I get a lot of calls from various mobile home park owners that find my name and phone number on the internet. These are people that I have never met and have never read a single book or article I have written. Instead, they are going through the internet desperately looking for help to save their property from failing, and when you Google “mobile home park” I come right to the top. One call I remember vividly was from a new park owner named Rosie. Here’s her story.
How Rosie got in trouble
Rosie had purchased a mobile home park from a seller who offered owner-financing. As a result, there was little scrutiny of how she had underwritten the deal. And all her problems tied back to one basic issue: the park had about 30 park-owned rental homes. This had created two issues: 1) she had massively overpaid for these homes by “capping” their rental income and 2) the repair and maintenance was eating up most of the revenue from these rental homes. When I ran the numbers with her, the mobile home park appeared to be worth around $300,000 less than she had paid. It looked pretty bleak.
Why “capping” the rental homes does not work
Although the park had around 100 lots, it only had around 80 occupied, and Rosie included both lot rent and home rent in the same lump sum when calculating the total revenue. The problem is that the lot rent and home rent are not the same. “Lot rent” is real property income, while “home” rent is personal property. In mobile home parks, only “real property” can be used for cap rate calculations to obtain a 25-year bank mortgage. If you separate the rental home income into two stacks: 1) real property (lot rent) and 2) personal property (home rent) you can easily correct the problem. But she had used the whole number and, as a result, she had put around $300,000 or value on a bunch of old, run-down homes.
The truth about older rental homes
She had not budgeted anywhere close to the actual amount of the truthful operating costs of these homes. She had planned on around $50 per month of repair and it was coming in at around $200 of repair per home. That’s a big deal – around $6,000 per month of home repair. It was literally sinking her. And there was no sign of things ever getting better, as the homes were just continually falling apart due to decades of neglect and deferred maintenance, as well as resident who treated these home poorly. In most cases, Rosie was actually “paying” the people to live in these homes, as the costs exceeded the revenue.
Why seller financing is a frequent cause of this mistake
Appraisers and bankers will not use the home rental payments in their valuations. Since seller-financing does not require the input of either of these groups, it’s easy to get suckered into this trap. Since Rosie knew nothing about mobile home parks when she bought it, the typical safety net of the appraiser and banker were not there to stop her from making this mistake. Of course, not all appraisers and lenders are also sophisticated enough about mobile home parks to know this, so the only person you can trust is yourself. But I see this problem in seller-carry transactions more than any other feature.
The solution I proposed to her
After explaining to her the science behind why the property was not working as planned, I gave her a bold plan to solve the situation. Step one is that she needed to sell these homes off, either to the existing residents or, if vacant, then to rehab, run ads and get them out the door. I told her to let the renters know that she was officially getting out of the rental home business, and that they could have their homes for free if they would just pay the lot rent. And I told her to internally raise these lot rents to $100 per month less than the current home rental total amount. In other words, a $500 rental home would now have a lot rent of $400 once they purchased (or were given) their homes. I also told her to raise the lot rents on the tenant-home homes to closer to this $400 level, as they were paying way too low an amount at around $250 per month. I told her it might take several years to go from $250 to $400, but she needed to rebuild the park’s value through greater real property income to offset what she had originally budgeted. And I told her that – to pull all of this off – she would have to be very proactive to make this property more attractive aesthetically to warrant the higher amounts and keep the value high to the residents.
Rosie took all of these concepts to heart. She felt strange raising the rents (she had fallen into the same trap as the mom and pop owner and did not view this property as a true business) and discontinuing the home rental business (since she had planned to even add rentals over time) but her survival was more important to her than getting outside of her comfort zone. She did exactly what I told her, and within several years all of the rentals were gone (and the $6,000 home repair cost) and all lot rents were around $400 per month and not $250. She now had a positive cash flow after her debt payment and everything was looking good.
The proof is in the pudding
I received a call from Rosie years later. She wanted to let me know that she had followed all of my suggestions to the letter and had great news. She had sold the park and made about $500,000 in profit. As she had morphed all the income into real property revenue, she had also had success in filling lots with additional homes and RVs, and kept pushing the rents even after she hit the $400 target. I was, of course, thrilled that she had been able to escape financial ruin and instead joined the ranks of successful park owners with a nice profit and the ability to re-invest it in a new park – only this time using correct budgets to begin with.
There is a science to mobile home park investing, and when you violate that science onlybad things follow. The good news is that, if you apply the correct actions, you can stop the bleeding, become healthy again, and even show a profit. Rosie was lucky, but not all novice park buyers that do not become educated on the asset class. The bottom line is that it is imperative – before you write that down-payment check – to understand how the mobile home park business works. Even though I try to help where I can, life is much easier if you know what you’re doing.