Buying in San Diego w/ VA Loan

[Nico C.]

Hello BP!

I have my VA Loan available and I am ready to do a Multi-Family house hack in San Diego, CA where I am stationed. Only problem is: these numbers are brutal. The best projects I can find I will barely break even (in terms of cash flow) until years 3-5. As investors we don't bank on appreciation (even though in San Diego it's pretty safe), so what are good metrics for a hot market? Am I looking at these deals the wrong way? Should I be thinking in terms of how little I will be paying out of pocket for my living expense instead of whether or not the property "cash flows"? What is the best strategy here? Put little to no money down, add value, raise rents, lower expenses, etc.? If I have no money down, and can find a way to break even each month, seems like that should be good enough, right? Sanity check requested.

Thanks,

Nico

[Dan H.]

Originally posted by @Nico C.:

Hello BP!

I have my VA Loan available and I am ready to do a Multi-Family house hack in San Diego, CA where I am stationed. Only problem is: these numbers are brutal. The best projects I can find I will barely break even (in terms of cash flow) until years 3-5. As investors we don't bank on appreciation (even though in San Diego it's pretty safe), so what are good metrics for a hot market? Am I looking at these deals the wrong way? Should I be thinking in terms of how little I will be paying out of pocket for my living expense instead of whether or not the property "cash flows"? What is the best strategy here? Put little to no money down, add value, raise rents, lower expenses, etc.? If I have no money down, and can find a way to break even each month, seems like that should be good enough, right? Sanity check requested.

Thanks,

Nico

>As investors we don't bank on appreciation (even though in San Diego it's pretty safe), so what are good metrics for a hot market? 

I have seen this a lot but do not believe it holds any truth for large or successful coastal So Cal investors.  I have seen pro forma by dozens of investors in So Cal.  This ranges from small to moderately large investors and I have never seen a pro forma on So Cal RE that did not include appreciation.  I would say the best investors use conservative appreciation and realize over the short term it could be optimistic, but they all believe over the long term it will be hit.

Another way to look at it.  Are the only people purchasing properties in San Diego ignorant purchasers that do not have a decent understanding of the cash flow?  I believe we have plenty of these; people that have no clue to the costs of owning and have no clue that expenses will approach 50% of income when including PM costs.  However, there are plenty of sophisticated investors who are buying in San Diego.  I suspect many of them, me included, realize that initial cash flow is one part of the projected return and really a very minor part for larger investors (ones that can handle large negative cash flow).  They are more concerned about (no particular order) cash flow over the entire hold period, appreciation, value adds, equity gain at purchase, exit strategies, tax consequences, etc.

Simple truth is San Diego historically has produced outstanding cash flow over hold periods when equity has not been extracted.  How good?  We have a 4% property (monthly rent is over 4% of purchase cost).  We have multiple 2% properties (I suspect most of our propertie).  All of our properties have positive cash using the 50% rule.  One of these we purchased at cash neutral position with self management (it would have been projected negative cash flow it using professional PM).  The rents have doubled so it no longer is cash neutral (but even though this property has done great, it is one of our worst on-going producers (we did extract over $100K but I am including the $100K in the equation for one of our worse producers)).

Your issue, and the issue of many newbies, is that you likely are going to need to purchase near retail at a high LTV. This property will bleed cash which you recognize. As you indicated it will likely take years to be cash neutral. You need to be sure you can handle this cash bleed not only for as long as you think it could take to be cash neutral but you need to use some worse case numbers (maybe double the length of time you expect). Ideally it will cash flow positive sooner than you expect, but in the event it takes twice as long you are prepared.

BTW I expect this year and next year to have 8% rent growth in San Diego. I would not use such high numbers in any pro forma, but it is what I expect and 2 rent increases we are sending out this month depict this 8% rent growth. My projected rent growth is not primarily due to the housing shortage, but is due to increased risk placed on LLs due to rent control and the desire by under market rent properties to attain market rent as soon as the rent control regulations permit (5% plus local inflation for multi-family, SFR no limit).

Good luck