The only chance of finding positive cash flow is...

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The only chance of finding positive cash flow is...

Joe Edwards-Hoff
Homeowner · Grandview, WA · Member since 2010 · 155 posts · 21 votes

I'm only a couple weeks into researching real estate. Well, I actually own a home and rent it, but that is besides the point. I'm just trying recover an unwise past investment. Hopefully my current refinancing goes through and I won't be paying the difference anymore. (Renting to good friends though, and I still have use of the premesis and my 1k sqft shop.)

Anyway, I got started listing to Rich Dad Poor Dad, and other things they do. I am almost done with 16 hours of Bob Allen lectures. I've heard good and bad about both, but what's important is that I got inspired by these audiobooks and now I am doing my down to earth research.

It seems like both Bob and Bob (Kiyosaki and Allen) quoted that if the yearly gross rent was 10% of the purchase price, it was a good deal. At one point someone even mentioned monthly being 1%. Now, on here I am seeing 2% for monthly, and then 50% (40-50) being the expenses. That is obviously a different picture than what they paint. Which I'm sure, sadly, a few people on here probably learned the hard way.

So, if we use those realistic numbers, you really need to have a good LTV ratio if you want positive cashflow. And that is what I currently think I want.

So what options does that leave you with? I guess the main purpose of this post was to figure out what I would need to be looking for if I wanted positive cash flow. Preforeclosures? Maybe REOs. Maybe get lucky with a FSBO. If there are any other avenues for acquiring properties with a LTV I could profit off of, please let me know.

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Jon Holdman
Rental Property Investor · Mercer Island, WA · Member since 2008 · 22k+ posts · 14k+ votes
16y

Actually, you want a property that cash flows with a 100% LTV (loan to value) loan. That means the property itself cash flows. Then, you start putting in cash (a down payment) and there is more cash flow. That additional cash flow is from your money, not from the property.

Commercial properties often use the term "cap rate". That's the return you generate if you pay cash for the property. The idea there is that you will make money as long as your interest rate is lower than the cap rate. Once you finance the property, you will make the full cap rate on the down payment. You'll make the difference between the cap rate and the interest rate on the financed portion.

Keep in mind all those gurus are selling education. They're goal is to get you to spend more and more money on ever more expensive education products. So, they have to present RE investing as if its easy and fun and a way to make a fortune with no effort. If they told you it was hard work, you would just walk away rather than buying something else.

The 50% rule seems to be solid. Lots of people have argued with it, but every time someone has real data for a significant portfolio (the results from one house for one year are not meaningful), its been borne out. So, if you buy a property where the rent is 1% of the price, and you're paying 6% interest, you're going to be just break even. That is, your gross is 12% of the purchase price. 50% of that, or 6% of the purchase price goes to expenses. With 100% financing, 6% of the price goes to interest. That leaves you with zero. Now, if you put in 25% down payment, your interest is only 4.5% of the price, leaving you with 1.5% of the price as your return.

1.5% of the price as a return divided by 25% of the price as your down payment gives you a 6% cash on cash return. Not high enough, IMHO, to be interesting.

Further, you actually have a principle payment. While you will get that back later, its money out of your pocket for now. And, if your intention is to live off your rentals, it money you can't live off of.

Even further, this neglects costs of buying the place (2-3% of purchase) and any fixup.

I think your question is "where can I find good deals"? Thats a pretty frequent topic here, so do some digging and you'll get ideas. REOs have been working for me, though this has become more competitive. Direct marketing (letters) works for some people. Making sure EVERYONE in the area knows you're buying works for some people. I've not heard many people say they had luck with FSBOs, which are often the case of the seller wanting too much for their property and being unwilling to pay a commission to get it.

Bottom line? It is REALLY hard to find good rental properties. You have to put a LOT of work into it.

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  • Jon Holdman
    Rental Property Investor · Mercer Island, WA · Member since 2008 · 22k+ posts · 14k+ votes
    16y

    Actually, you want a property that cash flows with a 100% LTV (loan to value) loan. That means the property itself cash flows. Then, you start putting in cash (a down payment) and there is more cash flow. That additional cash flow is from your money, not from the property.

    Commercial properties often use the term "cap rate". That's the return you generate if you pay cash for the property. The idea there is that you will make money as long as your interest rate is lower than the cap rate. Once you finance the property, you will make the full cap rate on the down payment. You'll make the difference between the cap rate and the interest rate on the financed portion.

