The Risks Of Selling A Rental Property With A Tenant

selling a rental propertyAs landlords and property managers, we all love rent-paying, non-destructive tenants.  We hate the rest, but that’s another story.  No matter how much tenant love you may have, if you want to sell your house with a tenant for the highest and best price, even the best tenant can be a detriment.  Why?  It takes a lot of work and devotion to get the house show-ready and keep it that way during the entire listing period.  Most homeowners lack the motivation to keep their own house show-ready, and they have the motivation of monetary gains (hopefully) to entice them.  Tenants have nothing to gain for their inconvenience so their participation may be less than enthusiastic.  By having a tenant, you limit your market to mainly investors because you are not only selling the house, you are selling the tenant with it.  Anyone buying your rental property automatically becomes a landlord, like it or not, until the tenant’s lease expires.  So what are your options for selling a rental property with a tenant?

Ways To Sell Your Rental Property

1. Wait until your tenant’s lease expires and sell the property

This is the best option if you can afford it.  It costs more because you’re not receiving rent, but gives you the greatest chance to quicker sell at a higher sales price.  You can sell the property to investors and homeowners alike so you’re not limiting yourself.  Without the tenant, you also have the luxury of fixing up or refreshing the property to make it look its best and when unoccupied, it can always be kept show-ready and you won’t run the chance of having a tell-all tenant wanting to tell prospective buyers everything they don’t like about the house.

2. Sell Your House And Your Tenant

This option is the cheapest, but has the most difficulty.  You will need the cooperation of your tenant to sell your house with the tenant still living in it.  You can’t sell it to someone who wants to buy a house to immediately move into because they must uphold the tenant’s lease.  You have to sell it to someone who either doesn’t mind waiting for the lease to expire, or to sell it to an investor who’s looking for an income property.  If you sell it to an investor, then DO NOT UPGRADE anything.  You can get a higher price freshening up things like paint, carpet, roofing shingles, etc., but do not upgrade anything.  Don’t upgrade appliances, just make sure they look clean and are working properly.  Don’t upgrade the kitchen, bathroom or anything expensive.  Upgrades make your house cost more and investors do not want to pay that extra cost when looking for a rental property.  For example, when I’m looking for a rental property, I know the highest price I’m willing to pay before I ever set foot on the property.  When looking for a house, the first thing I do is scout around the neighborhood to determine how many rental properties are nearby then I find out how much can I expect to collect in rent for that area.  Once I know the rental amount, I take that figure and plug it into a spreadsheet to see what my income and costs will be and then calculate the maximum I should pay for a house to produce my desired return on investment.  A simple way you can determine what investors will pay for a rent house in your area, use a multiplier of 80 to 110 times monthly rent.  I usually shoot for a multiplier between 90 and 100 for houses I don’t have to finance, and use a multiplier of 80 or less for houses I have to finance.  This formula creates a high / low range where you can expect most rental investor offers to fall into.   If I can rent a property to a tenant for $1000/month I will probably want to pay somewhere between $80,000 – $110,000 for it.  Unfortunately, this is probably a higher offer than you can expect from most investors.  I tend to look for houses that rent easier, would attract a better renter and are located in areas where rental properties are not common and where there’s still appreciation and to get that, I’m willing to pay a little more.  Yes, there are areas in Dallas, Texas where properties still appreciate.  Most investors will shoot for a lower price.  But either way, all investors base their offers on the income the property produces so you can see how upgrading to Viking appliances and granite countertops would be a poor decision on your part if you were going to sell it to an investor.

3. Sell the property to the tenant

This option is a shot in the dark because most renters rent because they either can’t afford to buy or they simply don’t want to.  If you’re not in a hurry to cash in on the sale of your home, you may consider owner-financing but odds are if your tenant can’t find a bank willing to loan them money, there’s probably a good reason for it.  Be prepared to take back the house when they fail to keep up with the payments.  Selling the property to my tenant with owner-financing is not a strategy I’d do personally, especially as a second mortgage given today’s default rate.

