Louw Liebenberg, CEO of PayProp.
The year has barely started and is almost halfway already – and within this rush there seems to be the constantly growing background noise of preparation for a risky year ahead.
Choose whichever economist fits your fancy – the message is pretty much consistent: the economy is not growing while inflation is; the currency is weakening together with mining and commodities based businesses while consumer debt is increasing.
Some analysists argue that this is great for the letting sector. Fewer consumers will be able or willing to buy homes in such a tentative economic time, thereby increasing demand for residential letting properties. This theory is true. This has been seen before and it rental demands will grow as a result. But the risks that come with this type of growth almost outweigh whatever gains one hopes to make by pushing rentals up by a few percentage points than last year.
Why so serious? If the underlying economy and consequently consumer salaries grow by a lower percentage than rentals (which make up just over 25% of the average tenant’s after tax salary) –and the general cost of living increases – then how will tenants be funding this increase? And therein lies the rub.
Most consumers tend to gravitate to short term debt as a first call of action. At the moment that means that the average tenant as 8 store (Credit Provider Association) accounts and 3 loan (National Loan Register) accounts.
The cost to the consumer for repaying this is R10 620 per month. Considering that the after-tax earnings for the average applicant tenant is R24 442 – that’s 43%. It would be great if consumers were able to balance their debt obligations with the ability to manage credit. This is ideal, but the reality is that instead of reducing the level of debt, consumers are increasingly dipping into their available credit resources.
According to Payprop, their research shows that prospective tenants in the 20 000 bracket have used up almost 70 % of the available credit that has been provided to them. This means that their ability to absorb any economic life shocks (tires, braces, unexpected medical expenses) is vastly limited. And considering that after debt repayment, their next largest financial commitment is the payment of on average R6 576 worth of rental, their chance of defaulting on this expense increases.
What if, as an estate agent, operates in an area with better off consumers? Would this affect them or won’t it affect them? According to Payprop, unfortunately, it will.
If it is assumed that tenants who earn more tend to rent in places that cost more, then yes, estate agents are dealing with higher income earning individuals in an area where rentals are higher. But here comes the sobering reality…
As prospective tenant income increases, in general, their credit risk rating decreases. And this is true for every category except rentals above R15 000. There are, on average, more
high and very high risk prospective tenants in this category than in the price band R7 500 – R10 000. Why is this? Payprop cannot say exactly, but their theory is that these consumers are
signing up for leases above their means.
Should letting agents then rather pack up their spreadsheets and sob quietly in the corner?
According to Payprop; no. There are two really powerful strategies to employ. The first is better tenant selection. This does not only mean the obvious of placing better scoring tenants rather than poorer scoring tenants, but understanding tenant affordability and placing tenants accordingly. How does one do this?
Easy, Payprop advises estate agencies to us something like the PayProp Tenant Assessment Report, which not only plots a prospective tenant’s credit rating, but also uses a customized algorithm to understand how their current debt position is likely to affect their future ability to pay the rental amount that they have applied for. The assessment not only helps avoid those with bad payment records, but more importantly allows the agent to understand if a lower rental amount will suit the tenant’s cash flow position better. Helping a tenant find accommodation that they can actually afford should be a far more rewarding process than chasing after a non-paying tenant who bit off more than he could chew.
And then there is the issue of deposits, which are in place to protect the landlord against non-payment and damages. And it would be natural to suggest then that as risk increases, agents should increase deposits? Yes and no. Increasing a deposit in a tough economic climate may just push a tenant who really wants a property into a worse position.
Payprop often hears agents say that a high deposit is a bar prospective tenants need to clear to show that they can indeed afford the rental. Surely a prospective tenant that can put down two month’s deposit is better than the tenant who only has one month?.
Simplistically yes, but where does the deposit come from? If a prospective tenant is using a high-interest micro-loan to fund the deposit – is she really a better tenant? In such
instances the tenant is now worse off in cash-flow terms – and the agent has inadvertently increased non-payment risk.
The solution? Increasingly we are seeing the emerge of deposit replacement products. The PayProp Capital DepositGuarantee is one such product which provides the landlord with 2.5 times the rental value in cover. The tenant does not put down a deposit, but instead pays a premium towards the insurer – who then warrants to the owner that any contractual costs (i.e. damages, one month’s unpaid rent, etc.) will be paid by the insurer.
Whichever way you look at it, the coming year is not a case of ‘business as usual’ for the letting industry. The agencies that are going to excel in this environment will be those who pay attention to selection and spend more time with the prospective tenants to understand how they can help them find, afford and structure the financing of that stunning home they want to rent.