Single Family Rentals at 24-32% Cap Rates

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Single Family Rentals at 24-32% Cap Rates

Joe Colasuonno
Rental Property Investor · Allentown, PA · Member since 2012 · 92 posts · 80 votes

I got into real estate investing in 2008-2009 after selling a business I had started in college for about 50k. My father was a builder for 20 years, so I've always been around real estate, but up until then neither he nor I had really acted as a landlord full time. We pooled our money and our first property was a 30 unit foreclosure in a depressed area, about 50% occupied. We closed on it using hard money at around 12% interest. A year later we took in a partner with good banking relationships and was able to refinance the property at 4.8% and cash out our entire initial investment plus some extra cash. Over the past 3 years we have grown our portfolio to just under 300 units, with about 260 of them located in Allentown, and the rest scattered around NJ.

I'm a numbers guy, and recently we purchased a few single family homes in the area for between 10-15k each. The first one we bought for 11k, put 5k into it, and it is currently rented at 925/month by a Section 8 tenant who pays all utilities. My NOI is around 650/month, placing the investment at a 48% Cap Rate, which is essentially unheard of in most places. The model is replicable in this area specifically, and I have since purchased an additional 5 single family homes. I have noticed that I make more money per unit per month than I do with my multifamily investments in the same area, while spending approximately the same per unit to purchase and fix up.

The model I have formed to stick to is as follows: Total investment under 25k per home (including closing costs, purchase price, and renovations), NOI over 500/month. If the property fits that model, it is a 24% cap, if it either costs less or makes more per month, the cap rate increases accordingly.

My issue is that I am having trouble finding banks or lenders who are willing to lend money on these properties. The combination of the size of the loan with the fact that a lot of lenders steer away from lending on single family rental property put me in a difficult situation. Does anyone have any advice as to how I can refinance these properties once they are preforming so that i can purchase and replicate the model more frequently?

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David Beard
Investor · Cincinnati, OH · Member since 2010 · 1k+ posts · 928 votes
13y

Joe C I have purchased properties with numbers approaching what you describe. I just bought a 60 yr old 1050SF brick ranch HUD for $17K that needs just a few cosmetics, and will rent for $850. I have another in the same subdivision that I bought for $22K, and it also rents for $850.

ALL OF US who practice this strategy have the same financing issues. Local banks will not be financing these properties anytime soon. Most won't do NOO SFR at all in my area. Also, the areas where you buy 4 to 6% per month properties are generally deemed too risky, and the banks don't want this type of collateral on their books, not to mention the small loan sizes are not profitable. It's just a non-starter. The up-side of it is that this lack of financing is keeping prices in this tier more depressed than they otherwise would be.

Simply put, you need to focus on private lenders. Offer 10-12% interest and talk to friends, associates, financial planners, and accountants (i.e. advisors that don't get commissions from peddling financial products).

Put together a presentation describing your strategy, process, and your profitable portfolio, all pointing toward the safety of their investment. Doesn't hurt to illustrate the low returns available in CDs, bonds, and annuities, and the volatility and low 15 year average return in equities (< 5%). You will probably need to get an appraisal, and look to borrow 65-70% of the appraised amount for a 5-10 year period, fully secured.

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  • Tim Delp
    Real Estate Investor · Jacksonville, FL · Member since 2012 · 109 posts · 22 votes
    13y

    That is generally the issues with these low prices properties. The other issue in contrast to multi family is that you pay closing cost on each property which as a percentage of the loan amount typically are much higher than a multi family as a percentage of the loan amount.

    If you are planning on buying a lot of these your best bet is to try to find a local bank that would be willing to do a loan with multiple homes as collateral, I hear of people getting banks to do that but i'm not sure where as I've never seen it done.

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  • Curt DavisBusiness Member
    Flipper/Rehabber · Memphis, TN · Member since 2008 · 5k+ posts · 2k+ votes
    13y

    Not that its totally impossible but for someone to be all in for $16k and the home rent for $925 section 8 seems almost impossible. How could the home be in good enough condition to pass that inspection? If this truly is the case your rent is far above the normal rental for your market. At numbers like that there would have been so much interest in the deal that the price would have gone up so fast. Again, not saying this is not true, just not believable.

    Curt Davis - KAIZEN Realty538 Reviews
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  • David Beard
    Investor · Cincinnati, OH · Member since 2010 · 1k+ posts · 928 votes
    13y

    Joe C I have purchased properties with numbers approaching what you describe. I just bought a 60 yr old 1050SF brick ranch HUD for $17K that needs just a few cosmetics, and will rent for $850. I have another in the same subdivision that I bought for $22K, and it also rents for $850.