Getting Your Rental Property Show-Ready

First of all, keeping the house show ready and having strangers entering the house at various hours each day is a lot of trouble to ask of your tenant.  The yard has to be kept pristine and the house should always be neat and clutter free.  Lots of homeowners fail to live up to show-ready standards with their own home so imagine how hard it will be to motivate your tenant when he knows that his tenant days may be coming to an end when the house sells, not to mention the tremendous invasion of privacy your tenant can expect for the months that follow.  Be sure to communicate everything with your tenant and introduce them to your real estate agent so everyone knows what to expect.  If the tenant is naturally sloppy, you can expect the house to not show well and you may want to just wait until the lease expires.

Make Your Tenant Your Partner

If your tenant has something to gain from the sale, he may be more inclined to promote the sale rather than detract from it.  Either way, it’s a lot to ask of a tenant and the tenant should receive some form of compensation for helping to sell your house.  Maybe offer a discount of rent while the house is on the market and if they do a really good job, you may consider giving them some money to hire a mover.  Make sure they pick and hire the mover so you’re not liable for anything.  If they’re on board with the sale, then you may also be able to do some cosmetic work on the inside of the house with their participation and agreement to maintain it.  Either way, I’d do external repairs to enhance curb appeal because renters don’t usually tear up external repairs.

Are You Really Losing Money Leaving The House Unrented During The Sale?

The answer is probably not.  Having a renter makes the house primarily appeal to landlords and they’ll only look at it if it’s priced according to a ROI based on rents.  Anyone wanting to live in the house will not be interested in dealing with a renter, even if it’s on a month-to-month lease.  By doing this, you basically reduce the pool of potential buyers significantly.  A reduction in potential buyers also reduces the potential for a higher sales price.  The amount of rent you’ll receive while the house is on the market could be much less than the overall drop in the sales price.  At the end of the day, you’ll either breakeven in rent-vs-price drop or lose money depending on the market, condition of the house and cooperation of the tenant.

Will Having A Tenant Make It More Valuable To An Investor?

It wouldn’t make your property more valuable for me unless you could demonstrate that they were a great tenant and your reasons for selling were external to the property at hand.  When I look at a home with a tenant, I usually assume that the tenant is probably the reason the landlord is wanting to sell.  I don’t know how well the landlord screened their tenant and I don’t know how faithful that tenant is at paying rent.  Also, I don’t know if there is any baggage I may be inheriting depending on the seller’s property management style versus mine.  Was the owner a softie and his tenant habitually walked all over him and expects to do the same with me?  He’s in for a shock, but I’m also in for a few problems as we set boundaries.  It’s in your best interest to show your tenant’s lease, rental application and a copy of every rent check to the prospective landlord. The more paperwork you can show the better your chances of getting a better price.  It’s important to show the landlord buyer that you are a capable landlord who picked a good tenant and that you’re not over your head wanting to get bailed out of a horrible situation that they will be inheriting.  Being bailed out comes at a price and that price is usually a lowball offer.

Where To Go For Advice

The best source for landlords looking for advice is www.mrlandlord.com.  Their landlord Q&A message board is a great source of information.  I’ve been a faithful contributor and viewer of that board for a few years and it’s filled with advice from other landlords willing to share their successes and failures with other landlords.

 

 

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Bill Petrey, the CEO and Founder of AgentHarvest, has been written about in the Los Angeles Times, Inman News, AOL Real Estate, and Inman Next, among others. He founded AgentHarvest for the sole purpose of making the process of finding a good Realtor better and easier. Bill Petrey is an author and editor of both The AgentHarvest Blog, Real Examples of Really Rotten Realty Blog, and the creator of Really Rotten Realty.

17 comments to The Risks Of Selling A Rental Property With A Tenant

  • Lex

    The best thing to do about this matter is that you need to be wiser than your tenant. For me it’s about being wise enough in choosing the right tenants to live in your house. In the end it’s your loss if the tenants destroys your property.

    • Bill Petrey, Realtor

      Lex:
      Couldn’t agree more. Don’t be in such a hurry to rent out your place. Run the credit checks, criminal background checks and if possible, do a drive-by of their current resident to see how clean it is.

