Rents have been climbing for the past three years, and there is no end in sight. They increased 6 percent between 2000 and 2012 and are rising at an even faster clip since, about 3 percent a year.
Local conditions vary from the national norms; in some markets, rents are rising faster, in others, they are rising at a slower pace. In most markets today, however, for investors to keep up with demand, raising rents on an annual basis is a necessity. Those who don’t will fall behind and fail to achieve their investment’s potential. Even worse, they’ll find that rising operating expenses eat away at their profitability if they don’t counter with a rent increase.
Raising rents for an existing tenant is a touchy subject but a necessary one. Tenants will always hate a rent increase, no matter how large or small. However, putting off a rent increase one year only makes an increase the following year more necessary, and often higher, and more extreme for the tenant. The larger the increase, the more likely that tenants will decide they can do better somewhere else, and you’ll be facing the prospect of filling an empty house as soon as possible. On the other hand, regularly scheduled rent increases, faithfully executed, increase the odds for tenant longevity. Modest rent increases keep the rent at or near market levels and eliminate the need for the bike hikes that cause departures.
A well-thought out plan that anticipates and addresses tenants’ concerns significantly improves the odds that you’ll have long term tenant and the rent increases you need to keep up with costs and maximize profitability.
1. Do Your Research to Build Your Case
Before you take any steps to raise rents, research your local marketplace to determine what increase is fair and commonplace. Don’t just look at Craigslist. Survey a number of rental ads in national and local rental sites, and subscribe to services that monitor rental trends on a local market basis. These include authoritative data providers like Rent Range, REIS, Local Market Monitor and Zelman & Associates.
Your research should be good enough to convince your tenant that if they choose to leave, they will be facing similar rent increases at comparable properties in the local market.
2. Put it on Paper…Gently
Don’t mention or even hint at a rent increase until you have communicated it in writing. This cannot just be any letter, instead it must be a very well organized one that explains why an increase is necessary, and makes the best possible case for staying.
If you make your tenants sign a lease, you can’t raise the rent until the lease expires, unless the lease itself provides for an increase. If you rent under a month-to-month rental agreement, you can raise the rent by giving your tenant the proper amount of notice, which in most states is 30 days. Sixty days is even better; your tenant won’t feel that you’ve boxed them into a corner with no time to look for new place. If that’s your game, chance are good it will backfire. Don’t force your tenant to stay, instead, convince them you want them to stay.
3. Begin with Gratitude
Even if you stretch the truth a little, begin your letter with gratitude. Tell the tenant that you are glad to have them as a resident and you appreciate how friendly and financially and responsible they are. Thank them for paying the rent on time every month, and for going the extra mile to take care of the property as if it were their own.
Then use your research to let the tenant know that they have been getting a good deal since you have been keeping the rent as low as you can in the face rising rents in the local market.
4. Lay the Groundwork with Your Cost Increases
Make a case for the rent increase based on increased costs you have to pay to maintain the property. Don’t get into a detailed dollars and cents discussion. Rather, cite some of the bigger cost increases that you have had to shoulder in the past year—property taxes, repairs, insurance, utilities. Suggest that these are greater than you anticipated.
5. Announce the increase.
Don’t ask them if they would be ok with an increase. Instead, state that it is going to take place in the coming lease year. Justify it as a way to keep up with rising expenses and as a way to keep current in the market (i.e. the tenant isn’t going to better by going elsewhere). Repeat that you enjoy having the tenant as a resident and that you are doing you best to keep the rent as low as possible.
6. Promise a Reward
Subtly promise a reward if the tenant stays by announcing an “annual” upgrade such as painting a room, cleaning the carpet, or upgrading an appliance, which will take place in the beginning of the new lease year.
7. Make Renewing Easy
Ask the tenant to call with any questions and include a lease extension with your letter with a postage-paid return envelope. All the tenant has to do is to sign and put it in the mail.
The tenant may call with questions. Since you have done your homework, you will sound honest and convincing when you discuss your costs and trends in the local market. A tenant may plead hardship and make it clear they cannot pay the full increase. It’s your decision whether to compromise, but if you do, make it clear that you will have to make up the difference the following year. By doing this, you will still get an increase, and while it may not as much as you originally wanted, you will do better than if you lost the tenant, and had to go through the time and expense of finding a new one.
Getting rent increases that keep your income in line with the market and maximizes the return on your investment will test your people skills. Unlike most other investments like stocks or mutual funds, you play a direct role in the profitability of your residential real estate investment, which makes your successes all the more rewarding.