Why Are Owners Selling? Pros and Cons of Buying Owner-Occupied Properties

For those considering investing in owner-occupied properties, the question "why is the current owner selling?" is a very important decision factor.

In real estate investment, it is not uncommon to buy or sell income-producing properties that already have tenants. However, understanding why one would sell a property that is generating steady rental income is extremely important in post-purchase risk assessment and investment decisions.

In this article, based on INA & Associates, Inc.'s extensive brokerage experience, we will explain in detail from a professional real estate investment perspective the reasons for selling owner-occupied properties, the benefits of purchasing them, and the points to be aware of.

For those who are considering the purchase of investment properties, especially those who are considering the purchase of income-producing properties, we will provide practical decision-making materials.

What is an owner-change property?

An owner-change property is a rental property that is bought and sold with tenants already in place. Unlike a regular real estate transaction, the lease contract, the relationship with the tenants, and the management system are transferred to the new owner as is.

Differences from Normal Real Estate Sales

In a typical residential real estate transaction, it is assumed that the property will be vacant at the time of delivery. However, in the case of owner-occupied properties, the new owner is obligated to take over the existing lease contract because the tenants' right to occupy the property is legally protected.

While this mechanism allows the purchaser to receive rental income at the same time as acquiring the property, it also imposes restrictions on the selection of tenants and the setting of rental terms.

Transfer of Rental Management

In the transfer of rental management, not only is the ownership of the property simply transferred, but the following elements are also comprehensively transferred.

First, all the terms and conditions of the lease agreement will be transferred to the new owner. This includes rent, security deposit, key money, contract term, renewal terms, and special conditions.

Second, the new owner will also be legally obligated to return the security deposit and guarantee money that have been deposited by the tenants. These amounts are generally adjusted from the purchase price.

In addition, the contractual relationship with the management company also needs to be considered. In most cases, it is possible to continue the contract with the existing management company, but it is also possible to change it at the discretion of the new owner.

The most important feature of a real estate investment owner-change is that income is generated as soon as the investment begins. This is a significant advantage over purchasing a new rental property and recruiting tenants.

Major Reasons for Selling by Current Owner

Understanding the reasons for owner-occupied sales is an important clue for prospective buyers to determine the true value of a property. Reasons for sale are many and varied, but the major ones are discussed in detail below.

Need for financing

One of the most common reasons for sale is financing as a reason for selling an investment property. The decision to sell may be made when the owner sees a new investment opportunity or needs funds for business expansion.

In this case, the property itself is not in question; in fact, it may be a quality investment opportunity for the buyer, as it is often a property that is generating steady income.

In addition, there is an increasing number of cases where people are seeking to convert properties to cash in order to avoid inheritance tax or gift tax. Especially in the case of elderly owners, there is a desire to simplify procedures at the time of inheritance by increasing the liquidity of assets.

Reduction of Management Burden

Management of rental properties involves many tasks, such as dealing with tenants, arranging repairs, and contract renewal procedures. Some individual owners, in particular, find these management tasks burdensome and consider selling their properties.

Even when management is outsourced to a management company, the final decision and responsibility rests with the owner, and many people find this a mental burden.

This applies to cases where the aging of the owner makes it difficult to continue the management work, or where the owner's main job has become too busy to devote time to real estate investment as a side business.

Change in investment strategy

Some real estate investors decide to sell due to a review of their portfolio or a change in investment strategy.

For example, they may change their investment strategy from urban properties to high-yield properties in rural areas, expand the size of their investment from condominiums to single-family homes, or change their asset allocation from real estate investments to stock investments.

In such strategic sales, there is no problem with the profitability or potential of the property, and the property is more likely to be attractive to buyers.

Inheritance Measures

Increasingly, real estate is being converted to cash as an inheritance measure. Real estate is an asset that is difficult to divide, so if there are multiple heirs, converting the property to cash allows for a fair division of the property.

