Prospects in the buy-to-rent residential market

Property managing agents are these days increasingly asked about the prospects in the buy-to-rent residential property market, says Michael Bauer, General Manager of IHFM, which is one of South Africa's fastest growing sectional title management companies.

Bauer says (in his latest weekly landlord newsletter on that his answer to these property investment enquiries is almost invariably positive and encouraging - but, he adds, before taking any step of this kind the property investor should take notice of the possible pitfalls.

"Right now," he says, "sectional title is the fastest growing sector in South African property - with most of the expansion focused on the lower end of the property market. The cost and time of commuting coupled to the densification of land use policies of most of the big metro councils will increase the demand for strategically sited sectional title units reasonably close to work areas - and all the indications are that the demand at the lower end of the market is and will continue to be the strongest.

“In addition, the prudent restrictions of the National Credit Act will ensure that for the foreseeable future more people will be renting than buying, thereby again strengthening the landlord's position in the rental market.

"Investors putting their money into any category of property can, therefore, be reasonably sure of achieving a satisfactory return in the long-term - and those who invest in units priced below R500,000 are likely to see by far the best returns."

Nevertheless, says Bauer, before plunging in, the new property investor should also realise that the chances of a tenant defaulting on rent payments are always there and, surprisingly, are noticeably higher at the top and bottom ends of the market.

“A national survey by RPM (Rental Payment Monitor) shows that 27% of top end tenants pay late and 9% not at all. In the under R3 000 market, 16% paid late and 12% did not pay at all – but the survey also shows that the Western Cape has the most reliable payers.”

Investors need to be reminded there is a risk/return relationship, and if the returns are too good to be true, then this should be a warning sign.

In the case of default, he says, the landlord (with the help of the managing agent) must be objective and proceed immediately institute legal proceedings to evict the tenant. However, the huge volumes of civil judgments and summons on the Sheriff of the Court as a result of the current economic conditions have led to long “lead times”, some summons taking up to three weeks to be delivered. Obtaining an eviction order can, therefore, take up to three months.

“The courts are obliged by the PIE Act to be sympathetic to tenants, so it can actually take a further two or three months to get the tenant out - and then the landlord could find himself paying further costs fixing up the property.

Landlords relying on rents to pay their bonds can find themselves in great financial difficulty."

There are, says Bauer, two ways of avoiding these difficulties. The first is to employ a managing agent who knows how to carry out thorough credit, background, financial, and reference checks.

"South Africa now has several good agencies checking on the credit and personal records including criminal records of people applying to be tenants and these checks, we have found, can be relied on to eliminate perhaps 90% of possible defaulters. Furthermore, if the landlord employs a managing agent it is likely that he will take action as soon as the tenant defaults and not be in any way sidetracked as so many landlords are when confronted by the difficulties the tenant may be going through."

The second way for the landlord to avoid financial difficulties, says Bauer, is to take out a landlord protection insurance against the defaulting tenants.

"At IHFM," he says, "we are using an insurance company, Tenrisk, who provide this type of insurance - and it does give our landlords considerable peace of mind."

When a new tenant is accepted, the insurer will give this cover provided that the tenant's credit record is good and provided his primary residence is in South Africa - if he is a foreigner he may well be beyond the reach of the ordinary South African jurisdiction. If the tenant has given his current landlord any problems this will automatically disqualify him from being insured.

In normal circumstances, says Bauer, the insurance will cover six months rental loss and the legal fees for the eviction. Surprisingly, he says, there are still landlords who do not take out this insurance, regarding it (at a fixed fee of R135 per unit per month) as an unjustifiable expense. This fee is tax deductible and considering the risk of default and of loss of income, this is, in his view, a small price to pay.

"All in all, however, the message should now be clear - provided that a good managing agent is employed and precautionary steps taken, investing in property is now very definitely an option that should be considered by any person seeking to build up a diversified investment portfolio and hedge against inflation."

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