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City government is an interesting machine. And by interesting, I mean, hard to figure out. Here’s the photo- and video-tale of how I got a new sidewalk in Worcester, MA. It took three and a half years. If you have something similar in need of doing, you might learn from my experience.
It began in 2010. One of the maple trees for which the street was named was dying. It would loft large pieces of itself into the air every time the wind blew. Some of them were large enough to hurt someone, or to crush a car like in an All State commercial. Here are two of the evidence shots I submitted to my city councilor, who at the time was Bill Eddy. (These were taken on different days.)
The City of Worcester owns all the trees in the sidewalk. When I asked a city representative if I could pay for my own arborist to come and prune the dead out, she told me that if I so much as rubbed a piece of bark off it, they would be lawfully entitled to fine me for destruction of the entire tree according to the circumference of the trunk. It was something prohibitive like $50 per inch of circumference.
I asked Bill Eddy if the city could assemble a list of “certified arborists” so that I could hire one and prune the tree legally. I offered this to help with the tremendous backlog of arbor work that had resulted from the asian long-horned beetle disaster.
The official work order was entered May 24, 2010. What you see below is real. I edited it only to remove my address, phone number, and email address. Look at how it ends, where it says “CLOSED”:
The only reasonable interpretation of this otherwise senseless remark, “no city tree at this location,” was that Councilor Eddy had done some back room dealings and given me a free hand to prune the tree myself. The city had disowned it. Perfect! I started getting quotes from arborists to prune it. This was September 8, 2010.
The night of September 21 I drove home thinking about which arborist to hire. I pulled onto my street and lo! the tree was gone. Nothing remained but the stump and the upheaved sidewalk.
I called Billy Eddy to ask whether it would have been better just to prune the dead. I also asked about the stump and the sidewalk. I couldn’t get through to him, so I asked these questions in a voicemail. I would not hear from him again for two years.
On November 27, 2011, one year after the removal, the stump was ground down to a dusty pile. Now all that remained was the badly damaged sidewalk.
I waited. And waited. I called the city and asked what would be done about the sidewalk. Twice I was told someone would be out to repair it. The third time I was told, “Oh, that requires a petition!”
Shortly afterward, on March 20, 2013, I went to some lengths to post a sign out front inviting neighbors to sign a petition to City Council. I collected seven signatures with this passive device. I wanted to leave it out for two weeks. Then one night the petition blew away, carrying all of its signatures with it, never to be seen again.
I submitted the petition anyway on March 29, 2013, indicating all that had happened. It included the following imagery, juxtaposing the awful crater with my otherwise scenic front yard:
You can see how I encouraged neighborhood support by tying the petition text to my fence. When it was finally scheduled, I also tied up notice of the hearing, which was to be on June 19, 2013.
At the hearing I brought one neighbor, also a member of the Worcester Property Owners Association, and a prepared speech. I was one of the last petitions to be heard, after several hours of very tedious repetition of questions about how street paving was to be assessed. When I finally had my chance at the podium, I asked if I should read my speech or if there was no objection to fixing the sidewalk. Councilor Toomey apologized and said the sidewalk should have been fixed as part of the tree removal, and that it would be done before winter. No speech was required. Everyone breathed a sigh of relief.
Privately I was advised by someone else to notify Bill Eddy about this successful hearing, otherwise the process might stall. So I notified him via email on July 10. He said it couldn’t possibly be done before next summer. I explained what had been said at the hearing and he said he’d look into it. On October 18, without any other notice, they came to dig out the stump. They posted the no-parking signs around 8a. I protested that it wasn’t fair to give no notice, and that I’d have to interrupt the neighbor’s morning routines to get them to move their cars. The man said, “If the sign is up, I can tow.”
I recorded some of the work:
On October 29, after leaving the “no parking” signs up for a week, they came and paved over the smoothed bed at 7 in the morning.
That’s 1,254 days and many, many follow-ups since the request was first made.
Suggestions for Improvement
I think these small changes would make things a little bit better here in Worcester:
- Recognize certain independent contractors as “city approved” and allow property owners with the means to hire them to work on city projects, especially trees, but perhaps also including sidewalks.