There are also cases where real estate is sold to secure funds to pay inheritance taxes. This is especially true in urban areas, where real estate has a higher assessed value and the inheritance tax burden tends to be heavier.

Responding to Changes in the Market Environment

There are cases in which a company is trying to sell at a high price by assessing trends in the real estate market. Particularly in recent years, when real estate prices have been rising, there has been an increase in sales to realize unrealized gains.

Some owners also make the decision to sell early in anticipation of future population decline and regional decline.

Characteristics by Reason for Sale and Impact on Buyers

As can be seen from this table, the condition of the property and the risks after purchase vary greatly depending on the reason for sale. When considering purchase, it is important to accurately understand the reason for sale and to conduct research and make a decision accordingly.

Advantages of Purchasing an Owner-occupied Property

The benefits of owner-occupied properties are many and varied, but the most important is the ability to secure income as soon as the investment begins. The following is a detailed explanation of the main advantages.

Immediate rental income

The biggest advantage of owner-change properties is that rental income is generated as soon as the property is acquired. While it usually takes several months from the time of tenant solicitation to the conclusion of a contract for the purchase of an investment property, this period is unnecessary in the case of owner-change properties.

This immediacy is especially attractive to investors who are in a hurry to recover investment funds or who value stable cash flow.

In addition, since the property already has a track record of profitability at the time of purchase, it often has an advantage in loan screening by financial institutions, which has the side benefit of making it easier to leverage the investment.

No need to recruit tenants

When purchasing a new rental property, time and costs are incurred in advertising, brokerage fees, and handling tenant previews to recruit new tenants. With owner-occupied properties, these initial costs and efforts can be eliminated.

Recruiting tenants involves uncertainty. Depending on the location and attractiveness of the property, there is a risk that the property may remain vacant for a longer period than expected, but this risk can be avoided with owner-change properties.

Especially in areas with limited rental demand or properties with special floor plans, the value of having tenants already in place is extremely high, considering the difficulty of securing tenants.

Proven Profitability

One of the most important factors to consider when purchasing an income-producing property is its actual earnings track record. In owner-occupied properties, specific data such as past rental income performance, occupancy rates, and management costs can be confirmed.

These actual performance data are extremely useful information for forecasting future earnings. For new properties, we must rely on theoretical yield calculations, but for owner-change properties, we can make decisions based on actual operating results.

In addition, the period of occupancy and renewal history of tenants can also be confirmed, allowing objective evaluation of tenant stability and the property's attractiveness.

Continuing Relationship with Management Company

Many owner-change properties can continue with the existing management company. Since the management company is familiar with the characteristics of the property and its tenants, a smooth management transition can be expected.

When looking for a new management company, it takes time to interview several companies, negotiate contract terms, and adjust management policies, etc. By utilizing the existing management system, these time-consuming tasks can be eliminated.

However, since it is possible to change the management company, if you are dissatisfied with the current management situation, taking the opportunity of purchasing the property to review it is an option.

Merit Comparison Chart

As this table shows, while owner-change properties have significant advantages in terms of profitability and certainty, there are limitations in terms of property customization and freedom in tenant selection.

Positioning in Investment Strategy

Real estate investment owner-change is particularly suited to investors with the following investment strategies

For investors who are looking for stability, properties with a proven track record of profitability are ideal investment targets. The stability of owner-occupied properties is a major attraction for those seeking steady income while minimizing risk.

For investors seeking to expand the size of their investments, a quick start to income will also lead to improved capital efficiency. For those planning to invest in multiple properties, early revenue generation from each property will directly lead to securing funds for the next investment.

Furthermore, for novice real estate investors, the ability to take over existing management systems and tenant relationships provides the dual benefits of reduced investment risk and learning opportunities.

Owner-change property purchase precautions

A thorough understanding of owner-occupant change precautions and proper research are key to a successful investment. While there are many advantages, there are also unique risks that require careful consideration.