      You have to be clever to spot the liars and potentially bad tenants. Rather than asking if they’re a non-smoker, no one admits to being one nowadays, pull a cigarette out of your pocket and ask to borrow a lighter. If they reach for their pocket, you know they’re used to carrying a lighter, and that means smoker. Also, when they claim to have no pets, visit their house and look for pets or pet damage. Peek over the fence and look for a dog bowl or signs of rutting in the grass along the fence. I’m not saying never trust a tenant, I’m just saying to do what Ronald Reagan would do, “trust but verify.”

  • It works both ways, there are just as many bad landlords as bad tenants. Every single landlord we have had in the past 14 years we have ultimately had to go to the Ontario Housing Tribunal about and every single landlord we have taken there has lost against us. We have won every single time, now that should tell you something. Our last landlord refused to help or pay for (or even compensate us) for a backed up sewage pipe that happened 40 feet up the property and backed up in our basement. Roto-Rooter was called in and they confirmed it was most probably a collapsed pipe as this was a common neighbourhood problem. We had to clean everything up ourselves and our house smelled of sewage for almost a month and not once were we even offered a rent abatement. We’ve had other landlords refuse to turn on the heat even though the temperature in the unit dropped well below the legal limit. We had yet another landlord go ahead and put the gas bill in our name even though the rental agreement stated we were to only pay for electricity while he would be responsible for gas. I could go on and on about the actions of our past landlords who, in my opinion, are just as bad if not WORSE than many problem tenants.

    • Bill Petrey, Realtor

      Lisa:
      Of course, not every tenant or landlord is desirable. However, this article doesn’t touch on that. This article is about selling a house with a tenant. The desire to sell a house isn’t always due to an annoying tenant. Sometimes landlords just want to retire, upgrade, downgrade, or they just need the money.

  • “In the end it’s your loss if your tenants destroy the place.” I just sold my condo in San Diego, California. For 3 years I thought I had great tenants. She’s a reporter for the SD Union Tribune and Del Mar Patch. They were always very nice on the phone and in emails. But CA law doesn’t allow landlords to enter the premises unless it is to make repairs – no periodic inspections are allowed. When I met tenants to advise I was selling, I was shocked at the damage and filth. I accepted a very low offer from an investor taking poor condition into consideration but when he saw the condo he backed out due to damage and filth. I then accepted a low offer from an individual buyer and had to give a credit to compensate for damage and filth. Can I cover any of the diminution in value from my former tenants? It goes far beyond normal wear and tear. Wood floors have to be replaced and, after tenants gave notice to move out, they destroyed kitchen cabinets by trying to strip and refinish them. All of that was part of the reduction in price and credits I had to give to proceed with the sale. The $1,000 security deposit doesn’t come close to covering the loss. Contractor estimated $20,000 to fix kitchen and floors.

    • Bill Petrey, Realtor

      Sonja:
      I’m so sorry for your situation. Unfortunately it’s pretty common. If you can’t enter a property except to make repairs, you could have a quarterly maintenance routine of replacing the air-conditioning filters. This should qualify as repairs and give you access four times a year. You can also test smoke detectors during that time too.

      There’s definitely a price point for a rental property. You don’t want expensive fixtures, finishes, or appliances for them to tear up. I definitely don’t want to buy a rental property that has anything nice in it. Most renters don’t mind the cheaper improvements, and they’re less painful to replace if destroyed. Linoleum or tile instead of hardwoods, laminated countertops instead of anything stone, and if you buy carpet, use the cheapest carpet and padding you can find. If you want to go a little nicer, spend the money to upgrade to thicker padding, but keep the cheap carpet. Don’t add ceiling fans or any additional fixtures that the tenant could tear up or steal.

      • As a renter, I disagree. High-end finishes are much desired by renters here. Rents are insanely high no matter what the finishes but even moreso for “nicer” apartments. Of course, many of the renters in this market have six-figure incomes, so that probably makes a difference. Basically, we’re a town full of people who want to buy home but can’t because there aren’t enough affordable single family homes available. So, everyone here wants a rental that is nice enough that we can at least imagine or even pretend we own the place.