- Notify customers when work orders have been closed.
- Streamline the petition process by giving 30 minute hearing windows and cutting people off if they take more than so many minutes to explain their case.
- Treat “no parking” signs with more seriousness. Put them up the day before, write the word “tomorrow” on them, and take them down when work is going to be paused the next day, or week.
There certainly must be big changes required, as well. I hear the average time to fix a sidewalk isn’t as long as mine, but it’s still two years. If the city were a factory, I’d say their sales department needs to follow up better on orders, and I’d say their operations teams have too much going on in parallel. I’d also look into whether “squeaky wheels” weren’t constantly cutting in line. Probably city management could learn a lot by comparing Worcester’s performance to that of other cities.
What do you think? Leave a comment below!
Every experienced landlord has a good rental agreement or lease with all of their favorite protective clauses. But most landlords forget the most important protection of all: the other stuff you give to your new tenant or resident along with the lease.
Just look at the above picture of a local pharmacy. They’re selling nails. Your new resident will walk in and buy those to hang pictures. If you have plaster or sheetrock walls, that’s bad news for you. The nail is going to rip out a chunk or a gash, especially if what they hang is too heavy. Just below the nails are sticky hooks. Those can be just as bad.
That’s why I give my residents wall anchors. I say, “Go ahead and drill a hole, then tap this anchor in. If you need me to come drill the holes for you, just mark out where you want your pictures and I’ll come in to drill them for you.” During the lease, pictures stay secure. At the end of the lease, the anchors pop out and the holes are quickly spackled or mudded over. Savings: $30 per patch.
Other things you should give a new resident:
- A bedbug brochure: Show them a picture of a bedbug with some information about how they act and what the warning signs are. Make it clear that bedbugs affect clean people so there’s no shame. Tell the resident that they should notify you immediately if they suspect bedbugs so that you can call an exterminator. In a building with apartments above and below, you can save $6,000 by not having to treat the neighbors, as well.
- Move-out and cleaning fees: This itemizes the costs of leaving things dirty upon move-out. Not only is this required before a security deposit can be withheld, but also it motivates people to clean for you. Savings from not having a professional come in to clean the apartment: $300.
- Trash brochure: Tell the resident how they get rid of their trash, where they can buy the right bags, and how they can save money and/or help the environment by recycling. Clean apartments don’t attract mice or cockroaches, which if you need to exterminate, might cost you $1,000.
- Fuel assistance and insurance forms: Tell your new resident how they might qualify for a government subsidy for heating. Also, tell them how cheap renter’s insurance is in case anything gets stolen. More money for them means more assurance to you that the rent will be paid in full and on time. Savings: from $0 to one month’s rent, depending on what kind of bad luck your resident has.
- Tell them it’ll be all right: Everyone at some point runs tight on cash. Tell them you won’t be upset as long as they let you know in advance that they’re going to be late paying rent in any given month. Savings from avoiding “where’s the rent?” worries: priceless.
What else do you tell your new residents? Leave your thoughts in the comments below!
Here’s an interesting, true story with a moral.
I went into a tenant’s apartment to examine their garbage disposal, which had stopped working. It was just a piece of broken glass wedged into the grinder, so I removed that, reset the trip switch, and said, “Let me know if there’s anything else I can do!”
The tenant said, “Actually, the toilet is very slow.”
I thought to myself, “Oh, the previous folks had troubles with this thing… I guess cleaning out the jets only fixed it temporarily.”
I said, “Let me take a look at it.”
It was clean, like the rest of their apartment. I flushed it. It seemed to work.
The tenant volunteered, “We can’t put paper down it. It clogs.”
I said, “What? What do you do with the paper?”
The tenant said, “We put it in that can there.”
I looked in horror at the small trash can sitting beside the toilet.
I said, “That’s horrible! Why didn’t you say anything?!”
The tenant said, “Oh, it’s not a big problem. We didn’t want to bother you.”
I don’t know about you, but I wouldn’t rent an apartment like that. What kind of landlord have they had in the past, where they were afraid to mention that one of the most basic services — a toilet — was hardly working?