Confirmation of the contents of the lease agreement

The most important item to verify is the details of the current lease agreement. The rent, contract term, renewal terms, and special covenants in the contract will all be transferred to the new owner, so it is essential to confirm all details prior to purchase.

Particular attention should be paid to the rent level compared to the market rate. If the current rent is significantly above the market rate, there is a risk of being asked to reduce the rent at the time of renewal. Conversely, if the rent is below the market rate, you can consider the possibility of increasing the rent in the future.

It is also important to distinguish between a fixed-term lease contract and an ordinary lease contract. In the case of a fixed-term lease, the contract is sure to end at the end of the contract period, but in the case of a standard lease, the tenant's rights are strongly protected, so it is difficult for the owner to cancel the contract.

The amount of the security deposit and key money should also be confirmed. These amounts vary greatly depending on local customs and the grade of the property, so it is important to determine whether they are appropriate.

Investigation of tenant demographics

It is extremely important to investigate the demographics of the tenants as a precaution for investment properties. It is necessary to confirm as much information as possible on tenants' occupation, place of employment, annual income, family structure, etc., to evaluate their ability to pay rent and stability of residence.

Past rent payment history is another important factor to be considered. If there is a history of nonpayment, the causes and frequency of nonpayment should be investigated in detail to assess future risk.

The length of tenants' residency is also an important indicator. Tenants who have lived in the property for a long period of time are likely to be attached to the property and can expect stable rental income. On the other hand, if the tenants change frequently, you should suspect that there may be some problems with the property or its management.

Building Maintenance Condition

The physical condition of the property should be investigated in detail, as it directly affects future repair costs and property values. It is recommended that the condition of exterior walls, roof, equipment, common areas, etc. be confirmed by a professional building inspection.

Especially for older properties, the time for large-scale repairs may be approaching. It is important to check the balance of the repair reserve fund, the existence of a repair plan, and the past repair history to estimate future repair costs.

It is also necessary to confirm when the equipment will be updated. Equipment such as water heaters, air conditioners, and intercom systems need to be renewed periodically, and these costs greatly affect profitability.

Repair history and future repair plans

The past repair history is an important document to determine the property's maintenance status. Properties that have undergone regular and appropriate repairs are considered to have a low risk of major problems in the future.

Future repair plans should also be confirmed. In particular, if major repairs are scheduled, the cost and timing of such repairs must be accurately ascertained, and the impact on investment income must be included in the calculations.

In the case of condominium units, the status of the repair reserve fund of the management association and the details of the long-term repair plan should be confirmed in detail. If the repair reserve fund is insufficient, a lump-sum charge or an increase in the repair reserve fund is expected in the future.

Management Company Evaluation

The ability and performance of the current management company will greatly affect the profitability of the property and the maintenance of asset values. It is necessary to comprehensively evaluate the management company's financial condition, management track record, quality of tenant service, and promptness in responding to repairs.

It is also important to confirm the level of management fees. If management fees are too high compared to the market rate, they may put pressure on profitability, and if they are too low, there may be a problem with the quality of management.

The terms of the contract with the management company also need to be confirmed. Understand the contract term, cancellation conditions, scope of management services, etc., and consider the possibility of changing the contract if necessary.

List of Checkpoints

By conducting a systematic investigation based on this table, you can minimize risks when purchasing owner-occupied properties. It is recommended that items with a level of importance of "◎" in particular be carefully checked with the advice of an expert.

Important items to be confirmed before purchase

A detailed analysis of the financial aspects is essential in the decision to purchase an owner-change property. It is necessary to comprehensively evaluate not only the superficial yield, but also the real profitability and risks.

Appropriateness of rent setting

Determining whether the current rent is at an appropriate level is an important factor directly related to investment returns. We objectively evaluate the current rent level by conducting a detailed survey of the market rents of similar properties in the surrounding area.

Methods for researching market rents include information from real estate portal sites, interviews with local real estate companies, and collection of actual contract cases. Comparative analysis that takes into account not only simple averages but also detailed conditions such as building age, floor plan, facilities, and location is necessary.