        I hope someday the urban growth boundaries are extended and that developers start building low-end houses here again. I have to say that I would love to stick it to the horrible investors who are driving up housing costs. I will relish the day the value of rentals plummets once people can afford to start buying their own homes again.

        • It does make a difference, but you still don’t want to over improve too much. Even in high-rent rentals there’s still the risk of your rental getting trashed. However the risk goes down proportional to the amount of pre-screening and background checks. Also the more income producing a tenant is, the more responsible they are. Not always, but often. Mainly because they have more to lose when they act badly.

  • What right does a long term month to month tenant have ?
    The landlord did not serve a written eviction notice and landlords son is letting the tenants know the property is already In escrow and they need to move. Rent has currently been paid till the end of the month.
    Tenants do not have the funds to move. Property is in California

    Any advice would help

    thanks !

    • You should take your contract to a lawyer and have that lawyer determine if the landlord followed the rules of the contract. I can’t legally advise you on specifics because I’m not a lawyer. However, I can give you some general information about the lease agreements I use.

      If you were in one of my rental houses, in a lease agreement with me, the landlord, and I sold the house while the agreement was still in effect, the new owner would inherit the contract and be obligated to follow it, just as you would be obligated to pay the new owner rent instead of me, the old owner, for the life of the contract. In your case, if it’s a month-to-month written the way mine are, then the life of the contract is only 1 month with an option to renew for another month if BOTH parties agree.

      Since you can’t force someone to be in a contract unless they want to be, the landlord has just as much right to not renew it once it expires as you do. It doesn’t sound like the landlord is evicting you, but is just simply not renewing the lease agreement for an additional term and letting it naturally expire.

      One thing you may want to do is contact the buyer. If the buyer is going to rent the house, they may agree to rent it to you.

      I wish you the best of luck, but keep in mind, if your landlord is letting the agreement expire, it probably has more to do with the sell-ability of the house than it is a reflection upon you. While it is an inconvenience, it shouldn’t look as a black mark on your record because the contract expired as written.

  • Maryl Reyes

    My cousin is renting a family room at my brother’s rental property at the amount of $500.00 since 2006. No increase was made up to this date. For the last two months he is is not paying his rent and not paying utilities since November. He was given notice to vacate for non payment . According to him , he will not vacate until my brother give him $5,000.00 and look for he’s new place , and was even saying thats the law says for tenant like him. My brother decided to sell the property. Is this the best way to get rid of him? And is he right saying that my brother will need to give him $5,000.00 and even has to look for he’s new place? What advice can you give us since my cousin is not cooperating with him?

    i forgot to tell you that my brother and my cousin has no written contract only verbal contract.

    • Maryl:
      My advice to you is stay out of it. No matter what you do or what you say, one family member will be mad at you. If you stay out of it, Thanksgiving dinner may be more enjoyable.

      So your cousin is trying to convince your brother that the law in your state requires the landlord pay the tenant $5000 AND find a new place for the tenant to live in if the landlord wants the tenant to leave? Is he having any luck getting your brother to believe that? To get rid of your cousin, your brother needs to contact a lawyer and get his advice. I doubt your cousin will leave willingly. If your brother wants to sell that property, he’ll have to do it without your cousin. I’m sure your cousin will do his best to scare off buyers and prolong your sale.

  • Silvia Warren

    My inlaws have rented a home for over 16 yrs and the havent had a lease in years. The owner wants to sell, he has even verbally agreed to give them the home if the kept up with the payments on the mortgage he has left, they agreed. He now has a 3rd person involved who doesnt want my inlaws to walk way with it and is back to showing the home, stressing my them out. Their in CA do they have any rights since they lived there so long. Thank you in advance.

    • Silvia:
      This is definitely a question you need to ask an attorney familiar with California law. I would think you’d need more than a verbal agreement to transfer ownership of a home and I can’t see how renting a home for years entitles the tenant to ownership rights.

