Capitalization Rate or “Cap Rate” is a ratio used by real estate investors to determine the desirability or profitability of a specific property. This ratio compares the relationship between the property value and the potential income that property may produce as if you had paid cash for the property.
While there are certainly more sophisticated analytical tools we can use when evaluating rental properties, cap rate is a good quick reference tool used to assess whether or not a property is even worth considering.
We use this formula when we are working with our investor clients. Knowing property values and rental rates along with a good sense of average repair and maintenance costs and potential vacancy rates allow us to calculate a rough cap rate on the fly.
As we narrow down the properties our client is interested in, we can do a more precise calculation prior to making an offer on any properties.
Cap Rate is established by dividing the Net Operating Income (NOI) of a property by the value of that property. The cap rate essentially shows the relationship between the property value and the potential income that particular property could produce. The higher the cap rate the more attractive the property is.
Let’s look at the Net Operating Income half of the cap rate equation. NOI consists of all revenue from the property, minus any reasonable operating expenses. NOI is a pre-tax figure, appearing on a property’s income and cash flow statement, that excludes principal and interest payments on loans, any capital expenditures, depreciation, and amortization.
In order to establish Net Operating Income, you total the annual rents collected for a property, this is the Gross Income. Once this figure is established you would subtract the following expenses.
The other half of the equation is “value”, this is the price you paid for the property or the current value of the property. If you are looking at properties and have questions about value, your agent should be able to give you a reasonably good idea of what the property’s true value is.
Cap Rate can also be a helpful tool to use in order to determine your bottom line when evaluating a property you are interested in purchasing.
Let’s say you are interested in a property that is listed for $300,000. Your goal is a 10% cap rate on any property you purchase. Let’s say the NOI for this property is $27,000, which gives us a 9% cap rate, not bad but you want 10%. This means you would need to acquire this property for $270,000 in order to get your 10% cap rate.
Each situation and market are different but knowing that $270,000 is your bottom line helps you decide if you want to even pursue this property or if the price is too high for the return you’d see. In some markets, an offer that is 10% below asking price is a common practice while in other markets it would be a slap in the seller’s face. Each market is different and these are decisions investors need to make.
It’s important to note that cap rate looks at potential financial performance, not actual returns. In order to get a better idea of how a given property will perform, there are other methods of evaluating a property that will give you better results. Methods like cash flow analysis and cash-on-cash returns are potentially better metrics to use, assuming you know your numbers.
The vacancy rate, maintenance, and repairs all affect an investor’s bottom line and all three are fairly unpredictable. Controlling these costs without compromising the health and safety of your tenants is the key to long term profitability from rental properties.
There are a number of methods investors can use to analyze an investment or rental property. Cap Rate should be just one tool in an investor's arsenal but it is an important one. Remember to use cap rate in the early stages of new property acquisition.
The key to successful investing in the residential real estate rental market is buying the property at a great price. This one key detail makes all of the other factors easier to work with and cap rate does a great job when you are looking for deals.
If you are a landlord, then you are all too familiar with the frustration that comes when you find out that the heater has gone out at your rental unit, or that there’s a leak –yet again. If you’re tired of the frustrations that come from dealing with breakdowns, and costly repairs eating into your profits, there’s a solution that you may want to consider: purchasing a home warranty for your rental property.
Today, you can buy warranties for almost anything, including homes. Home warranties are particularly popular with landlords, who know all too well that if something can go wrong at a rental, it will. A good home warranty can help a landlord to save a significant amount of money if costly repairs are necessary. It can also help landlords to ensure compliance with state and federal laws.
While home warranties can be invaluable for landlords who are interested in protecting their investment, it’s important to note that not all warranties are created equal. Each warranty is unique in terms of the coverage that it offers, the exclusions, and terms and conditions.
If you’re interested in a home warranty for your rental, there are a few things that you should know before purchasing one. Here’s a brief rundown on what, exactly, a home warranty is, the benefits and disadvantages of getting one, and finally, what you can do to ensure that you choose the best option for your property.
The term ‘home warranty’ is enough to cause some confusion for those who are unfamiliar.
Traditional warranties are a type of guarantee of the quality of a product or service, usually made by the seller or manufacturer to the buyer. Home warranties, though, are not guarantees, but instead, contracts to provide repairs and replacement for home systems and appliances that break down or fail due to normal wear and tear.
