Where to Invest First?

Question

BiggerPockets Members,

I am a new investor seeking a location (or "farm area") to purchase my first multi-family property (2-4 units). My plan is to move to the location and finance with an FHA loan. My goal is to live for free (or maybe even cash flow $50-$100 per month) and pick up additional cash-flowing buy & hold properties as time goes on.

I am not tied down to any particular location and am a bit overwhelmed by the amount of options I have. My target price range would be between $100k to $350k with limited rehab (cosmetic stuff is fine).

I have been looking into the following places and am having trouble making a decision: Chicago, Cleveland, Atlanta, San Antonio, Savannah, Dallas, Sacramento, St. Louis, and Kansas City. I'm open to other suggestions as well.

Any help would be greatly appreciated! Thanks!

Ethan Giller · Answer

@Kurt Batocabe,

Just wanted to give my experience of investing in Philadelphia real estate, since Philly does have a lot of options for the buy-and-hold investor, and real estate taxes are much lower than in New Jersey.  In Philly, you pay 0.14% in annual real estate tax for the assessed value of the property, which you can look up at property.phila.gov.  In 2014, the city did a complete re-valuation of all of its property so the assessed values are now more closely aligned with the true market value.  Typically you can expect to spend approximately 1 month of gross rent on real estate taxes, as compared to NJ where it is often 2-3x as much.

I also wanted to clarify some of the things that @Jim Kennedy  said regarding the tax structure of Pennsylvania and Philadelphia.  I certainly respect his advice and personal experience, but just wanted to weigh in with my own opinions based on my experiences.  You should verify all of this information with your own CPA before making any decisions, however.

"If you have rental properties and Philadelphia, first you pay Pennsylvania income tax on the income."

While you do have to file a state tax return for any states where you own rental properties, you are not taxed twice on the income.  You either pay the state tax in PA or in NJ.  Until very recently, PA & NJ had a reciprocal arrangement anyway so there was no impact from the different states income tax rates.

"Then you pay Philadelphia business income receipts tax on the net income. Then you pay Pennsylvania income tax on the gross receipts from the rental. Then you pay Philadelphia net profits tax on the net income..."

Philadelphia's BIRT & NPT are easily filed online, and are both relatively de minimus taxes, especially given the high CAP rates available in Philadelphia compared to NJ, and the comparitively low real estate taxes.  I'm not sure which tax the 'PA income tax on gross receipts' refers to, since Pennsylvania state tax is already discussed above and is based on net income, and Philadelphia wage tax applies only to W-2 income.

"Plus I hear many horror stories from my Philadelphia investor clients about issues with Philadelphia Department of licensing and inspections."

L&I is somewhat backed up currently for filings of new construction or major alteration permits, you may have to wait a couple extra weeks than usual for those or pay to have them expedited.  But in terms of filing for EZ permits, commercial activity license, or rental license, the city has actually made a lot of improvements over the last year and streamlined their processes, and I haven't experienced any delays or horor stories.

"Plus, I noticed that you lived in New Jersey so add five dollars to your expenses every time be going to the city when you cross the bridge."

If a $5 charge is determining your investment strategy, you might want to re-think your purchase price.

"If you pay a management company, and you go into Philadelphia, you can expect to pay 10 or 11%..."

Management fees are an important part of your investment strategy, but your costs are going to be about the same in NJ or in PA.

Just one man's opinion, and everyone has their own strategy, so see what makes sense for your goals!

Jim Kennedy · Answer

Hi Kurt,

like most "quick questions" that people ask me, the question is quick, but the answer is not. Still you ask, so get a cuppa coffee and here goes.

In buy-and-hold, the trick is to get the rents right, and then get the right rents! Granted, there are other states that cash flow better, and New Jersey's is a little bit tougher because of our ridiculous property taxes, but if you do your planning ahead of time, there's no reason you can't make money. We do and we invest  in Burlington County and Camden County.

The Jersey shore could mean several things. Are you looking at high-end weekly rental stuff like in Ocean City or Margate or vendor? At the top market because your buildings are empty several months out of the year, although some people go a little below market in the off-season to attract renters. If you rent high-end stuff, check with what's on the market. About 10 years ago my wife and I looked at a fifth floor condo in Wildwood for $725,000. Prices were off the charts back then so this seemed reasonable at that time. We left that day putting down $1000, and the realtor said he would come by the next day and drop off contracts. He showed us how great it would work if we got rent. For X amount of days at a certain amount of rent whose amount I now forget. Regardless, we came home, about a two-hour drive, we went on the Internet and started looking at the rents that people were getting. The ones closest two hours were $200 a week less! we couldn't pull out fast enough. We explained that to the real to the next day and we got a check back and that was that.  oh yeah, and weekly rentals, there are rules for taxation that are harsher than long-term buy and holds, so be aware of that to.That's enough about the high-end rental area.

If you are looking for stuff that's off beach, then it's a typical New Jersey scenario. Get competitive rents, know the area, screen your tenants and train them correctly, always consider the property tax appeal, and start making money! where I live, there is an excellent property tax appeal attorney in Haddonfield New Jersey named Stephen Eisner. He has done tax appeals for many of my buy-and-hold real estate investor client base of my CPA firm. His contact information can be easily found on the Internet.