I arranged to replace the toilet that very afternoon. I bought the one in the picture because I wanted to make sure that if they decided to flush a bucket of golf balls, it would handle it. They were so grateful they gave me a plate full of rice and beans and a pork rib.
Two lessons to share:
1.) Use wax rings on toilets. When I removed the old toilet, I saw a plastic flange that had been used instead of a wax ring. I think they don’t even sell these anymore. This flange was constricting the siphon trap exit and reducing the flow rate. I probably didn’t need to replace the whole toilet so much as just the interface with the abyss.
2.) Tenants are people too. Whether you tend to be a forgiving landlord or a strict martinet is up to you, but you can easily go too far to either side. Don’t let folks walk all over you, but at the same time, don’t cow them into throwing toilet paper into the trash. Think about it this way: if they can flush an entire bucket of golf balls, then your life will be better, too.
Have you had a similar experience? Share your thoughts in the comments below.
Warren Buffett defines a “gruesome business” as one that requires a lot of capital and produces a low rate of return. Is real estate gruesome? Let’s see:
- Does it “require significant capital to engender … growth” (WB, 2007; PB p. 14)?
A previous article talked about how potentially $1,700/mo can be spent just on maintaining a $250,000 property. As a percent of rents, that’s definitely a lot.
And once your house is full, you can’t get much more revenue except by buying another house.
- Is your house more like a candy bar or a cup of sugar?
Warren writes (1982; PB p. 15), “[Differentiation] works with candy bars (customers buy by brand name, not by asking for a ‘two-ounce candy bar’) but doesn’t work with sugar (how often do you hear, ‘I’ll have a cup of coffee with cream and C & H sugar please’).
Every house has a little bit of “candy bar” to it, since it’s so rare that any two apartments look and feel the same. But every house also has a little bit of “sugar” about it when customers are looking for “off street parking, laundry, two bedrooms.” I think most apartments are more sugar than candy bar.
- Do you feel real pressure to be “the lost-cost producer” (2000; PB p. 15)?
How many of us landlords have reputations for being big spenders? That’s right, none.
All this doesn’t mean you can’t make money in real estate, but it does mean you need to be very careful. Here are some tips:
- Watch that purchase price. Don’t pay too much for a rental property.
- Work hard to differentiate. Make your ad glossy and your apartment smell good.
- Keep costs down. Shop for insurance every year, refinance if you still haven’t, and spend money on projects that will save money over time, like good rain water management, durable surfaces, and upgraded plumbing.
The Warren Buffett quotes in this article come from his “A Few Lessons for Investors and Managers,” edited by Peter Bevelin.
If you have rental property in Massachusetts, here’s a quick way you can check the health and currency of your rental forms. You should have:
- A primary agreement (be it a “lease” or a “tenancy-at-will”), that specifies
- Which space is being rented
- To whom
- How much
- Who pays for utilities (you can’t charge for water unless you have separate meters!)
- Who fixes stuff
- Whether subletting is allowed (I recommend not)
- And if you like your agreement, comment below to tell others where to get a copy
- A summary of everything attached to the primary agreement (all of the “addenda”), which includes everything below:
- An addendum with your custom terms
- Do you keep keys to the apartment? If so, under which conditions may you enter?
- Is parking allowed?
- Are pets allowed? Remember, you can’t charge pet fees or take a pet security deposit.
- Is smoking allowed? Yes, you can prohibit smoking on your property.
- Who replaces smoke detector batteries?
- Are judgments for legal expenses capped?
- Who pays for lock-outs?
- No smoking addendum
- You shouldn’t be held responsible for health effects if someone smokes on your no-smoking property.
- Insect infestation addendum
- Landlords must pay for extermination, but tenants must comply with extermination procedures.
- CORI authorization
- Otherwise you can’t check criminal history.
- Mold addendum
- Tenants must keep the place free of moisture and report any problems immediately.
- Move-out and cleaning fees
- This is required if you think you might withhold from a security deposit.
- Lead disclosure forms and copy of lead report
- You can’t have kids under six years old living in an apartment with lead paint unless the hazards have been brought under interim control or eliminated.