Home warranties were first started in 1971 by American Home Shield. The industry has grown considerably since then, and today dozens of companies offer home warranties. A few main players include American Home Shield, Total Protect, SEARS, and First American, as well as HMS Home Warranty and Old Republic Home Protection.
Some people may also confuse home warranties with insurance, but there are some distinct differences between the two. Insurance provides coverage for specific events, such as fire, flooding, and theft; while home warranties cover the components or major appliances in a home against breakdown.
The best way to think of a home warranty is to view it as a home services contract. Home warranties for rental properties are designed to provide repairs for breakdown or damage to specific home components, as well as replacement if they cannot be repaired.
Home warranty plans offer a number of advantages for landlords. If something goes wrong, you won’t have to start looking for an electrician or plumber –or rush to the rental to make the repairs yourself. Instead, you can just place a call to the home warranty company, and they’ll send someone out for you. Having a home warranty will also make it easier to budget for expenses and repairs, helping you to avoid being caught out by unexpected issues. You simply budget for the premium and keep some money for the service call fees. No need to worry about forking out hundreds of dollars all at once for a new water heater when the old ones goes out.
However, home warranty plans have some disadvantages too. Just like insurance, you pay for the plan even if you don’t end up using it in the end. Most policies cost a few hundred dollars, usually somewhere between $400-$800 per year. In some cases, it may work out to be more economical to pay for issues as they arise, rather than prepay for potential repairs that may or may not be required. Additionally, most warranty companies will attempt every repair before authorizing a full replacement. Another issue with home warranties is that you run the risk of claims being denied. If the home warranty company considers the breakdown to have been caused by neglect, improper use, or a pre-existing problem, they may choose not to accept the claim. Additionally, some landlords may realize when making a claim that their warranties don’t include coverage for the item in question. Finally, there is also the issue of wait times. Sometimes repairs can be delayed during high-demand seasons.
As always, the list of what is and isn’t covered will vary considerably from company to company so be sure to ask for a list of things that are covered when weighing up different options.
To be sure, having a home warranty can provide you with peace of mind if things go wrong, writes Anthony Giorgianni of Consumer Reports, “But you should also realize that the providers of these plans have built-in wiggle room that can make it easier for them not to make payments. As a result, hundreds of consumers have complained to the Better Business Bureau about their plans, often because they didn’t get the payouts they expected.”
To ensure that you find the best warranty for your rental property, and to help prevent disappointment when it comes time to make a claim, you’ll want to make sure you understand exactly what’s included in your home warranty, and have a clear understanding of the terms and conditions.
With this in mind let’s take a look at how you can ensure that you find a home warranty that’s a good fit for you and your rental property. As always, being informed is key to ensuring that you make the best decision possible, and will help you to choose a warranty that’s right for you.
When considering a home warranty, it’s important to read the fine print. Each home warranty is different, with their own set of particular inclusions, exclusions, and conditions. For example, some warranties will not cover washing machine repair, even if you opt for appliance coverage. Some, that claim to cover plumbing, may not cover common parts that often go out, such as faucets, but instead will only provide coverage for the pipes that are in the walls. Before signing up for a warranty program, make sure you take the time to read the contract carefully so that you fully understand what’s covered, and what isn’t.
Next, you’ll want to ensure that you’re buying from a reputable company. Before signing an agreement, have a look at the Better Business Bureau and online review sites to see what people are saying; and to find out what their rating is.
Another important consideration is how the company selects their contractors. Are they vetted in any way? How do they ensure they are qualified? How long have their vendors been working with them? Will they be able to guarantee that the work will be completed in a timely manner? You should also ask what happens if a vendor doesn’t meet your expectations. A reputable home warranty company should allow you to request that subpar vendors not be used for future call-outs.
You’ll also want to keep in mind that most home warranties also include a waiting period between the date that you sign up, and when you can actually begin to use the service. Usually, this period is anywhere between 30-90 days.
If you have a property manager overseeing your property or plan to enlist the services of one at some point in the future, you’ll want to check with the home warranty company to see if they work with property management companies. Some companies will allow the landlord to keep a credit card on file to cover service call fees. Others, however, require payment from the tenant when the technician arrives –something that could lead to potential problems and complications.
