Why Strong Rentals Can Still Limit Your Growth
When you look at things, it’s every landlord’s dream.
The tenant’s been there for over a year, they’ve never been late with paying rent, repairs are few and far between, and even after all your bills are paid, there’s still plenty left over. You basically have a super steady and very predictable property on your hands. And that property’s also extremely easy to manage. What more can you (the landlord) even ask for?
So, what’s your next move here? It’s obvious – you buy another property.
You should be able to do that with no problems, right? After all, your numbers are excellent.
This will sound like it makes no sense, but good numbers don’t guarantee that you’ll be able to take out a loan to buy another property. And the issue isn’t that your property isn’t doing well, but how the bigger financial picture looks.
Good Numbers Don’t Guarantee More Borrowing Power
A lot of landlords are caught off guard when they realize that strong numbers don’t look that strong to the lender.
And the surprise makes sense because how can you look at a property that’s never empty, that generates income like clockwork, and say it’s not good enough? That should be just what the lender wants to see.
And it is.
That’s a massive plus, but numbers show only surface, and lenders like to look deeper than that. Yeah, sure, it’s nice that your rent got paid, but how much of that income can you really show on paper?
What do we mean here? Well, if every single dollar earned isn’t on your tax return form, then (as far as the banks are concerned) that money basically doesn’t exist. Banks want to see every dollar so that they can properly evaluate you. They’re looking to see whether you can pay for vacancies and repairs. Not if they happen. But when they happen, because most landlords are often left blindsided by these.
So where you (the landlord) see occupancies, the bank will see vacancy rates that they’ve literally made up. Where you see profit, the banks see risk.
Your property has been fine for 2 years, the bank wants to see 5 because anything below that is too short. With all this being said, no one is saying that your rental is bad. That’s not the case here. No one’s out there to get you. It’s just that the banks have their own set of rules; it’s just the way it is.
So, what happens when you find yourself in a situation where you require a loan?
You’ll (probably) still get it, but the amount might be lower than what you’ve originally expected/planned. That means that your growth will slow down, regardless of the fact that you have a property that’s doing extremely well.
It helps to know that there are options out there that look at your property’s income instead of your personal income.
The best DSCR lenders will focus on how much money the building can get, not what your tax return says. That, of course, still doesn’t guarantee you’ll be able to borrow exactly what you wanted, but it can definitely help.
Income Set Up > Income Amount
‘The way your income is set up’ sounds a bit vague and doesn’t really help anyone. So, let’s break down what this ACTUALLY means; in layman’s terms.
When a bank looks at a rental, they’re not really concerned with the total rent number. What they really want to see is how that money is built – lease structure, whether the rent arrives on a predictable schedule or randomly, whether the expenses are the same every month, etc.
If your property brings in $2,000 (USD) every month like clockwork, you have a much better shot at getting a loan than someone whose property generates $25,000 a month, but bounces around.
That’s why setup is so important.
If income isn’t regular, then you can’t predict what you might get in the future, and that’s a huge problem for the bank. The bank wants to know that the next month will look like the last, so if they can see predictability, you’re golden. If you’ve got high tenant turnover, that’s another risk because every day that your property sits empty is a money leak.
Profit is always a good thing, but not every dollar of it is treated the same because it isn’t the same.
Your bank wants boring, predictable income, even if it means you earn a little less. That’s not to say that getting $25,000 every month in rent will look like something negative, but you have to understand that this isn’t so much about the numbers as it is about whether the income is even or not.
Even income means stability, and stability is what banks want to see more than anything else.
Conclusion
You could do everything right, and when the time comes to take out a loan, your bank could still look at you as a loon who’s asking for a million dollars to start a pet rock business. And this doesn’t get talked about enough, so people don’t understand why it happens.
A strong rental is absolutely something to be proud of, but you need to look past that in order to see if you’re eligible for a loan or not.
Once you realize that, you realize where growth comes from.
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