- Bank signature form (w9 signature card, not just w9) for security deposit account
- Security deposits must be held under the tenant’s social security number.
- Utility companies sheet
- As a courtesy, tell your tenants where to go to start gas and electric service.
- Bedbug notice
- Warn your tenants against picking up used mattresses or other furniture off the street.
- Trash sheet, including number for bulk item removal
- Help your property stay clean by encouraging tenants to take advantage of free recycling and affordable bulk waste pick-up, if your city has these programs.
- Tell them which day is their trash day and where to put their trash.
- A condition of move-in
- You need this if you ever have to show a judge or other third party that the apartment was in good shape when the tenants moved in.
- Fuel assistance form
- Many, many tenants qualify for fuel assistance. If they get on fuel assistance, a world of benefits may open up to you, including new refrigerators, insulation, and furnaces. Plus, any money you can save your tenant increases the affordability of your property.
Did I miss anything? Add your comments below!
I’ve been writing a bit about technology startups lately. Let me flip back to the other end of the business spectrum — landlording — to share an interesting conversation I overheard recently:
Landlord One: How many landlords pay taxes on their rental income? It’s like no one. Everyone runs at a loss.
Landlord Two: Oh, no, my properties are very lucrative. I pay my taxes.
Landlord One: Then you’re doing it wrong. All of my properties are in separate trusts. My accountant shows me that each trust loses money every year, and if it were any other way, I’d get another accountant.
Let me explain what Landlord One means. Here’s what the income statement for one of his trusts probably looks like (I haven’t seen it; I have no connection to Landlord One):
The “depreciation” in the table above results from the following accounting practice: take the price you paid for the building, say, $250,000, divide that by 27.5 years, divide that by 12 months for our example, and the number you get, $757.58 per month, is how much you can deduct from your income for tax purposes. Repeat that for other “big purchases,” like a new driveway, a new roof, and new furnaces, and you can quickly get up to $1,200 per month in depreciation deductions.
Landlord One is thinking, “This is super. The IRS thinks I spent $1,200 per month, but I didn’t! Haha! That was cash going straight into my pocket!” Furthermore, the $200 per month loss can offset income from other sources, especially a salaried job, per the passive activity loss rule exception. (Sidebar: only the IRS would name a rule “passive activity”.)
The IRS can step in and say, “Your business has been losing money for too many years. We think it’s really a hobby. You can’t use your $200 per month loss to offset income from your job anymore.” As far as I know, this can happen for any business, but I’ve never heard of it happening for rental real estate.
Even if your business is never declared a hobby, there is still one big problem with Landlord One’s line of thinking:
Depreciation is a real expense.
It represents the ongoing capital you must invest in order for your business to remain in operation. Think about a house that hasn’t had any work done on its driveway, roof, or furnaces for 27.5 years. Would you want to rent an apartment there?
Think about it another way, as a function of purchase price. I wrote about this before, where I gave a similar example. If your depreciation is continually outstripping your income, it means you paid too much for your property.
Either way, your “fake” depreciation expense is going to come back around as a real reinvestment of capital. Either the roof will blow off and you’ll need to put a new one back on, making your entire year “cash flow negative,” or you’ll have to sell the degraded property at a steep discount to what the price would have been if it had been maintained.
So go ahead and claim those losses, Landlord One. They’re real.
In Massachusetts, residential rentals are highly regulated. To do it by the book, you need to have a non-discriminatory tenant finding procedure, an apartment that meets requirements for the sanitary code, no lead-based hazards, and a rental agreement that could stop bullets. You also need to have a nice place, an attractive ad, a responsive person on your end of the phone, and someone to show the place to prospectives. So how much does it all cost?
I recently tried to answer this question by tracking my time as I went through the whole process myself, from explaining the move-out procedure to the current tenants to welcoming the new tenants and opening their security deposit account. The goal was to rent a three bedroom apartment. The rent was at or below market. The advertising started off-season in February. Here’s what it looked like (these are scanned excerpts from the paper log that I kept):
The total time from February 2 through when I opened the new security deposit account on February 26 was 47.3 person-hrs. Basically, add up the times in red, and if I had to have someone helping me (like on February 6) count that time twice.