    Keep in mind all those gurus are selling education. They're goal is to get you to spend more and more money on ever more expensive education products. So, they have to present RE investing as if its easy and fun and a way to make a fortune with no effort. If they told you it was hard work, you would just walk away rather than buying something else.

    The 50% rule seems to be solid. Lots of people have argued with it, but every time someone has real data for a significant portfolio (the results from one house for one year are not meaningful), its been borne out. So, if you buy a property where the rent is 1% of the price, and you're paying 6% interest, you're going to be just break even. That is, your gross is 12% of the purchase price. 50% of that, or 6% of the purchase price goes to expenses. With 100% financing, 6% of the price goes to interest. That leaves you with zero. Now, if you put in 25% down payment, your interest is only 4.5% of the price, leaving you with 1.5% of the price as your return.

    1.5% of the price as a return divided by 25% of the price as your down payment gives you a 6% cash on cash return. Not high enough, IMHO, to be interesting.

    Further, you actually have a principle payment. While you will get that back later, its money out of your pocket for now. And, if your intention is to live off your rentals, it money you can't live off of.

    Even further, this neglects costs of buying the place (2-3% of purchase) and any fixup.

    I think your question is "where can I find good deals"? Thats a pretty frequent topic here, so do some digging and you'll get ideas. REOs have been working for me, though this has become more competitive. Direct marketing (letters) works for some people. Making sure EVERYONE in the area knows you're buying works for some people. I've not heard many people say they had luck with FSBOs, which are often the case of the seller wanting too much for their property and being unwilling to pay a commission to get it.

    Bottom line? It is REALLY hard to find good rental properties. You have to put a LOT of work into it.

    20Reply
  • Dale Osborn
    Mobile Home Investor · Spanaway, WA · Member since 2008 · 1k+ posts · 578 votes
    16y

    I happen to like mobile homes as you can get in with little money and then sell for retail prices with some down and the rest carried back on a note at 12-15% interest depending on your state and what they consider usury. Colorado it used to be usury rate was if it exceeded 44%. I have not kept up with it lately though.

    0Reply
  • Joe Edwards-Hoff
    OP
    Homeowner · Grandview, WA · Member since 2010 · 155 posts · 21 votes
    16y

    Thanks Jon, you've been quick to get me good answers on a few questions now. I value your experience.

    I agree my question was "where can I find good deals?" Though I have done enough reading and audiobook listening to have an idea of the different options out there, I was confirming that I wasn't missing anything. But i think you nailed it.

    If positive cash flow is the desire, will it basically be a matter of hunting until the right place comes along? Basically keep hunting and running numbers until something adds up right.

    1Reply
  • Bill Patterson
    Real Estate Investor · Portage, MI · Member since 2010 · 470 posts · 315 votes
    16y

    In my opinion, your best bet is to look at lots of rentals, so you know that end of the market. What do you need to provide in amenities and price to attract tenants. That is the only way you will know a good deal when you see one. Then apply Jon's advice. If it still looks good, I'd run actual numbers and make an offer! Good deals don't usually last long on the market. It's better to be cautious and lose a few good deals than to move too fast and buy an alligator! One other thing new investors often forget....The month you take to clean, repair and find a tenant means an 8.3% vacancy factor.
    Bill

    5Reply
  • Bryan Hancock
    Investor · Round Rock, TX · Member since 2010 · 8k+ posts · 4k+ votes
    16y
    Originally posted by Jon Holdman:

    Commercial properties often use the term "cap rate". That's the return you generate if you pay cash for the property. The idea there is that you will make money as long as your interest rate is lower than the cap rate. Once you finance the property, you will make the full cap rate on the down payment. You'll make the difference between the cap rate and the interest rate on the financed portion.


    Jon's post is solid and the 50% rule will definitely keep you out of trouble.

    The only thing I would nitpick about is that what is written above does not work precisely with a fully-amortizing loan based on an annuity calculation or any loan that is not interest-only. You need to calculate an annual loan constant and compare that to the cap rate...not the coupon rate of the note.

