One of the most critical components of rental investing is the creation and management of effective management oversight. This effort begins with a management agreement that addresses all of these elements and ensures that the mechanism is in place for proper accountability, effective compensation, and a synergistic relationship between manager and investor.

What elements should be included in the management contract.

• Like all legal agreements, the parties to the agreement must be legally described.

• Compensation must be established. Compensation is typically a % of revenue plus other direct costs. The percentage may vary depending on the responsibilities. Also, the percentage tends to have a very strong location-specific component. One market will charge one percentage and another market will offer a different one. The higher the typical labor cost for a market, the higher the percentage. If the compensation includes a success component, it should be very clearly defined.

• The management agreement should include responsibilities for record keeping, accounting, profit and loss management, marketing, leasing, pricing, occupancy targets, maintenance, and all other aspects of property management.

• The agreement must include the term of the agreement, including the initial effective date through the closing date. This may include terms for the extension. In addition, the term must include terms for early termination by the manager or owners/investors of the project.

Property management companies are notorious for increasing expenses for owners and investors. Some properties see expense inflation of 25% or even 100% over local averages. The main excuse offered is that the condition of the property had begun to deteriorate and overcoming those problems was the key to increasing expenses. The main step to avoid these problems is your current performance with other properties. Tour properties, check references, ask to see the income statement for some existing properties, along with age, renovation date, if applicable, and a description of the most recent renovation. Also, check out the affiliated service providers, find out how many properties the service providers service. Compare the costs of these sources with the market rates for portfolios of similar size. Once the property manager is in place, please do not allow unsupervised operation (this should be included in your management contract). Review income statements, check invoices, and occasionally visit your property and similar properties. Make sure care, maintenance and customer service levels stay high and results meet your expectations. Third-party management does not relieve you of your responsibilities as a principal’s investor. If anything, attention to critical detail must be much more specific to enable outsourcing.