- February 2:
- First of all, note that regular landlording stuff is not separated out, like when I dealt with a 3am emergency call about a neighborhood disturbance. That almost never happens, but I left it in for color.
- Craigslist is great. It saves your ad from the last time you posted, so it took me about 18 minutes to check it over, tweak it, and get it listed again.
- Nothing interrupts your day like calls about an apartment. The average call lasts just a few minutes while I collect pre-screening info. You can see that on the day I posted my attractive ad, I started getting calls immediately, from 9:30 to 10:12, and so on, and again on the 4th, the 5th, and so on. The true cost is more than just the phone time because it interrupts what you were otherwise doing.
- February 4:
- It took me about two and a half hours to get my lease agreement up-to-date. The changes I made were things I had queued up from my reading and my learning best practices from my property owners association, and also from some changes in the law.
- Starting this day, it took me about five hours spread out over several days to repair some wall damage to the otherwise pristine apartment. Don’t let tenants put stickers on the walls.
- February 6: The final deleading inspection for this unit and one other (the work for which was completed before tracking began) took two people nearly four hours. All totaled the deleading cost me well over the $1,500 tax credit for this unit.
- February 12: Starting here, I spent about three hours reviewing tenant applications. (I also experimented with a wireless doorbell that I ended up returning.)
- February 16: Here’s when I made the decision to rent to one set of prospectives. Note that I also had to buy a change of locks and make a repair to the rear exterior door jamb.
- February 20: Having made the decision to rent, I went on landlord vacation. I dealt with about 18 minutes of calls while “off duty.”
- February 25: I spent almost three hours split between the previous tenants (itemizing their security deposit deductions) and the new tenants (explaining the rental agreement).
- February 26: My bank was terrible that day. It took me almost two hours to see someone and then set up a new security deposit account.
- February 27 and 28: I guess I didn’t write down what I did here. Just another 1.6 hours somewhere…
Fortunately, any given apartment isn’t likely to be vacant in a month, but when it is, you can expect to pay quite a lot to do it “by the book.” If I paid an employee to do all this at $22/hr, that’s $1,040, or by orders of magnitude, a month’s rent. So that’s where a property manager’s fee goes. Plus I had the added non-recurring expense of a deleading, plus the lost income.
So when you do get a tenant, be good to them and hope they stay a while.
A moat was a medieval form of security. Just pull up the drawbridge and watch as your enemies fail to get across the water, or if they do, to scale the wall of your castle. Although physical moats have no place in modern real estate (can you imagine the lawsuits?), an “economic moat” is Warren Buffett’s choice metaphor for what makes a business resistant to competition. Real estate as a business has a few good economic moats.
First of all, it’s very expensive for a tenant to change their real estate provider. This is called “high switching costs.” Think about the search for a new apartment, giving notice, cleaning and repairing the apartment to get a security deposit returned, moving all that stuff, and unpacking it all on the other side. This could take days, and if some of the security deposit is withheld or a moving company is hired, it could cost hundreds of dollars on top of that. This means that a rational consumer of rental housing will grudgingly accept any rent increase below their moving costs. That’s good for your business.
The second moat is the potential to be the low cost provider. A lot of real estate businesses are run suboptimally. They’re saddled with high debt, old equipment, and bad rental agreements. A business run with reasonable debt, reliable equipment, and good tenants (or else, good conflict negotiation mechanisms) can operate at a lower price than average. This helps you get the best tenants and keep them, translating into lower turnover and lower vacancies, both good for business.
The third moat can be location. Although I poo-poo’d it in my last column, saying that price mattered most of all, location can be a valuable intangible asset. You might reasonably pay more to acquire a property on a public transportation route, for instance, because it makes your property more desirable to prospective tenants. Once you have it, this kind of benefit is hard for competitors to replicate.
So the next time you think your rents are a bit low, or you paid too much for a property in a prime location, remember that these moats may be contributing to your economic success. On the other hand, a little rent raise probably wouldn’t hurt, either.