    //Quoting a popular article
    The annual loan constant is the sum of the annual mortgage payments—both principal and interest—divided by the mortgage balance. In a 30-year fixed rate mortgage, the annual loan constant is a little higher than the mortgage interest rate at the outset of the mortgage term. For example, the annual constant on a 30-year fixed rate mortgage at 7.25% is 8.14% initially.
    //End quote

    The precise formula is that your loan-to-value ratio multiplied by your annual constant must be lower than your cap rate to get positive cash flow.

    Note that your cost of equity in a WACC calculation will differ from every other investor so the price YOU will pay for the investment will also differ from what they will pay. You will also have a different cost of debt (interest) depending on how the project is financed. All of this needs to be taken into account to decide whether or not the project will cash flow.

    IMHO all portfolio properties should be financed with 30-year, fully-amortizing debt because Fannie/Freddie drive the cost of debt down so low that it wouldn't make sense to finance it any other way. This is especially true if you can purchase the project subject-to and refinance it after it is re-appraised on down the line. This keeps your cash out of the deal and pops your ROE, IRR, or any other metric you use as a hurdle rate for the project.

    Buying subject-to generally ups your purchase price above what it would be with an all-cash offer so all of the scenarios need to be modeled for each type of transaction to see which one makes the most sense. If the discount you get using all cash is big enough it may be worth it to finance the deal that way instead of taking title subject-to and later refinance with a Fannie/Freddie 30-year loan.

    1Reply
  • Joe Edwards-Hoff
    OP
    Homeowner · Grandview, WA · Member since 2010 · 155 posts · 21 votes
    16y

    So if a "good deal" did come around, would it be a good idea to try to come up with an ABC offer and then put an addendum on the contract that gives you an out, so that I can have time to look it over more? (Both ideas I got from some Robart Allen material)

    This was, if I did find a good deal, I'd be able to lock it up before the competition.

    1Reply
  • Curt DavisBusiness Member
    Flipper/Rehabber · Memphis, TN · Member since 2008 · 5k+ posts · 2k+ votes
    16y

    If your going to try to keep up with the 2% rule you will find this does not always work out and when it does not, it could still be a good deal. Example:

    2% means if you buy a home for $40K it should rent for $800. When you get into the $50-$60k range you will find this almost impossible to achieve. I dont know where you can buy a home for $60k all in and have it rent for $1,200 per month. If you find a deal like this please do one of the following 2 things:

    1. Buy it for yourself right away as this is a great deal.

    2. Call me and i will buy it as its a great deal!!

    Good luck.

    Curt Davis - KAIZEN Realty538 Reviews
    WebsiteView Page
    5Reply
  • Bill Gulley
    Investor, Entrepreneur, Educator · Springfield, MO · Member since 2009 · 21k+ posts · 12k+ votes
    16y

    Jon and Bill have solid advice here. And Curt, he beat me to the submit button!

    You can get into over analysis mode real easy. This does not have to be rocket science. In fact, as I keep saying, real estate is as much an art as it is a science. Forget ROI, cap rates and financial analysis starting out, You will need to find deals that make money and you'll need to select the best property at that time. There is always something better that comes around and if you wait for that deal, you'll never buy anything!

    OTH, all this depends too where you are, in your investment business and location. Most everyone here is in another place and all things are never equal.

    I have purchased properties that did not really cost me anything, some provided nothing more than tax advantages without any cash flow. Most here would never agree to buying a property that did not cash flow, but it can have advantages, especially as a long term investment. This does get into speculation and it's not a game to play for those who can't afford to lose a deal, but as I recall, I have always made money on each deal, even those that sat there, some for several years, without any cash flow. So, it depends on what you are doing, what your needs are and where you are taking these investments, what's the strategy????
    Getting investing advice is like getting advice on anything else, there will be opinions. Learn to judge your own situation and deals, then add some advice and a dash of salt! Good luck, Bill

    6Reply
  • Jon Holdman
    Rental Property Investor · Mercer Island, WA · Member since 2008 · 22k+ posts · 14k+ votes
    16y

    No idea what you mean by "ABC" offer. ABC makes me think of "Glen Garry Glenross", a truly classic movie for real estate. My wife hates it. Or ABC stores in Hawaii and Vegas. Where everything you need for a day at the beach is available in one spot.

    Inspection and Financing contingencies are common in contracts. Don't put in some BS like "partner approval". Your offer will be stronger without these contingencies, but they can protect you. Moving quickly is always a good idea. Those two contingencies should be sufficient to get you out of a deal if you find something unacceptable.