One place I personally would not invest right now is Philadelphia. If you have rental properties and Philadelphia, first you pay Pennsylvania income tax on the income. Then you pay Philadelphia business income receipts tax on the net income. Then you pay Pennsylvania income tax on the gross receipts from the rental. Then you pay Philadelphia net profits tax on the net income, less a 60% credit for the tax you paid on the net income for the Philadelphia business income receipts tax. Clear as mud, right? Plus I hear many horror stories from my Philadelphia investor clients about issues with Philadelphia Department of licensing and inspections. Plus, I noticed that you lived in New Jersey so add five dollars to your expenses every time be going to the city when you cross the bridge, unless you take the Tacony Palmyra bridge which is only three or four dollars every time you cross. there are a lot of places just north of Center City experiencing re-gentrification,such asin Northern liberties and Fishtown and in South Philadelphia where there are 10 year property tax abatements in place, but you still have to deal with L and I and you still have to pay all the Philadelphia taxes.

Then there's the management side of it. Are you going to manage these? If you pay a management company, and you go into Philadelphia, you can expect to pay 10 or 11% to a real estate property management company, and that's usually about equal to your cash flow. With no cash flow that reduces you to being in the game only for the appreciation when you sell. That means to get your reward you have to wait till you sell and all that work that you do day-to-day, month-to-month, year to year, with nothing currently to show. I don't know about you, but I sure do enjoy the instant gratification of getting my rent checks every month and seeing a little bit extra of it go into my rainy day account.

Sorry to be so long-winded here, but you asked!

Jim kennedy, CPA

Sterling White · Answer

Congrats on narrowing down your markets @Craig Curelop. Have you drove the neighborhoods in those markets you're considering on investing in? This may not be a scalable option for all 9 of those markets, but once you narrow down to 2-3 it would be beneficial.

Steve Babiak · Answer

I agree with @Ethan Giller that you will not have to pay Pennsylvania income taxes TWICE on the same rental dollars as he quoted from another post here. Not sure if that user whose post was quoted was actually reading what he wrote, but maybe he should re-read and then post an update for clarification.

As to the de minimis nature of some of the Philadelphia taxes, my recollection is that the checks I write to pay those taxes are not all that large - so maybe that is the basis he used for saying those taxes are de minimis; I can't speak for him here ...

And maybe Ethan omitted to mention that you might have to pay a tax preparer for preparing those Philadelphia tax returns; since Ethan lists CPA among his credentials, he is likely not paying others for that service.

Jim Kennedy · Answer

@Ethan Giller

Thanks for weighing in. You have some interesting opinions.

For me, while the BIRT gross receipts portion is indeed small at 1.4% in my opinion, they are not de miminus. BIRT Net income is taxed @ just over 6.4 %, and NPT is at about 4%, The credit for one against the other levels you off at 6.4%, and thats not de minimis for me.

However, the saving grace is that a couple of years ago, Philadelphia implemented an exemption on a floor amount of gross receipt.Ultimately there could be no tax, but it is work to get there on the City reporting side.

Dont know if you noted, but the gentleman who posted this lives a good hour to the east of Philly, so if he self manages, hes not just going to spend tolls, but gas too, and while $5 isnt a lot of money to pay once, multiple trips add up, especially in c ombination witih gas, which just went up 23 cents a gallon in NJ on November 1. I should have included the gas/travel cost in my previous post.

Philadelphia has their online program, and if people want to take the time to wade thru it all, thats certainly okay. Others prepare to pay a professional to do it, which frees them up to do income-generating tasks, rather than administrative drudgery.

Jim Kennedy CPA

Jim Kennedy · Answer

I buy and hold in NJ because I live here, but in addition, for close to ten years, we havd buy and holds in Houston. I know thats a 2 hours drive from Dallas, but by Texas standards, thats kind of nearby. The purchase prices were low, (a combination of low market prices and powerful negations skills by my wife - that's one of HER strong suits). When we sold them one by one, the profit (stemming from the appreciation in value) was not dramatic - we made a scant few thousand, but they cash flowed really really well while we owned them. One of the more important keys is to retain tenants so you don't lose monthly rent. Screen screen screen, and then train them carefully and consistently. Done right, they stay a long time and play by your rules, not theirs.

Jim Kennedy, CPA

Will Pritchett · Answer

@Craig Curelop I live in San Antonio and invest here but don't have any multi units.  Most of the multis I see here are in areas I wouldn't want to live in (c areas).  There are certainly exceptions but they are usually priced above what makes sense from my investing perspective.  I feel like San Antonio doesn't have as many small multi-units as some cities when I hear others discuss their farm areas.  There are some cool old homes closer to downtown that have been divided into multis that may suit what you are looking for.  Good luck!

James Wise · Answer

I don't like to push anyone into certain markets as I only have 1st hand knowledge of the Cleveland market. Every market will have it's pro's and con's and some of them will be pretty similar. If you are evaluating the Cleveland market you should take a look at The Ultimate Guide to Grading Cleveland Neighborhoods.

Genaro Quiles · Answer

HI , if your intersted in investing in Philadelphia let me know

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