People usually say there are three important things: “Location, location, location!” But in rental real estate, it’s mostly just price.
The Economics of Real Estate
In any decision to purchase — any decision to invest — you always look at “what you get and when you get it” vs. “what you pay.” But there are a few things you should keep in mind about real estate as an investment class, regardless of the rents you get.
The majority of costs for a rental property are related to the property as an asset. They’re things that even brilliant management can do very little about once the property has been purchased. They all scale with purchase price:
- real estate taxes
- insurance premiums
- base depreciation
Let’s take a typical property as an example. The purchase price was $250,000. Twenty percent was put down at time of sale, so the interest payment at 4% is about $8,000/year, or $667/mo. Real estate taxes might be, say, as high as 2% of asset value per year, or $417/mo. Insurance for replacement value might run you, say, $170/mo. Base depreciation as a residential property, per the 2012 IRS tables, might be $5,000/yr, or another $417/mo.
Now here you might object, saying that depreciation is not cash out the door, so it shouldn’t count. But it does represent a real long-term expense, namely, what you’ll need to keep putting into the place to keep it from falling apart. Pricier properties generally need bigger budgets.
Add up all those expenses and you find that $1,671/mo of expenses have nothing to do with how well you manage the building as a rental property. They’re just tied to the purchase price.
So you can see that if you buy the wrong property, a management strategy to reduce utility costs, avoid lawsuits, and get the best tenants will matter comparatively little at the beginning. It can take long time for this cost avoidance to show itself on an income statement.
The moral is “shop around before you buy.”
What will you do if that old roof floods your top floor apartment, or if a cast iron drain pipe cracks just as you’re paying for bedbug extermination? What if the jobs cost $10,000? Do you call up your regular contractor and cut a check without batting an eyelash, or is this is a crisis necessitating soul searching, an emergency loan, or perhaps even a brave attempt at “deferred maintenance”? If you couldn’t afford a $10,000 emergency repair, you’d be in good company. Most small time property owners have a shortage of operating cash. But you can do better.
For large, established companies, there’s a test used to evaluate their ability to survive a “disaster” scenario. It’s called “the acid test.” The phrase comes from bygone days when gold was authenticated by dropping acid onto it. Gold won’t react, so if it’s “good as gold,” the acid has no effect. For businesses, “passing the acid test” usually means having enough liquid cash to cover more than an entire year’s expenses. That’s a heavy burden for a rental property, but if you manage that way, you can have some measure of peace of mind.
You can calculate the “acid test ratio” for your property by adding all your cash accounts for the business and dividing by all your liabilities for the next year. Your liabilities include the total of all interest, all insurance premiums, all real estate taxes, and all expected repairs. Suppose you have $12,000 set aside in the property’s rainy day fund. Suppose each month you pay $800 in interest, $300 in insurance, $300 in taxes, and $200 in repairs. All those expenses, times 12 months in a year, means you have liabilities of $19,200. Your $12,000 in cash divided by your $19,200 in liabilities means you have an “acid test ratio” of 0.625. A typical publicly traded manufacturing company has an acid test ratio of 1.25 to 1.5, more than double.
Now I’ve spoken with landlords about this, and most express shock and dismay that they should have to keep so much cash set aside. With monthly income guaranteed by leases, you might reasonably use another test, called “the quick ratio,” which lets you count receivables as “cash” because you’ll get them quickly. We can calculate this using the example above. If your tenants are obliged to pay $1,000/mo for the remaining nine months on their lease, you get to add another $9,000 in “cash.” Now $12,000 cash plus $9,000 receivables = $21,000. Divide this by $19,200 and your quick ratio is greater than one, just where you want to be. But be honest and don’t count month-to-month’s at face value. And if you’re dealing with tenants who might be headed for eviction or non-renewal, don’t count a full year of their lease at face value, either.
However much money you choose to set aside, the moral here is that large, established businesses set aside a lot of money for rainy days. As a small business, perhaps with limited credit, it’s important for you to do so, as well, and to keep that money allocated separately as a rainy day fund. You’ll be able to weather any storm if you do.