If the current rent is above the market rate, there is a risk of receiving a claim for rent reduction at the time of contract renewal. This is because the Land and House Lease Law allows the tenant the right to demand a reduction of rent if the rent is unreasonably high.

Conversely, if the rent is below the market rate, there is a possibility of increasing the rent in the future, but this requires the tenant's consent and generally takes time to be realized.

Assessing Vacancy Risk

Assessing future vacancy risk is extremely important when purchasing a rental property. Even if the property is currently occupied, the possibility of reoccupancy after the tenant moves out should be carefully considered.

In analyzing location conditions, we comprehensively evaluate the distance from the nearest station, convenience of transportation, and living convenience such as nearby commercial facilities, educational institutions, and medical facilities. Future development potential of the city and demographic changes should also be taken into consideration.

Regarding the competitiveness of a property, we analyze its superiority in terms of floor plans, facilities, age, and management status compared to similar properties in the same area. In particular, whether there are facilities or features that differentiate the property from others is an important factor in determining competitiveness.

Regarding the stability of rental demand, we analyze the characteristics of the tenant population in the target area. In areas with a large number of students, there is a risk that vacancies will be concentrated during the graduation period, and in areas with a large number of transferees, there is a vacancy risk depending on the transfer cycle.

Identify Legal Risks

Real estate investment involves a variety of legal risks and requires professional confirmation. We check for compliance with various laws and regulations such as the Building Standard Law, Urban Planning Law, and Fire Defense Law, and assess the risk of future legal problems.

For compliance with the Building Standard Law, we will check for the existence of a building permit and inspection certificate, and confirm that the building is not an illegal or existing nonconforming structure. If the building is illegal, financing may not be available, and if the building is existing nonconforming, there may be restrictions on future rebuilding.

It is also necessary to confirm the restrictions under the City Planning Law, such as zoning, building-to-land ratio, and floor-area ratio. These restrictions affect the possibility of future rebuilding or expansion and remodeling.

In the case of condominiums, the management regulations and detailed rules for use should also be checked in detail. Whether or not pets are allowed, restrictions on playing musical instruments, and whether or not private accommodations are allowed are important factors that may affect the ability to secure tenants and set rents.

Income/Expenditure Simulation

It is important to accurately grasp the real return on investment through detailed income/expense simulations. Calculate not only the surface yield, but also the real yield and cash flow in detail.

Income items include rental income, common service fee income, parking lot income, and other ancillary income. We will simulate optimistic, standard, and pessimistic scenarios, taking into account the possibility of future rent fluctuations.

Expenditure items will include detailed information on management fees, reserve for repairs, property taxes, city planning taxes, fire insurance premiums, outsourcing fees to management companies, repair expenses, and losses in the event of vacancy.

For repair expenses in particular, it is important to estimate an appropriate amount based on the age and condition of the building. Generally, it is recommended to estimate 5-10% of annual rental income as repair expenses.

Confirmation Items and Survey Methods

By conducting systematic research based on this table, the true investment value of owner-change properties can be accurately assessed.

Utilization of Experts

Because real estate investment owner-change requires knowledge in a variety of specialized fields, the use of appropriate specialists is the key to success.

A property evaluation by a real estate appraiser will calculate an appropriate price based on the income capitalization method and forecast future asset values. Especially in the case of expensive properties, professional evaluation is an important basis for investment decisions.

Building diagnosis by an architect evaluates the existence of structural problems, the condition of facilities, and the need for repairs from a professional perspective. Potential problems that cannot be seen from the outside may be discovered.

A tax consultation by a licensed tax accountant will examine in detail the tax benefits and risks, including how to calculate real estate income, use of depreciation, and inheritance tax planning.

A legal risk review by an attorney will provide a professional evaluation of the contents of contracts, legal rights, and the risk of future legal problems.

The cost of consulting with these experts is considered a necessary expense for investment decisions, and appropriate use of this service can significantly reduce investment risk.

