Management Fees: Don't Work For Free
Updated: Jun 10, 2019
Purchasing an apartment complex takes a lot of time and work. However, this time is nothing compared to the time it takes to properly manage that property once you own it! With three weeks left in the CYA Series, we’re going to look at a second variable expense in your multifamily Profit & Loss statement – the Management Fee.
You may be looking over an Offering Memorandum right now and you notice the expense margin is a bit thin for the market. A closer inspection of the expenses shows a big $0 for the management fee. You call the selling agent to point out their error only to hear the inevitable explanation…the current owner self-manages this property. Apparently, this owner has nothing better to do but lease units and unlimited time to perform this task. You, as the potential new owner, are assumed to be in a similar situation in life.
If you purchase this property and elect to hire a third-party property manager, you’d most likely pay 4% to 10% of net revenue to this management company. The actual fee will depend on numerous variables including unit count, location, condition of the property and your relationship (or assumed future relationship) with the company. Additionally, you may end up with a menu of additional fees from ¼ to one month rent for lease-up, vacancy allowances, eviction services, renovation oversight, etc.
To properly underwrite this expense, you will need to either have comparable properties to look to for guidance or you could simply call around to a few management referrals in the immediate area to get quotes. While I would caution against simply going with the “low cost” provider for many reasons, your decision on a management company is between you and your money. If you’re simply looking for a quick analysis, however, a rough assumption of 6% to 8% for a mid-sized 10-50 unit property will probably be sufficient.
Our question today, however, is not what assumed fee percentage you should use; it’s to point out that you should use SOMETHING. You’ve been told the historic management fee is 0%. While you’re running your proforma, you have a decision to make. You can elect to hire a company and plug in your assumed fees or you can elect to take on the management yourself. However, I don’t look at these options as ultimately having ANY effect on your numbers.
Even if you’re planning to self-manage this property, I’d ask you to think about what your time is worth.
Managing a property requires showing units, making repairs, answering calls at 2am over toilet issues and many, many more tasks…each and every day. Managing a property is a 24-hour job that never closes or goes on vacation.
What could you be doing with this time if you weren’t self-managing a property? If you make $100,000 per year - in a standard 50 work-week, 40 hours/week job - you’re making $50 per hour. How much of that time do you want to spend at the property before you decide hiring someone makes sense? How much free time are you giving up? How much more money could you be making doing something else, anything else, resulting in lost opportunity cost?
I would strongly suggest that you adjust the presented P&L numbers to reflect a reasonable management fee, regardless of your intentions.
Either you’re paying someone else or you’re paying YOURSELF. It’s a real expense for the property either way.
If you want proof, bring this deal to your lender. Sit down with the banker and explain how you’re going to forgo time with your kids, roll up your sleeves and self-manage their collateral. See how fast they throw in a management fee. And when they do, their underwritten NOI will be lower which will lower their valuation, the calculated debt service coverage ratio and, therefore, your loan proceeds. Why wait until after you’ve agreed to a purchase price on an inflated NOI to find out your financing isn’t penciling out?
Your time is worth more than $0. I don’t care if you’re retired, unemployed or independently wealthy, it’s still worth more than nothing. Plug in a reasonable management fee when underwriting your investment opportunity.
Give yourself some credit. Even if the selling agent presenting the proforma doesn’t.
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Next week: Repairs – What should have been, what needs to be and what will have to be?