Is the market in San Diego a good market to start investing?

[Kyle B.]

Me and my partner are looking to invest into multi-family homes in San Diego and I was wondering if it would be a logical and smart move. I have done research and am currently trying to use the BRRRR method.

[Dan H.]

San Diego buy n hold profit occurs by having a value add and by long term appreciation (there is also equity paydown).

When you purchase a San Diego small unit count property (SFR to quad) at retail price it will likely be cash flow negative when using realistic expense ratios. You can look for the property that is significantly below retail, but it is likely easier to find the property that has a good value add (a rehab, under utilized zoning, good ADU candidate, etc.). If you decided on BRRRR, you have decided the value add is going to be a rehab. There is competition for the good BRRRR properties. What you are looking for is thrashed units that are priced appropriately for being thrashed. You do not want a thrashed unit that is priced based on potential as this is having the current owner benefit from your efforts. My goal is every dollar spent on the rehab should return $2 of value. This is because managing a rehab is effort and because of an issue with refi appraisals.

The refi appraisals in San Diego are very conservative.  I think you should expect at least 5% below the appraisal that would be obtained if you had an actual offer at true market value (so at least 5% below market value). This will make it very difficult to extract all of your initial investment (purchase plus rehab costs). It is still fine as long as you project this. Your equity has increased while your investment amount has decreased. Not the end of the world to have investment still trapped. We have done around a dozen BRRRR and we have only extracted all of our investment when we have got an assist by market appreciation. Hopefully you are able to successfully extract all of your investment, but do not plan for it.

Another item that is a bit surprising, our experience is the cash flow changes marginally after the rehab and refinance (basically unchanged).  This is because the percent rent increase seems to be very close to the percent of loan amount increase post refinance.

Example: Purchase at $480K a RE that is worth $500K ($20K below retail should be achievable for an investor who is only looking for a RE that will provide a good return) (rent rent $2.5K (0.5% ratio)) with $50K rehab and a projected value add of $100K. . You have $70K of sweat equity from the good purchase and the value add. Total market value is $600K (market rent $3k (0.5% ratio)), but the refi appraisal places value $570K (refi appraisal comes in at least 5% below retail). 75% LTV = $427.5K. This is not even enough to even pay off the entire purchase price. We typically have done better than this as we typically have paid off the original purchase or come very close, basically trapping the rehab costs. However, if you perform your first BRRRR as good as this example, I think you have done a good 1st BRRRR in San Diego. It is the reality of San Diego BRRRR. But you will get better. Note the rent has gone up ($500), but so has the mortgage payment. Cash flow is mostly unchanged which implies that it is not good.

In addition, the RE will appreciate (both rent and property) in the long term.  Buy n hold is a long term investment.  10 years later you have your $70K initial sweat equity, likely over $100K of property appreciation, and a property that is cash flowing great.

San Diego Profit = Value Add + appreciation + equity paydown

Good luck