    ALL OF US who practice this strategy have the same financing issues. Local banks will not be financing these properties anytime soon. Most won't do NOO SFR at all in my area. Also, the areas where you buy 4 to 6% per month properties are generally deemed too risky, and the banks don't want this type of collateral on their books, not to mention the small loan sizes are not profitable. It's just a non-starter. The up-side of it is that this lack of financing is keeping prices in this tier more depressed than they otherwise would be.

    Simply put, you need to focus on private lenders. Offer 10-12% interest and talk to friends, associates, financial planners, and accountants (i.e. advisors that don't get commissions from peddling financial products).

    Put together a presentation describing your strategy, process, and your profitable portfolio, all pointing toward the safety of their investment. Doesn't hurt to illustrate the low returns available in CDs, bonds, and annuities, and the volatility and low 15 year average return in equities (< 5%). You will probably need to get an appraisal, and look to borrow 65-70% of the appraised amount for a 5-10 year period, fully secured.

    2Reply
  • Jon Klaus
    Developer · Garland, TX · Member since 2008 · 8k+ posts · 4k+ votes
    13y

    It seems that a bank would finance a package of these homes at a conservative LTV. I realize that most will not. Why not? This is a very strong business, financially. Where is the risk? Sure it has some, but less than many other deals that do get bank financed.

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  • Joe Colasuonno
    OP
    Rental Property Investor · Allentown, PA · Member since 2012 · 92 posts · 80 votes
    13y

    Jon Klaus I agree, but I can’t seem to get my local bank to do it. Right now I have a 2500 sqft row home that I picked up at auction for $15,500, that was rented when I purchased it for $1,100 (that was just luck to be honest), I have the one I previously described that I am into for $16k rented for 925/month Section 8, I have another I bought at auction for $13,500 that I am currently working on and when all is said and done, I will be in for about 19k that will rent for about 875/month. I have one I bought for 10k that I am all into for 18k that is rented for 900, I am closing on one Friday for 22k that is already fixed up, that I will rent for $1100/month, and I bought a third at auction for 5k that only needed cosmetics and a water heater, that I am all into for about 7k that is rented for 850 per month.

    Total monthly gross income on the 6 properties $5,750 (69,000/year). Total investment is $97,500.

    Taxes on each property range between 900-1400/year. Trash is 375 per property per year. City rental fee is 75 per property per year. Insurance is on average 360 per property per year. Tenants pay all utilities plus water and sewer. Only other thing you need to factor in is vacancy and maintenance, however, I have learned that the tenants that are attracted to single fam rentals as opposed to apartments are less transient and more family oriented. Not as much damage on average as for my multifamily holdings in the same neighborhoods.

    Some quick math, and you'll realize I am at around 2000 in expenses per property per year for the expenses listed above. Add about 1000 in maintenance, and another 1000 in vacancy (~10%), and the NOI comes in around $45,000 per year on a $97,500 investment.

    Not too shabby. Why wouldnt a bank finance this? Even at 100k blanket loan over all 6 @ 5% interest, its only 500/month or 6k/year. DSCR is like 7.5x!

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  • Marc Bodinger
    New York City, NY · Member since 2012 · 253 posts · 7 votes
    13y

    The problem with bank lending for yourself and many around the nation especially on the local level is they can't lend at these rates. My friend at a, insurance firm told me that for every percentage point of these low rates is millions of losses in revenues. If there is any kind of real risk there is no point for a bank to take it on.

    At the local level it is even tougher because they don't have the resources/leverage like a Bank of America or Wells Fargo.

    Would it be out of the question to get financing through private investors?

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  • Jon Klaus
    Developer · Garland, TX · Member since 2008 · 8k+ posts · 4k+ votes
    13y

    "Would it be out of the question to get financing through private investors?"

    Sure, but at rates that are double and terms that are far shorter.

    Earlier this year a bank loaned me a lot of money to refi an office building at 2.99% at 80% LTV. I'd argue that my portfolio of SFR rentals are less of a risk at 50% LTV, but I haven't found a bank that agrees, yet.

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  • David Beard
    Investor · Cincinnati, OH · Member since 2010 · 1k+ posts · 928 votes
    13y

    Local banks are heavily collateral lenders in investment SFR's these days. They just do not want cheap houses in C areas on their books. The underwriting on all this cheap property, and the underwriting of the landlord with all this cheap property on their Sch. E's (and ongoing monitoring), is time consuming and costly. And they don't really have a mechanism to charge higher processing fees or higher rates to account for the expense and risk.