    I'll push back just a tiny bit, Bryan, and point out I did mention the principle payment made matters worse. But, yes, your calculation is more accurate.

    Bill makes an excellent point. Start by learning the rental side of the market. The rent is the factor you have the least control over. I end up just making a table of price vs. rent. I factor in all my various costs and, based solely on the rent and my estimated repair costs, I can name the price I'll pay for a property. Use that and find an area where retail prices (i.e., the prices on the MLS) are at least close to your max price. Then start beating the street with whatever technique you want to try. Look at lots and lots of houses, make lots of offers, buy a few.

    4Reply
  • Joe Edwards-Hoff
    OP
    Homeowner · Grandview, WA · Member since 2010 · 155 posts · 21 votes
    16y

    The ABC deal is just three options for financing a deal. As I understand, by giving the seller a few options it helps with negotiating. But either way it goes is still advantageous to us.

    Example-

    A- Seller finances, or holds the note, and we get a 0 down option. This would also have the highest sale price on the property.

    C- We find financing elsewhere, but we also require a lower selling price

    B- Somewhere between A and C. Maybe we got 70% financing and then have the seller hold a note for the other 30%.

    Idea being, we give them options, but each on works well for us.

    1Reply
  • Jon Holdman
    Rental Property Investor · Mercer Island, WA · Member since 2008 · 22k+ posts · 14k+ votes
    16y

    Bill, Curt, and I all posted at the same time, so I didn't see their replies.

    I totally agree with Curt that 2% only works in a narrow range. Right about $500 in monthly rent. Above that, you can have a smaller ratio and still clear $100 a month. Below that, it gets really tough. If you have a $300 rental, subtract $150 for expanses and $100 for desired cash flow, you're left with only $50 for the mortgage.

    ABC in Glen Garry Glenross is "always be closing". Although they were a bunch of shysters in that movie, it is, IMHO, a much more realistic depection of the real estate business than anything you'll read Kiyosaki or Allen's material. By that I don't mean selling bogus deals to unsuspecting buyers (though there seems to be plenty of that), but the dogged work it takes to be successful.

    1Reply
  • Michael Rossi
    Real Estate Investor · OH · Member since 2008 · 4k+ posts · 1k+ votes
    16y

    AMEN! No disrespect intended, but Brian's posts make my head hurt. I had to take some aspirin before I could even answer this post!

    You don't need to calculate the annual loan constant, IRR, ROE, cap rate, or any of that other nonsense to determine if a deal is good or not. The rental business (especially the residential rental business - houses, apartment buildings, etc) just isn't that complicated.

    Subtract ALL the expenses (as defined by the 50% Rule) and the debt payment from the gross rents to get the cash flow. If the cash flow meets your target ($100 per door per month in my case), then buy it! This ain't brain surgery.

    The idea is to buy a $60K house for $30K (including rehab) and rent it for $600 per month or buy a $120K house for $60K and rent it for $1,200 per month. You can't control the market rent but you CAN control the purchase price!!! Yes, you CAN do this, but like everything else in life - IT DOES REQUIRE WORK!

    If you can't find deals at 50% of the market value in this market, my suggestion is to give up real estate and apply for a "greeter" position at WalMart!

    Finally, the reason that the OP has seen different numbers from the gurus (1% of rents, etc) is that the gurus are interested in selling you their expensive seminars, courses, coaching, and mentoring. If they make it sound difficult to find good deals, they'd lose most of the lemmings. In my experience, most of the gurus clearly don't know anything about rentals (or worse, they are lying about the facts). I'd throw all the guru crap away and join your local REIA (and of course read all the posts on BP). You'll learn more by doing this for FREE than you could evern learn reading every crap-filled guru nonsense course and attending every guru seminar on the planet!

    5Reply
  • Bryan Hancock
    Investor · Round Rock, TX · Member since 2010 · 8k+ posts · 4k+ votes
    16y

    Okay...I agree that it doesn't have to be complicated. The point of my post was to define positive cash flow rigorously. Here is a simple formula:

    Gross scheduled ACTUAL rents / 2 = ~NOI
    NOI - Debt Service = "Cash Flow"

    Just because the "cash flow" number above is negative doesn't make it a bad deal IMO. It really depends on what you are trying to do, what your tax situation looks like, how the project is financed, your exit strategy, etc.