Conclusion

Investing in owner-occupied properties can be a very attractive investment opportunity if done based on appropriate knowledge and careful research. Based on the information explained in this article, we will summarize the key points.

Understanding the reasons for the sale is the key to a successful investment

Understanding the exact reason for the current owner's owner-change sale is extremely important in determining the true value of the property. If the sale is due to financing or a change in investment strategy, it is likely to be a good investment opportunity. If the sale is due to management burden or building problems, careful consideration is required.

Since the room for price negotiation and post-purchase risks vary greatly depending on the reason for sale, it is important to understand the true reason for sale through sufficient communication with the seller and broker.

Balanced evaluation of merits and risks

Owner-change advantages, such as the immediate start of earnings, the elimination of the need to solicit tenants, and earnings forecasts based on actual results, contribute greatly to the improvement of investment efficiency. These advantages are especially attractive to investors who are looking for stability or who want to expand the scale of their investment.

On the other hand, there are also disadvantages, such as the inability to select tenants, limited flexibility in setting rents, and restrictions on property customization. The impact of these restrictions on investment strategies must be carefully evaluated.

Importance of Comprehensive Investment Decisions

As a precaution for investment properties, it is essential to comprehensively evaluate not only the superficial yield, but also the condition of the building, the attributes of the tenants, the management system, legal risks, and the future market environment from a multifaceted perspective.

In particular, it is recommended that the following points be carefully considered with the advice of an expert

In assessing the appropriateness of rent levels and the likelihood of future fluctuations, it is necessary to consider not only whether current rents are appropriate, but also the risk of rent fluctuations at the time of contract renewal.

In confirming the building's physical condition and repair plans, it is important to accurately assess the impact of future repair costs on profitability.

In assessing tenant stability and vacancy risk, it is necessary to consider not only the attributes of the current tenants, but also the likelihood of re-occupancy after they move out.

Next Action Steps

If you are considering investing in owner-occupied properties, we recommend that you proceed with the following steps.

First, clarify your investment goals and strategy. Specifically set the required yield, investment period, risk tolerance, etc., and determine whether owner-change properties fit into that strategy.

Next, we conduct a market survey of the target area. We conduct detailed research on rental demand, market rents, and future development potential to evaluate the attractiveness of the area as an investment area.

A detailed survey of the property will be conducted systematically based on the checkpoints described in this article. Risks are identified and countermeasures are considered, with advice from experts as necessary.

Income/expense simulations will set up multiple scenarios for detailed income forecasting. Optimistic, standard, and pessimistic cases are assumed, and even worst-case scenarios are checked to see if they are within acceptable limits.

In the final investment decision, we evaluate all research results comprehensively and make a decision after confirming consistency with the investment strategy.

Continuous Learning and Information Gathering

Because the real estate investment market is constantly changing, continuous learning and information gathering are the keys to success. It is important to stay up-to-date and update your knowledge in order to keep up with changes in legislation, market conditions, and new investment techniques.

The knowledge gained through actual investment experience is also a valuable asset. Applying the lessons learned from your first investment to your next investment and gradually improving your investment skills will lead to long-term investment success.

Purchasing an income-producing property is one of the most important investment decisions you will make in your life. We hope that the information in this article will help you take a prudent and strategic approach to your investment.

Frequently Asked Questions

Here are some frequently asked questions when considering investing in owner-change properties, answered in detail from a professional perspective.

Q1: Is the price of owner-change properties fair?

A1: The appropriateness of the price of owner-change properties must be judged comprehensively using multiple valuation methods.

In the income capitalization method, the theoretical value is calculated by discounting the annual rental income by an appropriate yield. In this process, it is important to set an appropriate yield by considering the transaction yields of similar properties and the financial environment.

In the transaction case comparison method, the appropriateness of the price is evaluated by comparing it with sales cases of similar properties in the same area. Conditions such as building age, location, and facilities are compared in detail to verify the reasonableness of the price difference.