The service fee or call out fee is the flat rate that you’ll pay out-of-pocket for repairs. Similar to a deductible on an insurance policy, most service fees range between $75 and $125 per claim. In some cases, you’ll have the option to pay a higher service fee for a lower monthly payment.
Most home warranties have a limit on the amount of money that they will pay out in a year. In some cases, the company may assign a specific limit to each item. For instance, if they have a $400 annual limit on dryers, it will only pay up to $400 each year for the dryer to be repaired or replaced. According to Reviews.com, half of the 17 home warranty companies that were analysed cap their coverage at $500. Limits can make or break a warranty, so be sure to find out where your coverage will be capped before making your decision.
Often home warranty companies will provide what’s known as a “workmanship guarantee” for any repairs performed by one of their contractors. This means that if anything goes wrong with the repair or installation during a specific amount of time after the work was done, the home warranty company will repair it at no additional charge to you.
When purchasing a home warranty policy, you’ll want to make sure that it’s the right one for the property. You can choose warranties that include various degrees of coverage, including ones that cover the rental’s major systems such as electrical and plumbing, as well as a more premium plan that extends to cover appliances. You’ll also want to consider the age of the property when making your decision. While newer properties that are less than ten years old, most of the appliances will already be covered by manufacturers’ warranties, so there may not be a need for an extensive warranty. Additionally, “Many states require the builder to repair defects in materials and workmanship for a few years – typically two to 10 years,” writes Don Vandervort, founder of Home Tips. For older properties, though, it may make more sense to purchase more extensive coverage.
If you’re on the fence about a home warranty, be sure to consider the pros and cons of coverage to see if it’s something that you could benefit from. Remember, plans vary considerably, so if you’re not happy with a quote that you received from one company, don’t be afraid to look elsewhere. It doesn’t hurt to ask for a discount as well –some companies may be willing to negotiate.
Having an emergency fund to cover unexpended costs could stand in for a warranty. But you’ll want to honestly assess whether you’re disciplined enough to set aside a certain amount of money each month for emergency repairs. For landlords who would like to have as much coverage as possible, or who may not be able to commit to putting $100 in a repairs account each month, having a home warranty may be an ideal solution. Some landlords find that warranties are especially helpful in the beginning, until they’ve had time to build up some reserves. Other long-distance landlords use warranties to reduce some of the stress and hassle of having to coordinate repairs from afar.
No matter which way you’re leaning, at the end of the day you’ll want to ensure that you make a decision that will benefit both you and your property, so have a look to see what’s out there before making your final decision on whether to buy a home warranty for your rental property.
Colorado Springs Airbnb laws changed significantly at the end of 2019. If you are a real estate investor looking to get into the Short-Term Rental (STR) market, you may have missed your opportunity, at least in the city of Colorado Springs.
The Colorado Springs City Council has implemented some new Colorado Springs Airbnb Laws that make investing in Short Term Rentals more challenging. We are going to take a look at why those rules were implemented, what the rules are and how to move forward as a real estate investor.
The phrase short term rental has traditionally meant a rental property that is leased for less than one year. This type of rental was generally used by people who were waiting for a home to be built or were new to an area. Short Term Rentals were usually difficult to find and didn’t create much controversy.
This all changed with the introduction of online platforms like Airbnb and VRBO.
Both of these services allow homeowners to lease their own place directly to guests for short periods of time, much like a hotel would. These transactions are now referred to as Short Term Rentals or STR’s
This new type of short-term rental is actually for very short periods of time. Short Term now means by definition less than 30 days but in practice, the lease periods are more commonly 3 to 5 days.
Controversy is what motivated the Colorado Springs City Council to institute these new Colorado Springs Airbnb laws regarding short term rentals. Investors love short term rentals because they yield high returns.
The short-term nature of the stay demands a higher rental rate while in most cases, the tenants aren’t in the rental long enough to cause any serious damage. There are of course exceptions to this rule but for the most part, STR’s are a great investment.
The opposition around short-term rentals generally stems from inconveniences created by the short-term tenants. Things like parking in the wrong place, making too much noise, or just being a bad neighbor.
In a long-term rental lease, these problems can be worked out over time but or the problem tenant can be removed. In a short-term rental, the tenants are gone in a few days and the process potentially starts over again with each new guest.