    The truth is that it doesn't have to be a complicated analysis, but whether or not something is a *good* deal depends on a number of moving parts. Many of these moving parts have nothing to do with the quick-and-dirty "cash flow" calculation the the 50% "rule" yields.

    1Reply
  • Joe Edwards-Hoff
    OP
    Homeowner · Grandview, WA · Member since 2010 · 155 posts · 21 votes
    16y

    So, would I be correct to assume that as you purchase more expensive properties (per door) that the rule of 50% would lower slightly? For instance, Jon used the example of a $300 rental that you need $150 for expenses via the 50% rule. That makes sense to me. So, if I have a 4b2b house that brings in 1400, will I still need the full 50% ($700), or would 40-45% maybe be more realistic in that range?

    I might do some playing around with numbers, figure out a vacancy rate, tax and insurance rate, and then try amatorizing the costs of roof, foundation, etc and see what it comes to.

    1Reply
  • Bryan Hancock
    Investor · Round Rock, TX · Member since 2010 · 8k+ posts · 4k+ votes
    16y

    The 50% rule should really be the 45% rule anyway. It is just easier to divide by 2 and it is also more conservative.

    Just account for everything in your analysis (capex reserves, vacancy, repairs, evictions, etc.) and you will be fine. The averages really work better for big portfolios or for bigger properties. Things diverge from the "rules" when you only have one observation.

    Note that overhead costs (accounting, legal, etc.) will have to be spread across 1 unit when you first get started too.

    1Reply
  • Steve Babiak
    Real Estate Investor · Audubon, PA · Member since 2009 · 13k+ posts · 8k+ votes
    16y
    Originally posted by gijoe985:
    So, would I be correct to assume that as you purchase more expensive properties (per door) that the rule of 50% would lower slightly? ...


    No, that is incorrect. It is the 2% rule that is only applicable to a narrow range of purchase price; the 50% rule is used for predicting the approximate long term expenses of the rental property for just about all types and sizes of rental property. As somebody else posted, that 50% is also convenient for doing division by 2. The studies that I had seen of long term expenses ranged from low 40s to almost 60 percent for various properties in the portfolios being studied - so even that 50% figure is an estimate and you MUST look at the real world actual numbers to see whether they will be in line with that 50%. You don't want to be thinking 50% is max when actual expenses are running closer to 60%.
    2Reply
  • Mike McKinzie
    Investor · Westminster, CO · Member since 2009 · 1k+ posts · 1k+ votes
    16y

    This is one of the better threads that I have seen in a while on BP. While the 2% rule and 50% rule work great in some markets, ie. Where MikeOH and Jon invest, those rules do not work in every market. While you can find $30,000 homes that will rent for $600, you won't find a $500,000 SFR that will rent for $10,000 a month (although you might find a multi family that will). Reason being that a tenant that could pay $10,000 a month would BUY the $500,000 home instead of renting it. That $500,000 home would probably rent for between $2,000 and $3,000 and thus would be a TERRIBLE rental investment.

    Personally, I like the 1% rule but ONLY if the rent is over a $1,000 a month. I would pay $180,000 all day long for $2,000+ a month rent. Many other factors of course, but the main reason is a higher chance of appreciation. Jon and Mike would rather buy 6 homes for $30,000 and collect $3,600 a month rent. While the higher dollar looks good, I can guarantee you that they will spend more personal hours and more repairs costs than I will in a year. I can show property after property, over a 10 year period, that cost me 10% - 20% a year in taxes, insurance and repairs. I have one property that has averaged 8% a year over the past 6 years. It rents for $2,100 a month and I paid $189,000 for it. (Another advantage is that you usually get good tenants in this price range) Also, I have a fixed rate, 4.875% interest rate mortgage on this house.

    There is an old saying, "You name the price, I will name the terms" that will make just about anything 'cash flow'. But that is another thread.

    Great responses every body!

    3Reply
  • Jon Holdman
    Rental Property Investor · Mercer Island, WA · Member since 2008 · 22k+ posts · 14k+ votes
    16y

    Keep in mind my investments are in the Denver area. I don't have enough data to assess the accuracy of the 50% rule. And I self manage my properties. So, I do use 40% to estimate long term expenses as a percentage of rent. That works fine here. Its not easy to find properties, and has become more competitive lately. But I absolutely would not pay $100K for a property that rents to $1000, and have not found that necessary.

