What is a Rent Roll?
A rent roll is a snapshot of rents due for the period reflected in signed and valid leases.
Rent rolls have been around for hundreds of years. A rent roll is a “roll-up” of all the rental revenue owed by tenants to a property owner for a set period of usage, usually a month or a year. However, the term of a lease is often for one year or longer with rent due in equal monthly installments.
A lease represents the contract that both parties, owners, and tenants, have agreed. The lease spells out what each party will do or performs for the term of the contract. In the case of a multifamily rental, the lease language usually conveys that the tenant agrees to pay rent, and the owner agrees to provide safe and decent housing.
What is rent?
Rent: a tenant’s regular payment to a landlord for the use of property or land.
The rent roll informs owners, managers, lenders, and government agencies about the value and stability of a rental property asset. The rent roll is the starting point for learning more about the amount and security of the rental income stream attached to a rental property. What is a rent roll without rental revenue? A blank piece of paper.
Similar to how banks and others rate the quality of debt, the longer timeline that a rental income stream has occurred, the assumption is the higher the probability that said income stream would continue uninterrupted. In theory, this is why it costs less to rent an apartment for twelve months versus for six-months; the longer-term commitment has a higher value to the property owner, and they are willing to accept less rent in exchange for a longer-term lease.
Rent Roll and Monthly Income
A rent roll, correctly assembled, is a distinctive document providing an array of information. When buying a rental property, you purchase the rent roll and the monthly income that comes with owning and controlling a rental property. Why is it essential to establish the amount of monthly income from the rent roll? Because this is the reoccurring contractual revenue created from existing, in–force leases. The rent roll is a snapshot of current income as represented by the owner of the asset.
The rent roll is the property owner’s representation of rental income derived from an income-producing real estate asset.
The rent roll is the most critical document in formulating the value of income property. Authenticating numbers on the rent roll will lead to creating a high level of comfort in the property buying decision–making process.
When considering the acquisition of income property, without discounting the importance of various ancillary income sources, you must devote the most attention to the largest source of revenue, which is the rental income, as reflected on the rent roll. While a bank statement may reflect total revenue, it’s the rent roll that provides the amount and term of contractual rental income the owner can expect to receive.
Alease file review is imperative. A review of each lease file is essential to validating contractual rental income. The rent roll, at it’s best, is an accurate depiction of in-place leases. All rental revenue represented on the rent roll must tie to a date and amount as denoted on in-place lease contracts. If there are small explainable disparities, then you have your answers. If there are significant numeric discrepancies between the leases, rent roll, and bank statement, this is a major red flag. How do you know which document is the most accurate if none match up? You cannot.
The rent roll will state the start and end date of the obligation to pay rent, per the terms of the lease.
Is it true that “if” is one of the essential words in the English language? In rent roll analysis, “if” rents collected as described by executed leases matched the rent roll, month in and month out, answering the question about accumulated rental income has standing. There is always (always) a difference between rental revenue reflected on the rent roll compared to the leases. Finding out why there is a difference and if the amount is material will provide some comfort or lead to more questions.
Money at Stake is Yours
There is no room for the word “if” in the due diligence process when it comes to rental property acquisitions. There is too much money at stake. If (there’s that word again) you are buying a rental property, then very often, the money at stake is yours.
What you do to acknowledge and address discrepancies between rental income, as presented by the seller, and rental income legally due to collective leases is the essential reason for performing rent roll analysis in the first place. And remember that gaining just one new data point adds to your volume of knowledge about the property. For example, if you are able to examine a rent roll that is twelve months old versus a current rent roll the trends you can drill down into are nothing short of wonderful, such as changes in late fee income (reflecting issues with collections), the average term of leases (a huge tell in turnover numbers) and changes in gross potential rent and actual collections.
Rent Roll Analysis Will Keep You Grounded (as in, on the ground)
Someone has scammed you recently. The plot was not very thick, and the loss so small that the event didn’t warrant any more of your time or cause you to call authorities. You buy a “nutty bar” and find no nuts. You purchase milk that is sour after three days at home. You buy an apartment building and find it empty. Wait – what?
It is easy to get caught up in all of our tech-savvy all-knowing, all-seeing spreadsheets, apps, and formulas. There is no replacement for seeing what is behind each door during acquisitions due diligence. Walk inside of every unit in any multifamily purchase under consideration. Every. Last. Unit. No exceptions. A rent roll is an excellent tool. But it doesn’t take the place of a walk-through or the knowledge that comes with boots-on-the-ground. Rent roll analysis and in-person property inspections are two sides of the same coin – they are inseparable. On that note, walk inside every bedroom door and closet during the onsite review. There is no other time this will occur to this level of detail except during a buyer’s site visit.
I spoke with two property managers this week that both shared the same news by email; we have a water leak. Okay? What does that mean? One water leak was a broken sprinkler head where the repair took about an hour. The other was a flooded out basement with the boiler now underwater. Kind of not the same thing, right? Exchange the word “water leak” with rent roll analysis. Just saying that you’ve done it doesn’t tell us anything. You have to go deeper to gain meaning, and deeper still to gain understanding.
The Basics of Rent and Roll
The rent roll is a simple document. It is. The problem is that people complicate the report by providing too little or too much information and call it a rent-roll. What is a rent roll?
A Rent Roll is the property owner’s representation of rental income.
Using a rent roll is the best and most comprehensive method for learning this information in usable, snapshot form. For a small property owner, this alone can be a daunting task. Yet this is the minimum requirement to build out a viable rent roll. You can always expand the document. A rent roll includes:
- Tenant Name (Name of Lessee) – Formal name from a valid form of government-issued identification.
- An Address (of property rented) – The actual postal street address and apartment number recognized by the U.S. Postal Service.