Frequent complaints from STR neighbors to municipalities eventually led officials to implement guidelines around STRs. This is the case as well here in Colorado Springs, Colorado. In a recent move, the Colorado Springs City Council approved new short-term rentals regulations on 25th November 2019.
The Colorado Springs City Council voted 5-4 to approve the new provisions for short term rentals which are more stringent than existing provisions. These new provisions were recommended by the City Planning Commission.
The goal was to regulate properties rented out by online platforms such as VRBO and Airbnb. The City Council decided that these provisions were needed to establish a standard for all the short-term rentals within Colorado Springs.
Short-Term Rental operators will be required to obtain a valid permit to operate. The operator must display their approved permit and Good Neighbor Guidelines (with the permit number, valid through date, and local emergency contact) in a prominent location within your short-term rental unit.
The permit is valid for one (1) year from the date the permit was issued by the Planning & Community Development Department. After the expiration, the permit becomes invalid and the operator can renew the permit for an additional period of one year.
The Ordinance also clearly states that the permit is issued to the owner, not the property. This means that the permit is issued to the operator or the specific owner in order to operate or use the short-term rental unit.
Once the property transfers from one owner to another, the permit becomes invalid. The new owner will have to reapply for a new permit.
For example. "Mr. X" the operator of a short-term rental unit received a permit on January 1st of 2020. This permit is valid for one year from the date of issuance or December 31st. of 2020.
If "Mr. X" sells the short-term rental unit to "Mrs. Y" on, November 1st. of 2020, "Mrs. Y" will need to apply for a new permit if she intends to continue operating the property as a short-term rental.
In the case of non-owner occupied STR’s, existing owners (Pre-November 2019) are grandfathered in and therefore eligible for a Permit. Although these non-occupant owners are grandfathered in, they still need a permit to operate and if they sell or transfer the property, the new owner is not eligible unless they live in the property for more than one hundred and eighty-five (185) days.
There are still opportunities for investors to be a successful Airbnb landlord in other cities and towns within the Pikes Peak region. The key is to find areas that are desirable to visitors.
Probably the best opportunity for non-owner-occupied short-term rentals. Manitou Springs is a small tourist-friendly town located just west of Colorado Springs. The city of Manitou Springs adopted regulations for the very first time in 2016. The Planning Department recommended changes to those rules in 2018 and at this point in time has yet to implement those changes.
As of now, the regulation states that the permission of the Manitou Springs City's Planning Commission is required for the rental of the dwelling unit which is given on rent for the sole purpose of lodging for at least one day and for a maximum period of twenty-nine days. The planning commission of the city provides the occupier with a minor conditional use permit.
Monument, Colorado is a small town located just north of Colorado Springs. While Monument doesn’t possess the same tourist appeal as Manitou Springs, there are limited possibilities to find tenants for a short-term rental in Monument.
Monument is close to the United States Air Force Academy and both Cadets and Parents look for short-term rentals. Monument is also home to some great outdoor activities like hiking and mountain biking. An STR investment in Monument would certainly be more difficult to keep occupied but it’s not out of the question.
In the town of Monument, there are no regulations around short-term rentals.
Palmer Lake is located just west of Monument, Colorado and falls into the same category as Monument when it comes to STRs. There is limited availability but also not a strong demand either.
The City of Fountain, Colorado is located just south of Colorado Springs. The City Fountain is home to the Fort Carson Army Base. This creates the potential for short-term rental guests from friends and family visiting service members. Additionally, Fountain is close to both Schriever Air Force Base and Peterson Base. Both of these air stations provide potential guests as well.
Fountain is currently looking to adopt the zoning rules for both tiny homes and short term rental units which are advertised by online platforms like Airbnb and also for other houses that are rented for a continuous period of thirty days at any particular given time. However, regulations or official notification from Fountain have yet to be announced.
Woodland Park is a small eclectic mountain town located west of Colorado Springs in adjoining Teller County. While not as popular as Manitou Springs, this city does have a strong draw for tourists. The upside to Woodland Park for inventors is that there is generally more available inventory here than in Manitou Springs.
Woodland Park has yet to institute rules around short-term rentals.