    1Reply
  • Mike McKinzie
    Investor · Westminster, CO · Member since 2009 · 1k+ posts · 1k+ votes
    16y

    Jon
    You are a very successful investor, no doubt about it. I was not saying anything negative about you, as a matter of fact, I was applauding you. I don't have what it takes to self manage my investments, I am way too nice. Therefore, I am very happy with 6%.

    0Reply
  • Michael Rossi
    Real Estate Investor · OH · Member since 2008 · 4k+ posts · 1k+ votes
    16y

    The 50% Rule does apply in every area and every price range. It is well documented that over a large number of rentals and/or a long period of time, the expenses will be 45% to 50% of the gross rents. You'll note that the 50% Rule doesn't say ANYTHING about a $500,000 rental being a good rental in any market. Believe it or not, we have $500,000 houses here in hillybilly town, Ohio, but just as in your area THEY ARE NOT RENTALS (or at least not good rentals!

    0Reply
  • Joe Edwards-Hoff
    OP
    Homeowner · Grandview, WA · Member since 2010 · 155 posts · 21 votes
    16y

    I guess the reason I questioned the 50% rule for different priced properties is because I assume that the cost of a new roof or foundation on a 800 sqft, 1 bed, $500 a month home would not be much different than a 4 bed 2 bath that brings in $1400. So the way I figure, for SFRs, the cost of upkeep and long term major repairs would be cheaper (relatively) on a larger/more expensive place. And as mentioned earlier, I bet you'd get better tenants in the higher renting places.

    This is all speculation though. I have only 1 rental, and it is not a good model by any means.

    1Reply
  • Bill Gulley
    Investor, Entrepreneur, Educator · Springfield, MO · Member since 2009 · 21k+ posts · 12k+ votes
    16y

    PLEASE FORGIVE THE SPELLING MISTAKES, just too long to edit, but you get the point!, Thanks, Flying Fingers

    Good posts from all! While there is a common thread that binds the approach to analysis, we do need to recognize the differences found at the individual investor level.

    There are some of us that can put a calculator to each deal and evaluate the internal rate of return and financial ratios, beyound the expectations of mortal man. And the are some who can't estimate what a property will cost to hold it in the next twelve months! No deal should be selected or rejected based on the results of either aspect.

    Each of us have the similar goal of making money, ok, that's a given, but we have as our ultimate goals, different views and expectations. This is, IMO, the starting point in acquiring properties. After all, if they don't fit your plan, they won't work as well as those that do fit....and no one can buy them all.

    We all live and operate in different markets, what makes a cash cow in one area could be a dog in another. So, we have been ignoring market conditions for the most part.

    Each investor has varied capacities to conduct the business. By capacities, I mean not only what's upstairs and our ability to recognize opportunities in a property, but physical capacities, some of us older guys may not want to get on that ladder and paint trim. We also have different financial capacities, while one guy can buy something and leave it vacant to simply use the tax benefits and appreciation, another can't miss two months rental income. And, our personalities really play an important role in the type of properties we might select, without ever noticing it. Some landlords simply can't deal with more affluent tenants while some would never attempt to deal with those who have limited means and receive governmental assistance. While the price of a property usually weeds out many investors in this respect, as Mike pointed out, maybe some of us just don't want confrontations and others are hungry enough and bold enough to take on anyone if there is a dollar to be made honestly.

    SInce these "rules" seem to be a guiding light for so many, instead of crunching actual numbers, and since these "rules" are rather flexible given the price point and other considersations, maybe we should have a graphic or grid that would identify the best per centages to use for the different property types, for a banded analysis concidering price, market and investment aggressiveness (like a bond rating in reverse) to the risk tolerance..

    If the property is in a value range of 35K to 75K we might assume vacancy rates associated with section 8 tenants, management costs that are comensurate with the phone calls telling people to mow the yard and pick up the trash or to move the boat.

    That value range also implies the age of a property and the estimated maintenance expected. Obviously maintenance on a home built in 1948 will have different concerns than one built in 1998.

    Is the property in a large Eastern market, Southwest or are we talking rural Midwest? Which could probably yield some interesting vacancy rates at different price points and give us an indication of risks as well.