Whether the current rent level is appropriate compared to the market rate also has a significant impact on the price evaluation. If the rent is set at a higher level than the market rate, the price should be adjusted in consideration of the risk of rent reduction in the future.

The condition of the building and the need for repairs are also important factors in the price evaluation. If major repairs are needed in the near future, it is appropriate to negotiate the price considering the cost of such repairs.

Q2: I am worried about trouble with tenants.

A2. To prevent problems with tenants, it is important to conduct a detailed survey in advance and establish an appropriate management system.

The pre-purchase tenant survey will include a detailed check of past rent payment history, relationships with neighbors, and property usage. Obtain a detailed report from the management company and carefully evaluate the property for potential problems.

At the time of contract succession, we will clearly communicate our policies as the new owner and strive to build a good relationship with the tenants. It is important to communicate appropriately through the management company to deepen mutual understanding.

A response system in the event of trouble will also be established in advance. Clarifying the system for cooperation with the management company, the system for consulting with attorneys when legal action is required, and the emergency response procedures will enable a prompt and appropriate response.

It is also important to fully understand the rights of tenants and be mindful of legally appropriate responses. Understanding the protection of tenants' rights under the Land and House Lease Law and avoiding unilateral responses will help prevent problems.

Q3. Is it possible to change the management company?

A3. It is legally possible to change the management company, but it is important to follow the proper timing and procedures.

Check the details of the current management contract and understand the contract term, cancellation conditions, and notice period. Most management contracts require three months' notice of termination.

When changing management companies, care should be taken to minimize the impact on tenants. Provide tenants with sufficient explanation and preparation time for changes in rent transfer, emergency contact, key management system, etc.

In selecting a new management company, comprehensively evaluate the company's management track record, costs, service offerings, and coverage area. It is important to receive proposals from multiple management companies and make the best choice.

In the handover process, detailed information such as tenant information, contract documents, keys, repair history, and accounting records are handed over. We recommend that you prepare a checklist and proceed systematically to ensure that there are no omissions or errors in information during this process.

Q4. Can the rent be increased immediately after purchase?

A4. There are legal restrictions on increasing rents, and a careful approach is required.

Under the Land and House Lease Law, a request for rent increase is allowed only when the rent is unreasonably low compared to rents of similar buildings in the neighborhood. A rent increase simply because the owner has changed is not legally allowed.

As grounds for rent increase, objective facts such as an increase in the surrounding market rate, price increase, increase in property tax, or increase in the value of the building are required. It is important to investigate these grounds in detail and organize them in writing.

Negotiations for an increase should be conducted appropriately through the management company. Instead of a one-way notice, the rationale for the increase should be carefully explained and every effort should be made to gain the understanding of the tenants. If negotiations prove difficult, we will consider increasing the amount in stages or in accordance with the renewal period.

If legal procedures are necessary, mediation or lawsuits are available, but they are time-consuming and expensive, so it is realistic to first aim for a resolution through discussion.

Q5. Should I ask for detailed reasons for the sale?

A5. Detailed confirmation of the reason for sale is extremely important in making an investment decision.

Since the true value and potential risks of a property vary greatly depending on the reason for sale, it is important to gather as much detailed information as possible. However, we will confirm only to the extent necessary to make an investment decision, while taking privacy into consideration.

In the case of a sale due to financing or a change in investment strategy, there is a high probability that there are no problems with the property itself, and it may represent a quality investment opportunity. In this case, we will confirm whether there are any restrictions on the timing of the sale and explore opportunities for price negotiations.

If the sale is due to management burdens or building problems, specific issues should be identified in detail. We seek candid information about the need for repairs, problems with tenants, and management issues.

In the case of an inheritance-related sale, we will confirm the status of the arrangement of rights and the progress of the sale procedures. It may be necessary to wait for the heirs to reach an agreement or complete legal procedures.

Confirming the reason for the sale is also an opportunity to build a relationship of trust with the seller. It is important to be sincere and strive to make the transaction mutually beneficial.