Another niche might be to look into short term rentals that require a stay of 30 days or more. Leases of more than 30 days do not require a permit.
These have traditionally been called corporate rentals and were intended for corporate employees traveling for work for extended periods of time. They afforded these road warriors the amenities of home in a setting that was more comfortable than a hotel.
Much of the corporate rental market jumped into the Airbnb model of leasing simply because it was so profitable. This has left a vacuum in inventory for those people looking at short term rentals for more than 30 days but less than a year. This is people that are building houses, new to the area or corporate travelers.
While the rates for a corporate rental are less lucrative than those for the Airbnb type rentals, they are still more attractive than what you would see on a traditional long-term lease.
At this point, The Colorado Springs City Council has committed to revisiting the rules around short term rentals within the city limits again at some point in the future. Until then we have to live with the current regulations.
if you aren't existing pre-November 2019 non-occupant owner of a short-term rental in Colorado Springs the good news is you've been grandfathered in and as long as you acquire a permit can continue to do business until you sell the property.
If you are a homeowner leasing out an accessory dwelling unit or small apartment within your home. You're OK as long as you have a permit and follow the rules regarding number occupants allowed.
Finally, if you are a non-owner occupied investor looking to get into the short term rental market in the Pikes Peak Region. Your best bet is going to be to look in one of the surrounding areas that don't yet have restrictions in place and is a popular destination for visitors and tourists.
Until something changes, this is the status of the Short-Term Rental market in Colorado Springs. If you have any additional questions on short-term rentals or real estate investing in general, please feel free to contact us.
If you are involved with residential leasing as an investor, renter or landlord, chances are you've heard of Section 8 at some point. You're probably at least aware that it's a form of low-income housing, but beyond that, you might not know much.
Well, have no fear: in this post, we're going to dive into the details of this housing voucher, look at it from the point of view of both tenants and landlords, and discuss the benefits and drawbacks as they apply to each group.
There are many myths surrounding Section 8, and we're here to dispel them.
First, a little background: the advent of Section 8 housing dates back to the Great Depression. It was first introduced as part of Franklin Delano Roosevelt's "New Deal" program back in the 1930s, In fact, the term "Section 8" comes from Section 8 of the Housing Act of 1937. As you might expect, it's evolved a lot between then and now.
The most important development came with the Housing and Community Development Act of 1974, which introduced the Housing Choice Voucher Program.
The Housing Choice Voucher Program is what most people mean when they refer to Section 8. It was established in response to criticism of government-owned public housing - people felt the government, while well-intentioned, was just creating poverty-ridden areas that made the problems faced by low-income individuals and families worse, not better.
You've probably encountered the term "the projects" before. This phrase is shorthand for "public housing projects," i.e., housing that is owned by the public sector (that is, the government). This used to be the only kind of this type of housing available up until the introduction of the Housing Choice Voucher Program.
Nowadays, Section 8 housing can be in any apartment or house which passes inspection - the tenant has a choice when it comes to the type of housing.
Let's first take a look at this housing voucher as it applies to tenants. If you find yourself facing financial difficulties, is applying for Section 8 housing a good idea for you? You may have become discouraged as people tell you it's too difficult to get, or that all the accommodations will be dirty and undesirable.
These, however, are just more myths surrounding this program. Plenty of people's lives have been greatly improved by the help offered by the Housing Choice Voucher Program, and they've paid low amounts of rent per month for decent or even high-quality dwellings.
To apply, you will visit a Public Housing Authority office. To find your local office, go to the Department of Housing and Urban Development website. Applications are free and can be filled out in person, sent through the mail, or even submitted online.
Section 8 works through vouchers which can be used to pay for a certain amount of rent. There are two types of vouchers: project-based vouchers and tenant-based vouchers.
Project-based vouchers, as their name implies, can only be used for projects, buildings or areas that have been specifically set aside to house Housing Choice Voucher Program tenants.
Tenant-based vouchers, on the other hand, are used to pay private landlords who have made their properties available to Section 8 tenants and have passed inspections. These are issued under the Housing Choice Voucher Program.
Actually, depending on the municipality you live in, landlords may be required to accept Section 8 tenants.
The most obvious advantage of Section 8 is that it can help you pay your bills. A lot of people can get to the point where paying for rent is their primary concern - this housing voucher is here to help alleviate this rent burden so you can pay for other necessities such as food.
