What am I missing?

[Brandon N/A]

Hi there,

I'm 24 years old and am very interested in getting involved in some REI. One of my Uncles has been successfully flipping houses for the last 13 years and lives a very comfortable life by doing this.

Last year I discovered a vacant property which I was very interested in, and decided to do some homework.

I called the tax department at city hall and was able to find out the owner's address. After a reverse search online, I also found her name, phone # etc. Anyway, turns out she is 77 years old, lives out of town, and has a horrible history with deadbeat tenants. She has owned the house for 33 years, and I assume it is paid for.

After finding all of this out + the fact that the property was sitting vacant (It didn't even have locks on the doors - Apparentely the last tenant pulled a hit and run on her and took the locks and other parts of the house with him) I figured she might be interested in selling. I called her up and she pretty much shot down the idea of selling saying that she was planning on renting out the place (by the way, it is a student house with 2 3 bedroom apartments). I politely mentioned that in order to rent the place out she would likely have to invest 35-40k as no one in their right mind would ever live there. Anyway, that was that.

I travelled for the year and came back to find the same house STILL sitting vacant. I drove by a day later and saw a truck there with the front door open. I pulled in and met the guy working on the place who was actually her nephew. He basically said he was doing some very minor cosmetic stuff to try and clean it up a bit (and get his aunt off his back) and that he has told her in the past to sell it as she is;

a.) getting pretty old
b.) not in the best health
c.) terrible history with the property
d.) needs to spend a lot to fix it up
e.) lives out of town

I explained to him that my Uncle and I would be interested in taking a look at the place if he could talk his Aunt into selling. He said he'd talk to her for me.

So...obviously a lot of things have to happen for this deal to take place (primarily her agreeing to sell and my Uncle agreeing to back me! haha) but I want to throw out a couple ideas and at least have a plan in line so I could take action quickly if things work out.

Here is what I know of the property;

In 2003 it was assessed at $113k
In 2004 it was assessed at $156k
In 2007 it was assessed at $213k

Both houses on each side of this property have been assessed at $300k this year. They are both in average condition and have 5 and 6 bedrooms respectively.

With the condition the property is in, and because it hasn't had any steady income that I know of I hope it can be purchased at discount.

I know that this property in living condition would easily command $450/month (and likely more) for 6 people= $32,400 annually (I lived in this city for a year, and paid rent about a block away from this house). Also, it is DIRECTLY across the street from the university, so it is a prime location.

I made an 'income statement' for the property and came up with the following #'s;

Effective Gross Income = $29,760
($32,400 + $600 in coin laundry less 10% vacancy allowance)

Total Operating/Fixed Expenses = $13,737
($3987 in property taxes AFTER renos and at an assumption of a new assessed value of $300k- used formula on city website to calculate this #)
($4464 for reserves and replacements (15%))
($1786 in management fees (used conservative 6%, but I would be doing this, not another company. Allowed this deduction from Income for my time)
($1000 for insurance - complete guess, no idea, have to verify)
($1500 for miscellaneous)

NOI = $16,023

Also, I contacted a few real estate agents in the area and found CAP rates to be around 7.5-8%...in this case, I am using 9.5% as it is vacant, rundown and hasn't had much success as a rental property.

Using these #'s, I estimate the value of the property to be $168,663.

Does this seem reasonable? What else am I forgetting to include in these calculations?

On to financing...

Say I offer $170k. Put down 20K and get a 150K mortgage over 30 years @ 6% (Could probably get better than 6% when my Uncle cosigns). The monthly payment on these terms is approx. $892 or $900. Taking the NOI and /12 I get $1335. Less the mortgage payment and I'm sitting at +$435.

Could I not refinance after the renos?

It is my guess that after $40k of renos the assessed value of the house would be approximately $300-325k. Could I not then refinance the property and pull out 90-95% of the other 150-170K (new value - the $150 already owed * 90-95%?)

If this is feasible I could then pay off $60k to my Uncle ($20 for the downpayment and $40 for renos + a profit) and use the rest to build an emergency fund, and work on my next deal...

What am I missing, where are the holes with this plan?

P.S. The roof and all windows were replaced 2 years ago. Also, I have thrown out the idea of the owner carrying the mortgage to her nephew...he is going to talk to her about that possibility as well.

From her point of view, I don't see how holding on to the property makes sense. She has to completely gut the place before anyone moves in, and she doesn't seem interested in doing that. In the meantime she is losing money as she is paying taxes and insurance each month.

From speaking with her nephew he said she is interested in renting out the place 8/12 months for $1600 a month...that only equals $12,800...and doesn't include any deductions. Say after some taxes, insurance, and other miscellaneous costs she could clear $9k...even after 10 years thats only $90k (ignoring rent increases..and with them, not that much more..maybe $110k?).