    Maybe some of you number crunchers could come up with a graphic analysis that could be applied to a broad range of properties taking into account some or all of these variables (I know you can, LOL)

    That's why I was saying way up there, look at each property individually and make sure it makes money, but better yet, make sure it fits your business plan and meets the type and style of business you're wanting. As Steve points out, what's the real world situation?

    Bill's point on the rental market is key, you need to know the market. Jons points of analysis are certainly valid, but withing a given range as pointed out by Mike, and I might add within the scope of the overall business goals. Bryan's point of making sure it cash flows is most important to those who can't afford to take a financial hit. And I can tell, Mike does not really want to be bothered with management, so he needs to factor in a management expense probably for more than what many landlords are willing to work for themselves.

    I don't mean to be rehash what everyones' points were but only to support my observation in this excellant topic/thread, that there are many factors or variables that play in our selection of that perfect rental property and that using any hard and fast rule in the selection process might be best viewed by the new invetors, with a pound of salt! Good luck hunting. Bill

    1Reply
  • Mike McKinzie
    Investor · Westminster, CO · Member since 2009 · 1k+ posts · 1k+ votes
    16y

    MikeOH

    Real Estate expenses are NOT a factor of the amount of rent collected (or market rent for that matter). The Tax Assessor does not look at the rent collected to assess the property (on SFR, they may on multi unit properties). The Insurance Company does not look at the rent collected to figure out a premium.

    If you have 3 exact same houses on the same street, one rents for $900, one for $1000 and one for $1,100. If the expenses are identical, the percentages are different.

    I bought two houses this year, both pay $1,200 rent per month. One has an annual property tax bill of three times what the other does. The purchase prices were within 5% of each other. Does the property tax assessment have any direct relationship to the rent collected? Of course not!

    On a few properties, I had to lower the rent to get the unit rented. Did my expenses go down? When the market is hot, I can raise my rents. Do my expenses go up?

    I know you do not agree with me MikeOH, and I respect that, it's OK. I am just going by my 31 years experience investing.

    While I do use 50% when looking at an investment, I use it to ascertain the lowest possible return for the investment. I just had a tenant give notice, on a Los Angeles County house, who had lived there for 24 years. The numbers show a 27.6% annual rate of expenses over that time frame. That includes a new concrete driveway, new carpeting, new roof and 2 new water heaters. All of those things cost the same thing, no matter if the house rents for $500 a month or $2,000 a month. (carpet and roof may be a bit more for a larger house)

    MikeOH, when you own 10 houses that each rent for $2,000 or more a month, for 10 years, then tell me that those houses cost you 50% in expenses, then we can talk some more. But that $500 water heater is a different percentage of a house that rents for $500 vs a house that rents for $2,000.

    As an added bonus, insurance rates decrease, per value, as the price goes up.

    Oh yea, where I grew up, $500,000 buys you a 1200 square foot, 3/2 tract house. Even today. (Orange County, California)

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  • Kevin C.
    Investor · McKinney, TX · Member since 2009 · 405 posts · 160 votes
    16y

    I've had the same thoughts.

    A $500 water heater is a much larger expense (percentage wise) for a $500 rental than for a $1500 rental.

    I personally don't care to deal with rentals at the lower end, I know there's more money there (cash flow anyway), but they're not for me.

    More power to those that can handle low end rentals, you are certainly seeing better cash flow than I will, but on average, you're also dealing with more tenant issues than I'll be dealing with.

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  • Bill Gulley
    Investor, Entrepreneur, Educator · Springfield, MO · Member since 2009 · 21k+ posts · 12k+ votes
    16y
    Originally posted by Kevin C.:
    I've had the same thoughts.

    A $500 water heater is a much larger expense (percentage wise) for a $500 rental than for a $1500 rental.

    I personally don't care to deal with rentals at the lower end, I know there's more money there (cash flow anyway), but they're not for me.

    More power to those that can handle low end rentals, you are certainly seeing better cash flow than I will, but on average, you're also dealing with more tenant issues than I'll be dealing with.


    Good point Kevin, and what I was saying. While lower priced rentals may cash flow, the won't apprciate like the more expensive home will, when you sell, you may see a point where you recapture additional value. I realize that some never sell a property, but I never really kept one for too long. Although there is one hitting the 15 year mark, LOL. Maybe I ought to look at that, but hey, it's not costing me anything either, nevermind!
    0Reply
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