New investor in Minneapolis, MN: planning for first deal

[Madeline J.]

Hello all! I've spent a couple of months perusing these forums, listening to the podcasts and reading real estate books. I am from Minnesota and currently at school (health care field) in Oregon. My goal is to work full-time in my field and use my savings to invest in real estate which will eventually hopefully become a passive income stream. I'm planning to move back to Minneapolis in June 2017 upon graduating. Currently, my plan looks like this -- I would appreciate any cautions or advice you have. Thank you!

Outline:

1. Get pre-qualified for a mortgage around January 2017 (must wait until the same calendar year as purchase, correct?).

2. Find a duplex in NE Minneapolis (or possibly parts of Camden, North Loop, St. Louis Park, Golden Valley, Robbinsdale, Brooklyn Center)... examples of recent sales I would like to find something similar to:

https://www.redfin.com/MN/Minneapolis/344-18th-Ave-NE-55418/home/51349369

https://www.redfin.com/MN/Minneapolis/2236-Pierce-St-NE-55418/home/50202224

Based on Craigslist, it looks like you can get about 550 per bedroom, or about 1100 for a two-bedroom. Does anyone have experience renting in this area and can comment on these rates? 

3. Get an FHA loan or FHA 203k loan depending on how much work the property needs. Assume 35% of gross monthly rent toward vacancies, repairs, and future property management. I chose these higher numbers because I don't really know what I'm doing (although I'm learning as much as possible) and most of the duplexes in this area are from the 1940s or earlier. Any thoughts on how to make these rates as accurate as possible? I also have been told that I should have 6 months of expenses saved. Is this number appropriate or should it be higher for an older property, built in say 1920?

4. Analyze net cash flow including taxes, MIP, upcoming cap ex expenses, insurance, and P&I. Am I missing anything?

5. Put in a lowish offer and find tenants with good credit scores, clean backgrounds, not temporary employment, good references.

Other questions: 

- If all goes well I could refinance into a conventional loan with 20% down after the seasoning period or about a year. However, while this would improve the cap rate since I wouldn't have to pay MIP, it would reduce my cash on cash return since I would have much more money tied up in the down payment. Thoughts on what to do with this?

- I'm very excited about the process and have family in MN who are willing to look at houses for me and actually have experience with buying and repairing old homes. Also, what if the historically low mortgage rates don't last another year? But I understand that with an FHA loan you need to move into the place within 60 days of closing. Is there any way I would benefit from starting this process sooner while I'm still on the west coast?

- Finally, a curveball... I am currently living in Portland, OR where home values have skyrocketed over the last few years but rent has too. Would there be any major benefits to looking at this market instead of MN? I'm not planning to stay here much longer than another 1.5 years. 

Any feedback would be much appreciated! Thank you!

Maddie

PS: Please let me know if this post doesn't meet the forum guidelines and I will edit it.

[Marc Jolicoeur]

Maddie, 

You have a lot of questions. I don't know if I can answer them all but I do have something to add.

I assume you are going to live in one half for a while at least before moving on and keeping both halfs as rentals.

Consider the location and what type of resident will be renting from you, and being your neighbor.   The two NE Mpls houses you linked have really bad school ratings.  That will largely drive away a certain type of clientele.   Young couples. room mates, and singles love parts of NorthEast.  As do artists and blue collar workers.  It is becoming hip to live there and still cheaper to rent than in Uptown.  However, it will be difficult to attract families with school aged children because of the schools situation.

Anyway location matters more than price.   There is a wide range of different customer profiles for each area you listed.

If I was in health care, I would try to find pockets near hospitals where there are more like minded people wanting to be close or within transit of the medical centers.    Near the U of M, Richfield, and Powderhorn Park are areas that might be good options due to proximity to medical jobs. 

To address some of your questions.....

1. Getting prequalified 5 months before you move does not really make sense. It will not work.  You will need to be prequalified again in May, or whenever you are starting to shop.  You could consult with a mortgage broker now however to understand better what types of loans and properties you should be targeting.  You cannot lock in an interest rate this early.

2. Best deals buying in a hot sellers market like we have today is to intentionally buy a fixer upper.  Buy one that needs some work and you will definitely reduce the competition.

3. If you fix up a property top to bottom with an FHA 203K loan, your ongoing maintenance cost should be manageable. You would be able to easily plan on 5% of gross rents to cover anything that comes up. Then - plan for capx like roofs, windows, driveways, siding, HVAC systems. You should inspect these when you buy with an estimated date of when they will need to be fixed.

4. For reserves, 6 months is not a hard and fast rule.  I would budget for 3 months of expenses due to lost rent and for having to replace carpets and paint if the renters damage your property above what damage deposit you collected.

5. For vacancies, you can plan on 5% for vacancies as long as your property is in good shape and you carefully screen applicants. If it's been renovated and in a good school district, you should never have more than one month of Vacancy on average every 2 years.

6. Make sure you can cash flow after accounting for all of the expenses and debt service.   Doing this math is eye opening.  Make sure it will cash flow after you move out and both units are rented.

7. buy now or later?  I think interest rates will go up - but if they do, values will go down accordingly.    Its probably a wash.