New Construction Does Not Mean Zero Repairs
When I wrote this title, I had to pause, step away from my computer and take a huge, deep breath to calm down. Now that I’m calm, I can write the following sentence in a nice way: Your expectations of new construction need a reality check. In this article, I’m going to discuss why the pro forma in most brokerage packages selling new construction are utter nonsense, the expectation that new construction is equivalent to zero problems is nonsense, and that using builders’ warranty as a risk mitigation tool will drive you nuts in the first year of owning your new construction.
Broker Packages
I love brokers (I am one too after all). Brokers are great at selling properties to their target audience. In this case, brokers who sell new construction always make the innocent (or not so innocent) mistake of assuming little to no repairs and maintenance in the pro forma for the first several years of operations. Why is that? Because we think about houses like they’re cars — usually no problems in the first couple of years and if there is one, you just bring the house back to the dealership and they’ll put a team of skilled technicians to fix your home ASAP because they want your repeat business. Wait, does what I just said actually sync up with reality? The answer is a resounding no. The truth is, the maintenance required in a rental property versus your own home is substantially different. In a rental, tenants do not own the building like homeowners do and therefore aren’t invested in keeping it in pristine condition. They are after all paying for you as the landlord to provide that service in the form of rent. As an owner of your own home, you most likely are going to keep your place in immaculate condition which means your expectations as a homeowner do not sync up with your tenants expectations as a renter. They will beat your property up and you will be paying to repair the water heater, HVAC, faucets, appliances, ovens, doors, cabinets, drywall, roof, and any other number of issues at a rate much higher than if you occupied the property yourself.
The Expectation
The truth about new construction is that buildings are built to building code in the city they reside in. That is NOT equivalent to them being built with a high degree or even any degree of quality control. The building inspector only cares that the foundation is solid, the lumber is framed to not collapse under its own weight, and that the electrical doesn’t electrocute anyone who enters the building, etc. What they do not inspect are things like the quality of the drywall hanging and taping. Or maybe some contractors come in at a later point in the job and start poking holes in your wall with a nail gun and hit a pipe, causing a massive leak (ask me how I know this). Or any other number of issues that tend to plague new construction and aren’t discovered until tenants actually live there and test the property’s limits.
But Builder’s Warranty Will Save the Day!
Sadly, I wish this was true. Unfortunately, the state of the construction industry these days is truly a shadow of its former self. The Great Recession of 2008 caused a large swath of construction professionals and general contractors to exit the industry permanently and not enough new blood made it into the business over the past 15 years. This occurred for a number of reasons: 1) Construction was not a profitable venture until 8-9 years ago, 2) High Schools push students to pursue college degrees instead of technical schools, 3) Our society just doesn’t think construction work is cool anymore. For those reasons and perhaps many more, the construction industry has been short-staffed for many years at a time when construction activities significantly ramped up. As a result, construction costs skyrocketed. Seeing an opportunity to earn more revenue, contractors took on more jobs than they can usually handle and worked their hardest to complete all of them.
In the world of all service work, you can only choose 2 of the following three attributes: speed, quality, cost. Most developers tend to pick and speed and cost at the cost of quality since this appears to be the most economically advantageous decision in the short run. As a result, lots of new construction has been delivered over the years with varying degrees of quality and when the work is discovered to be subpar, good luck asking those same contractors to come back and fix their work for no additional money. You’re right, they should be doing this as a matter of running a good business but in our experience is that they typically don’t. Meanwhile, your tenants are screaming at you to fix the leaky pipe or toilet right now, not whenever your plumbing contractor who installed your brand new system gets around to it. Guess who’s going to foot the bill for that repair while you sort it out with the folks who built your property?
So Avoid New Construction At All Costs?
Nope, they’re great properties to own since they’ll command the higher rents for quite a while. All I’m saying is you need to factor in some significant repairs and maintenance costs into your initial 12-18 months while your new building is being tested and broken in by all of your tenants. After this period, you’ll most likely see repair costs fall in line which might be typical of your type of building.