Section 8 affords low-income families the opportunity to improve their situation
One major drawback is that you will most likely be placed on a waiting list - it may take as long as a year or two for Housing and Urban Development to determine if you or your family qualify. However, during this time you will likely be able to use project-based vouchers.
Although you will most likely be placed on a waiting list - the demand for vouchers is greater than the number of accommodations available - Section 8 is not a first-come, first-serve system.
There are certain qualifications that can give you preference when it comes to getting housing. Some of these include:
If any of these conditions apply to your situation, be sure to let the PHA (Public Housing Authority) know as you may be able to get housing faster.
Qualification for this housing voucher is based mainly on your income, and the amount also varies based on whether you're an individual or have a family to support. It also depends on the area you live in: as a rule of thumb, you can not earn more than 50 % of the median income of the area in which you live in order to qualify.
As a Section 8 tenant, it's your responsibility to report any changes in income or family composition to your local PHA.
In general, you must be a US citizen in order to qualify for Section 8, though there are certain exceptions.
If you are considering becoming a Section 8 landlord, you probably have a lot of questions. First and foremost, you'll be wondering: "should I become a Section 8 landlord?" Well, there are benefits and drawbacks to accepting Section 8 tenants. We'll start with some of the benefits.
If you've been a landlord for any length of time, you'll know that one of the most frustrating things about being a landlord is overdue rent; you've probably heard that rent is guaranteed with a Section 8 tenant, and what could be more appealing than this? Well, it's at least partially true, and one of the biggest advantages of renting out to a Section 8 tenant.
Basically, the government will only pay a certain percentage of the rent - this you can expect to receive every month (although when first starting out with a tenant, it might take a few months to get rent; more on this below)
Given that the whole point of public housing is for the government to guarantee accommodations to those who can't afford it, it might seem strange that they're only paying a portion of the rent, but that's the way it works, unless the tenant is making no income in which case they'll probably cover it completely.
As you can see, saying Section 8 means "guaranteed monthly rent" is a bit of a misnomer. As with any tenant, it's your duty to evaluate the Section 8 tenant, looking at things like their credit history.
Since the government will be paying most of the rent, market-based rental increases are less traumatic for tenants.
Another benefit of agreeing to accept Section 8 tenants is that you'll be able to fill up vacancies more quickly. Since there is a shortage of landlords who are willing to work with housing voucher clients, these apartments and houses are continuously in short supply and high demand: we don't want to say it's guaranteed that a vacancy will fill up in a few days, but there's a good chance that, in a lot of cases, it will be filled more quickly than if it were being rented out the normal way.
Since a lot of landlords will not accept Section 8 vouchers, this also means tenants are less likely to leave this type of housing (ideally, yours) once they've found it. Section 8 leases are usually for a minimum term of one year.
Above, we mentioned that apartments or houses that wish to become Section 8 housing must pass inspection. As with any federal government program, there can be a lot of red tape!
Once a year, an inspector will visit the property to ensure it meets standards and habitability requirements. You may be required to make changes at your own expense, though there are preventative measures you can take to make sure this doesn't happen.
Of course, although the government pays around 70% of the rent, the other 30% is not guaranteed. Obviously, it's a good idea to look into the history of the person who wishes to become a Section 8 tenant - don't go in assuming that you will get all your rent!
Additionally, these types of tenants are more difficult to evict than regular tenants.
So, overall, there are advantages and disadvantages to becoming a Section 8 landlord.
Determining whether or not it's right for you can seem like a balancing act of weighing the benefits against the drawbacks and vice versa.
In spite of all the myths you have heard, this is not necessarily a disaster, nor is it a magical, higher-than-average guaranteed rent situation.
We recommend really doing your research, taking your time and especially researching the experiences other landlords have had with Section 8 tenants so you can learn more about the perks but also be on the lookout for any potential problems.
Section 8 is a valuable program that benefits both tenants and landlords. It can help tenants get back on their feet, saving them from homelessness if they can't otherwise afford rent, and it helps landlords have steady access to a large supply of potential tenants.
Whether you are a person who needs cheaper housing, or a landlord who needs more tenants, Section 8 is certainly something worth looking into. If you have any questions regarding this topic, feel free to contact us.