Leasing is a popular option for start-up assisted living operators. And not just start-ups. Some of the largest assisted living operators lease their assisted living facilities.
Why would you lease your assisted living facility? Isn’t it better to own?
Most of us prefer to own our facilities. It gives you more control, more upside, more independence.
In an ideal world, you’d have enough cash to buy your assisted living facility without debt. Those of us in the real world know we may need to rely on other people’s money to help us buy our assisted living facility. The money might come from banks, partners, or other investors.
A lease is one of the most common ways to work with investors. The investor might invest 100% of the money to purchase your assisted living facility. I’ve even seen investors put up more than 100%, contributing extra cash to help fund working capital, too (but don’t count on that arrangement too often!).
In a recent Answers by Email (sign up here), I answered a question with a warning about handling end-of-lease issues. That raised several related questions, including this question:
How much does it cost to lease an assisted living facility?
As you can imagine, there are many factors that you need to consider when answering the question of how much rent should be for a leased assisted living facility. The cost of the property is one of the critical factors. Leasing anything depends mainly on what the asset costs that you’re leasing, whether it’s a car, a piece of equipment, or an entire assisted living facility.
(Please note: This post is written for the tenant side of the lease. We help senior care investors with questions, too. So, the landlord side of the lease will be covered more in another post soon.)
I’ve often shared that the rent charged when leasing an assisted living facility is often found within a range of two limits: 1) how much you can afford to pay and 2) how much an investor needs for their investment to work. Let’s break those down.
How much you can afford to pay
Assisted living facilities may generate substantial revenue. They also come with substantial expenses.
Knowing how much everything will cost and building a budget may be challenging when you start. (Estimating your expenses is another subject we’ll cover in detail sometime.) But knowing how much you can afford to pay for rent is essential.
It’s no different than your banker needing to know how much you can afford for a mortgage payment. So, your rent or mortgage payment must be included in your budget to help ensure your business is feasible.
There are many guidelines that you may choose to follow. One guideline I’ve found helpful is that real estate lease or debt service costs should be no more than 20% of revenue.
Let’s say your 10-bed assisted living home generates $45,000 per month (10 x $5,000/resident minus 10% vacancy). That means your rent or mortgage payment should be no more than $9,000/month.
Like every guideline, this is a rough rule of thumb, not a law. Your situation may be different. The economics of your market may be different. And so the amount you can or need to budget for rent will be different, too.
How much an investor needs
Investors are concerned about many things when they buy an assisted living facility to lease to an operator. First, there is the cost of the investment. Second, financing the investment has cost more lately as interest rates climb. Then, there are all the risks of the investment to consider. And there is also the expected return on investment.
When an investor can put money to work without risk and earn five percent or more in the current market, you can be sure they will need much more than five percent for an investment with the risks of an assisted living facility. Remember this when considering the cost of leasing and understanding what rent is reasonable.
At the same time, some investors want to extract so much rent from an assisted living operator that they make it difficult to make any profit. That approach is short-sighted. It’s reasonable to want the best return on the investment, but it may backfire if overly high rent only lasts a short while before the operator goes bust. When setting up the lease and completing their due diligence, investors should ensure the lease amount is feasible and leaves enough margin for the operator. That approach will help an investment pay off over the long run.
So, how much will your ALF rent cost?
As I’ve pointed out in this post, an operator’s rent when leasing an assisted living facility depends on many factors. But if you want a rule of thumb to use when budgeting for your assisted living facility, the annual rent (paid monthly) is often between 8% and 12% of the cost of the property.
For example, if you want to lease an assisted living home that costs $500,000, you might expect to pay rent of $40,000 to $60,000 per year.
Remember, the tenant operator is responsible for property taxes, insurance, and maintenance in most leases for assisted living facilities. So the rent amount is a ‘net rent’ as it’s called in the world of real estate investment. And that means that you should budget for rent and also budget for those other expenses.
Leasing can be an excellent option for financing your assisted living facility. It’s not the most affordable option, but leasing may be the right option for your first or next assisted living facility.
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