- Unit Type (residential, commercial, retail) – For purposes of excluding presumption and setting out the type of usage.
- Square Feet (# of square feet rented to the lessee) – Qualifies the leased premises and eliminates disputes about space leased and usable by the lessee.
- Monthly Contract Rent – Stated numerically and in long-form writing in the primary language of the property asset’s location.
- Lease Start Date – The date the lease starts.
- Lease-End Date – The date the lease ends.
There. Wasn’t that easy? What “belongs” on the rent roll? Just the facts, please. An exceptionally detailed rent roll may have twenty to forty columns of data for each lease, but the core data is succinct.
Stop right there. Every piece of information required is in the lease. If not – it’s a defective lease! Said another way, the lease contract, if not executed correctly, is unenforceable. An expired lease without a signed lease extension may be valid, or not. Why risk it? I’ve been to properties where everyone pays cash (cash!). If you seek to review the lease files here (stop and laugh heartedly), this is probably not the property. But for most of us in the rental property business, a lease is more than a passing fancy. They are the be-all-end-all stop-start-and-finish of determining financial viability and feasibility.
How do you get ahead of your competition for property assets? For people competing to purchase small multifamily deals, taking the time to analyze the financial information presented within a rent roll will have you miles ahead of the competition. Let me give you two examples:
- Lease-end dates. The rent roll is telling you precisely when the existing income stream is in jeopardy of ending.
- Pay record. If 20-30-40% of tenants are paying late, that’s a problem! Any downward blip in the local economy will have this number increase where it is now.
- Lease extensions. If all leases are original with no extensions signed, there is a presumption that the lease contracts auto-extend month-to-month at the end of the initial lease term. An auto-lease renewal is weak documents. They do not age well and can severely curtail the ability to obtain financing or new debt as all in-place lease can terminate at the end of the month.
For right now, presume we are building a rent roll from scratch. Consider that all documentation, all of the electronic files were “lost” except the leases. The rent roll shortlists depicted above will be our initial rent roll and nothing more.
Rent Roll Review and Bank Statements
Rent roll, check. Bank statements – got them. Income statement ties out, okay. Walk the property. Go into every unit before closing. See then if what your eyes are observing correlates to the numbers on the rent roll. It’s all part of the process. The buying decision, for any property asset, will always be a mix of financial analysis and physical, operational readiness.
Can the property you are buying attain its maximum financial output “as is” or only after further investment? We humans like to tinker. If and additional investment is the right decision, then proceed like a professional and work up all necessary post-closing changes during the due diligence phase. In this same way, a professional does not spend, commit, or write a check for not one thing until after closing.
My guess is two out of ten real estate deals fall apart within three weeks of closing. That’s a pretty high failure rate! Thus, there is NO reason to risk cash on a real estate deal “in process” until you own it. It’s normal to get excited; just keep your checkbook in your pocket until the ink is dry. Spending money on a property you might own is like dreaming of a cold drink on a scorching day; you’re just going to hot as hell until you get that drink.
There is a method for performing rent roll analysis that allows for all the steps to be covered. Miss one step in rent roll analysis can create a dramatic “hole” in your outcomes. Rent roll analysis is not hard. However, it does require focus and attention to detail. Rent roll analysis requires a methodical tenacity to get it right. What is rent roll analysis?
Rent Roll Analysis is determining the validity, or reliability, of rental revenue collected from income property
Why is this important? Because every year, billions of dollars in property change hands “valued” based on the property’s ability to deliver reliable income. Rent roll analysis is a primary tool in determining the strength of income, the ability of a property to perform as described and provide the revenue the buyer expects.
Rent roll analysis concludes with having validated the in-place rental income accurately based on a review of records that can tie income perceived (from the rent roll) with income received.
Rent roll analysis is the first step in assessing an income-producing real estate asset. Getting this right is imperative as this number affects every other figure in the financial reporting that follows.
The best of all worlds is when buyers and sellers can agree on measuring rental income; when both are on the same page and can agree on something (anything) as a point of fact. Gaining agreement between the parties that the rent roll is true and correct is a big step towards a successful closing and asset sale.
A rent roll refers to the amount of rent due from each property. In pre-revolutionary America, these properties were almost exclusively agricultural lands “rented” in exchange for a percentage of crops produced. In other contracts, the rent was a flat fee paid to the landowner.
The use of the rent roll today is a standard operating procedure for multifamily owners and operators. They provide a wealth of operating information that assists in managing the business of rental property.
A rent roll is more than an electronic page with names and amounts. Broader concerns can aggregate this data for review creating proprietary knowledge specific to their portfolio. The convergence of low-cost computing power and big data is making this possible.
Rent Roll Analysis is Like Gambling – Wrong!
No, it is not! I recall listening to a professional gambler comparing his profession to finance. He said, “gamblers and people in finance are in the same business; the only difference is their investment horizon.” There is some truth that; the gambler is looking at the next five minutes versus the finance professional viewing five years. Day-traders are perhaps more like gamblers based on their investment horizon. Most people in finance have a longer-view, and those of us in real estate longer still. The underlying objective of professional investors to assess risk and make money. But there are plenty of differences in timing and methods, including the level of commitment, risk tolerance, and dollars committed.
Always remember that rent roll analysis is a method of risk management that, once mastered, will always be in your financial toolbox. Once wedged into your conscientiousness as a valuable component to implement during real estate due diligence and operational review, it will become like breathing; you’ll be doing it all the time and not even know it.
There are two salient moments for any real estate investor; the day they buy an asset, and the day they sell it; these are the bookends of ownership. The timeline can be long or short, distilled with profits or staggering losses of equity capital. Time of ownership is just one factor in determining this outcome. Allow rent roll analysis assists you in selecting better assets, those with significant potential for gain, those with a higher probability of delivering sustainable rental revenue and recurring rents.