It can't be this easy. I must be missing something?

Question

Found a duplex in a decent neighborhood renting for $600 and $550, respectively with a sale price of only $79,000.

Even accounting for 25% of rent going to Property Management, CapEx, Repairs, Vacancy etc, my calculations still see a HUGE cash flow ROI.

After mortgage, property insurance and taxes, looking at a $400 monthly cash flow.

My question is this: I'm assuming I use a Property Management group to deal with setting up tenants (which is 8% of my 25% expenses I mentioned earlier) then where is the risk? They even guarantee rent and to have a tenant! Why isn't everyone just gobbling up these properties, having someone else take care of it and enjoying a $400 monthly cash flow after all your expenses? What am I missing?

Jason D. · Answer

@Andrew M Bickett because your expenses are not accurate.

1) 8% is their monthly management fee, but they also charge a placement fee, which is likely, at least, one month's rent. So I would make the 8%, 15%.

2) Maintenance and capex will be closer to 20% - 25%, because the rents are so low. Maintenance is not a percentage of rent, but actual dollars, so the lower the rent, the higher the "percentage of rent".

I would rerun your numbers using 50% for expenses, plus Mortgage, and then see what your cashflow is.

Brian G. · Answer

@Keith J. You need to run exact numbers as much as possible, however there is a "rule of thumb" which states that on average your total expenses (pm, vacancy, maintenance/repairs, Capex, taxes & insurance)  will run 50% of your total rents not including your P/I payment on your mortgage. Take 50% of your rent then minus your Principal/Interest payment from your mortgage (ie do not include taxes and insurance). It's very difficult to get low rent properties to truly cash-flow over time. Eventually those big expenses come (ie roof, hvac, etc) and can wipe out several years of your cash-flow. Again run all the numbers and like @Jason D. said don't forget to include your turnover cost (ie how much it costs to get the unit rent ready when a tenant vacates and how much a pm will charge you to place a tenant). A competent pm will tell you exactly what their average cost is to "turn a unit".

Andrew M Bickett · Answer

Thanks team.

I believe you were right; while some expenses are percentages, my error was believing all these expenses stayed static regardless of the rent each month.

What is a good rule of thumb for calculating expected expenses each month?

Originally I was thinking:

Vacancy = 5%

CapEx = 5%

Maintenance = 5%

Property Management = 8%

Lease placement fees - 2.5%

Thus my overall monthly expenses, I wrongly thought were ~25%. What is more realistic in each category to have expenses closer to ~50%?

Ed Matson · Answer

I agree with Jason and Sam, rough estimate of 50% op ex is closer to the mark, especially if the property is to be professionally managed.  Very roughly, I use the following estimates, depending on the property, its condition, and the caliber of tenant.

Vacancy 5%

Repairs and Maintenance 10%

CapEx 5%

Insurance at actual cost - in m y area it would be about $1600/year

Taxes at actual cost

Any legal expenses for setting up an LLC?

Tax prep costs ?

Sam Grooms · Answer

25% operating expenses seems low. Especially on such low rents.

Jay Hinrichs · Answer

on low end rentals which those are based on rents.. 50 to 60% operating costs before mortgage is were these flush out after a 5 year run 90% of the time.

Connor Mckelvey · Answer

Brand new investor here, so these thoughts are from books, not real-world experience.

You may want to ask yourself if you really want a duplex, or if you just want an ~$80,000 property.

Could you buy an SFH/townhome for $79,000 that would rent for $950-1100 (or more) per month instead? Even though having multiple units can help balance out a vacancy, would you rather have 2 lower-income tenants or 1 higher income tenant?

This could mean half as many complaints, half as many late rent checks, and half as many broken toilets and garbage disposals, etc. With a SFH/townhome, you might even attract tenants with families/kids who might stay 2X longer than those tenants who are attracted to a low-rent duplex. This saves on placement fees with your property manager and holding costs due to a vacancy. But it obviously depends on your market.

Just some food for thought! Good luck!

Steve Vaughan · Answer

Rents below $700 are exponentially more difficult to deal with than $800 or $1000 .

You're dealing with a $1700-$2100 monthly income tenant most likely.  One hiccup to one paycheck puts you at risk of slow or no pays plus higher prob of damage and drama.

Normal %s for vacancy, repairs, cap ex don't work at this price point.  $6000 for a roof is like 10%.  A new fridge is approaching 8% of one unit's annual gross.

I'd guess op expenses with a PM at 60%. Cap ex another 15 depending on age and condition.  Cf is whatever you can squeeze out of the 25%  remaining minus debt service.

When you go to sell, you are your buyer.  An investor looking for a bargain.  But will be good learning experience. One big seminar.  My $.02.

Jim Chuong · Answer

@Andrew M Bickett even though you’re underestimating your expenses, if the neighbourhood is good, it’s not a bad deal IMO

Anthony Wick · Answer

@Andrew M Bickett

Expenses completely depends on what you’re actually buying. At $79k I would be guessing that it needs quite a bit of work/deferred maintenance. Now, I can get away with 5% maintenance and 5% capex on a couple of my properties, because the roof and Hvac’s are fairly new. Analyze the big expenses and how long of life they have left. Roof, Hvac, appliances, etc.

It can't be this easy. I must be missing something?

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