  • We are on the other side of the equation: My husband and I are renters, and we want to buy our house. How do we convince the owners to sell? First off, we don’t know if we qualify for financing, but I think we might. It’s been difficult to get into talk to the bank because of our work schedules. We are not even remotely interested in FHA loans, but I think we may be able to qualify for 5% down conventional. I’m not sure how much of a detriment our student loans will be, though. We currently have about $26K in savings, and we are able to save at a rate of about $1000/month in addition to meeting all our financial obligations (student loans, rent, etc.). I would expect this house to sell for around $260K, and the Wells Fargo mortgage calculator estimates closing costs on both a 5/1 ARM and 30-year conventional loan to be around $5000. Although we would prefer to have at least $10,000 in savings after closing, we think that now is such a good time to buy that we would even feel okay spending $18K of the $26K to get this house. We have excellent credit (FICO around 800); however, my husband has $65K in student loans from grad school, and we’ve only been at our jobs for a little over one year. Fortunately, we have no debt other than student loan debt. Part of our hesitation with meeting with a mortgage loan officer is that we are very protective of our credit scores, and I’m worried about what a hard inquiry will do to our credit. If there’s absolutely no chance of us qualifying for a conventional home loan, I don’t want us to risk ruining our credit in the pre-approval process. We are not interested in moving right now because we would have to pay a hefty penalty to break our lease. Moving is also expensive, and it can be such an enormous headache. Frankly, we’re so busy with our jobs lately that we simply do not have time to move. The only benefit of getting pre-approved right now would be if we were to buy THIS specific house.

    I don’t know if the owners would be willing to sell. Home prices are increasing dramatically in this area due to heavy investor activity, and I’m sure they will be able to sell for a higher price next year; however we would like to buy before the interest rates skyrocket. It may be difficult for us to compete with the investors who are buying all the low-cost properties (and by low-cost, I’m talking $250K-$350K) in the area and turning them into overpriced rentals when it comes time to buy a home. We have a very good relationship with the owners of our house. They originally bought the house for their aging mother so that she could live closer to them. She subsequently passed away. I know the house still has quite a bit of sentimental value attached to it, and I’m hoping that the owners may want to sell to a family rather than to an investor. But, I don’t know that for sure. Money talks, after all…

    What would be the best way to let the owners know we are interested in buying the house? Would it be a bad idea to even try to broach the topic before we’ve secured financing? We want to offer a fair price, but I’m afraid that they could ask for much more than the house is worth if we seem too interested… Also, if we buy the house we’re renting, would we automatically get 100% of our security deposit refunded? (That would help out with the closing costs a bunch!) How do we convince the owners to sell when they know we are already locked into a lease and that we have to keep paying them rent for another year? A mortgage with PMI, taxes and insurance would probably cost us about $300 more per month than what we are paying in rent, BUT we would end up saving money because, right now, we are not only paying rent, but we are also putting a good chunk of change into saving for a downpayment each month. Buying the house could actually free up about $700/month for us to put into saving for something else or to increase our home or student loan payments. Although this house is too small for us to stay here forever, it is a nice starter home. We would like to start a family soon, and, while this house would be fine for babies, I think we will feel cramped with more than one kid or with older children, so that is another reason for us to buy sooner rather than later. I figure that, if we bought this house at slightly above fair-market value, in about three or four years, we will have built up enough equity to move to a very nice “forever” home. By that time, our student loan debt should also be significantly reduced. It’s very hard to find homes in this town in the expected price range of this house. We’d like to take advantage of whatever opportunity we can to buy this house while interest rates are still relatively low.

    • Don’t approach your landlord until you know you can get a loan and include all that info with your offer. Regarding your landlord asking for a high price? That happens often when you want to buy something someone isn’t considering to sell. It may take a higher price to entice your landlord to sell. To be persuasive, you’ll need a compelling argument. And that means an enticing price. Before talking price, determine the max you’re willing to pay and stick with it. Don’t let desire and emotion get you in trouble.

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