroom by turning a den into a bedroom or cutting a master into 2 smaller rooms, and it goes to $2,800 in rent.

Order Of Operations:

The Order Of Operations is huge.  With 22 units I am often in situations where I have more than 1 project to do at once.  I ask myself 1 question “What is the shortest course of action to increasing cash flow?” And the answer is what I will work on.

The unit that is done but not rented out is priority 1 until there is cash in hand.  The STR that needs a broken window pane replaced to relist it is next.  The unit that needs a fresh coat of paint in the kitchen and a sink replaced is next.  The house that just had everything demoed is last. There are many times that I get down to only having 1 major rehab to work on, and then I need to press pause on it in because I need to flip a unit, or make minor repairs on another unit in order to return those units to service quicker.

Challenge Expenses:

Landlords have TONS of expenses.

Property Taxes: Aside from the interest expense on the mortgage, the next highest expense is generally property taxes.  Every year we receive a letter for each property informing us of the new assessment for the year. These assessments can be challenged. I have historically done this in writing, however since my success rate has fallen in the last 2 years, I will be challenging in person to the board of review going forward.

Insurance: The next biggest cost is insurance.  I typically load up on liability insurance but am as sparse as I can be on rebuild insurance. Most likely if any of my properties burned to the ground I would not rebuild. I am most concerned for liability.  Switching carriers can make a big difference as well. We switched our insurance carrier a couple years ago and went from $475 to $210 just on our 6 unit.  Having a high deductible also makes a big difference.

Utilities: Landlords should provide the bare minimum of utilities. I HATE providing utilities, especially variable utilities to tenants. Sometimes covering utilities is unavoidable.  In both apartment buildings I have replaced all lighting with LED. This was especially beneficial in the 7 unit which had hundreds of 2 X 4 fluorescent fixtures.

I spent over $3,000 to have the water heater in the 6 unit changed to an on demand tankless water heater. This thing costs around $25 to operate, or about $3 per unit per month. I replaced the likely 60% efficient ancient furnace with a new 96% efficient furnace.  My highest gas bill was in February and was $190 for 6 units! When we bought the property I couldn’t believe how low the gas bill was…it was $800 for the year, turned out the landlord set the temp at around 60 degrees and all of the tenants were using space heaters! The electric bill (paid by the landlord) was $6,850 for the year.  The electric bill this year was under $3,000.

Income Tax Planning:

Tax Planning is another major method to save money over the long term. Income taxes are already highly favorable to landlords.  There is no Social Security or Medicare tax owed on rental income, and many landlords can qualify for the QBI deduction, which is a 20% reduction in taxable business income! Beyond those 2 major benefits, here are some more:

Depreciation: Commercial properties are depreciated across 39 years, while residential is depreciated across 27.5 years.  This is a phantom expense because you receive cash and take a tax deduction but do not pay an actual expense in the year.  When the property is sold in the future a “depreciation recapture” is generally owed.  This can be avoided using a 1031 exchange to buy new property, or it goes away when the property is passed to heirs. I accidently found that 1 of my properties wasn’t getting the depreciation on my taxes.  I missed the depreciation benefit for 2 years.

Cost Segregation Study: I have never done this, however for more expensive properties, especially multi-family, it may make sense.  A cost segregation study rather than depreciating the entire purchase price of the property over 27 years breaks down all the items of the property: The appliances, the furniture, the flooring, the doors, the HVAC system, the parking lot, the roof, etc.  This study can allow for significantly accelerated depreciation, in some cases allowing a major portion of the purchase to be depreciated in the first year.

Mileage: Once again, I have failed to keep a complete mileage log so I am missing out.  My guestimate is that on an average day I travel at least 20 miles for rental activities. That would be 7,300 miles per year, at 67 cents per mile, this is almost $5,000 I could deduct from my income.  For 2025 I have got to keep a full log.

Ancillary Income:

Ancillary Income is anything that is in addition to the normal rent.  think of things like vending machines and coin laundry in multi-family units.  The easiest form of ancillary income for single family houses would be if there is a detached garage to rent the garage out separately.

Vending/Coin wash + dry:  In order for these to be profitable you need to have a relatively large multi0family property. I think it would be difficult for a duplex, or even a quadplex to be able to make enough from coin laundry or a vending machine to pay for the machine.

Rental Amenities: This can also tie back in to Section 8, although you could do this with market rentals as well.  Since Section 8 tenants are typically not paying for their rent, they have more disposable income than market tenants.  The amount of Section 8 rent is also capped by the Fair Market Rate minus any tenant provided utilities.  Now there is the opportunity to rent out extras for the units:

Washer and Dryer, ceiling fans, and dish washers are the primary three.  These are not required or expected in a rental, especially a Section 8/or low income rental. Effectively the landlord is entering into a separate contract with tenants and becoming something of a “Rent A Center”.  I personally have no desire to do this, but it is something that other landlords have found success with.  It’s a path to make an extra $50 to $100 per unit with relatively little initial cost.

Late Fees: I am working on a full article on late fees, but in general my goal is to never receive one.  I personally would much rather have my rent on time than every collect a late fee.  To achieve a high rate of on time payments I set my late fee relatively high.  Currently all of my leases have a $100 late fee. I don’t want to receive money late, because it effectively makes me an unsecured lender to my tenant, and I am not in the loan business.  If a tenant is going to choose to pay me last, it will cost them money.  I have very few tenants who end up paying late fees. In the last year I collected around $1,500 in late fees, with the vast majority coming from a single tenant.

Become A Bank:

Another strategy I love is the owner financed sale strategy.  This process is called Slow Flipping and I learned it from this book, The Art of The Slow Flip. Take a house, especially one that a tenant recently moved out of that needs some cosmetic work, and list it for sale by owner.  Have a $5,000 down payment and make the monthly payment just slightly more than what similar rent is.  For a 2 bedroom house in my area this would be around $1,000 a month.  This gives an opportunity for someone to be a home owner who can’t through the banks. This would equate to a $110,000 sale price, while the house on the open market would likely only sell for around half of that amount.

The way this works is that YOU are selling the house on a 30 year mortgage at 11%.  The tenant buyer is most focused on the monthly payment, while you are focused on the long term cash flows.  The way 30 year mortgages work is the interest is largely upfront.  The first $1,000 payment is $962 in interest income.  Over the life of the loan $255,000 in interest payments would be made.

The best part? You are not responsible for anything.  The tenant buyer is responsible for all maintenance. In most scenarios the tenants improve the house. Most people move after 7 years.  They either can: 1. sell the house and pay off your loan, which was at a much higher price than what market rate was, so if they sell it and pay off the loan you have a large profit.  The more likely case is that rather than sell it, they hand the keys back to you and move on.  Then you find the next tenant buyer.

What Strategies are you using the maximize the income from your properties?

John C. started Action Economics in 2013 as a way to gain more knowledge on personal financial planning and to share that knowledge with others. Action Economics focuses on paying off the house, reducing taxes, and building wealth. John is the author of the book For My Children's Children: A Practical Guide For Building Generational Wealth.

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