    After taking large losses on investment SFRs in the meltdown, their Boards and regulators have told them to back off. They've lowered the amount they can allocate to this asset class, and many are still over-exposed based on the new lower thresholds. They also red-line areas, whether they call it that or not, and won't lend at all on SFRs in C areas, even if they are still nominally willing to do SFR lending.

    They make far more money concentrating on doing conventional OO mortgages, which can be re-sold for very sizable fees (yield premiums) to Fannie and other investors.

    And the Fed's zero-rate policy is making it very easy for them to make piles of cash in ways that are a lot less work. If I was a banker, I wouldn't fool with these kinds of loans in this environment.

    Eventually, credit will loosen and values will recover, and they might be financeable. You could potentially refinance your private loans then.

    2Reply
  • Jon Klaus
    Developer · Garland, TX · Member since 2008 · 8k+ posts · 4k+ votes
    13y

    "If I was a banker, I wouldn't fool with these kinds of loans in this environment."

    What if you were a banker and could get 8% plus 2 points on properties in your own city to an investor with more than 10 years experience? Credit of 750+? Is that a bad business compared to loaning to the same guy on an office building at 3%?

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  • Chris Martin
    Investor · Willow Spring, NC · Member since 2009 · 5k+ posts · 3k+ votes
    13y

    Your business is generating great returns. Let me translate. Here's your view:

    Not too shabby. Why wouldnt a bank finance this? Even at 100k blanket loan over all 6 @ 5% interest, its only 500/month or 6k/year. DSCR is like 7.5x!

    Look at your lender options. There are 3 banks based in Lehigh, PA: American Bank, New Tripoli Bank, and The Neffs National Bank. From FDIC data, Cert - 34422, 7659, and 7646: All are well capitalized, profitable, private.

    American Bank and Neffs are now private banks (no longer publicly traded) per SEC filings for Neffs and and American bankNone of these banks have a Performance issue, and in fact non-current loans for American Bank are $0 in latest YTD FDIC reports. These banks don't need you.

    Now, let's take a look at how these banks may look at your view:

    Today's numbers look good. This potential borrower, who is an investor NOO, wants us to lend 100%+ of his invested dollar. ...

    Why would they bother with you? Your job is to sell them on why you are worth their time. It can be done since many others on BP (including myself) have done it.

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  • Chris Martin
    Investor · Willow Spring, NC · Member since 2009 · 5k+ posts · 3k+ votes
    13y
    Originally posted by Jon Klaus:
    "If I was a banker, I wouldn't fool with these kinds of loans in this environment."

    What if you were a banker and could get 8% plus 2 points on properties in your own city to an investor with more than 10 years experience? Credit of 750+? Is that a bad business compared to loaning to the same guy on an office building at 3%?

    Unfortunately, this is 'investor talk' in that it doesn't address the bank's system of lending. The bank is looking to make its spread with the lowest amount of risk. NOO in low $ property is risky without lots of collateral backed by an investor and personal guarantee(s).

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  • Jon Klaus
    Developer · Garland, TX · Member since 2008 · 8k+ posts · 4k+ votes
    13y

    Chris, if that is really the case, why are they in the credit card business?

    0Reply
  • Chris Martin
    Investor · Willow Spring, NC · Member since 2009 · 5k+ posts · 3k+ votes
    13y

    Of the banks I referenced, all in Lehigh county PA, 'Credit cards' and 'Other revolving credit plans' are not material to their business. This is per FDIC data. New Tripoli Bank has $0 in these loan classes and is not in this business.

    Big national banks... maybe a different story.

    1Reply
  • Marc Bodinger
    New York City, NY · Member since 2012 · 253 posts · 7 votes
    13y

    "What if you were a banker and could get 8% plus 2 points on properties in your own city to an investor with more than 10 years experience? Credit of 750+? Is that a bad business compared to loaning to the same guy on an office building at 3%?"

    How many of these people do you think are applying for loans right now? And to a local level bank? It's very tough to acquire a loan for a variety of reasons. David made some good points.

    0Reply
  • Zachary Dosch
    Bismarck, ND · Member since 2011 · 142 posts · 16 votes
    13y

    Im guessing you have free and clear property in the $300K range so I would just take out a line of credit against that property and advance money off of it as needed. Qualify for the loan off of your personal income.

    Keeping it simple is going to help you with the banks. They will really drag their feet if you get into cross collateralization.

    I actually do this to a degree. The LOC just greases the gears for your RE investment machine.

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  • Gene HackerPro Member
    Flipper/Rehabber · Lake Isabella, CA · Member since 2011 · 969 posts · 488 votes
    13y

    Its good to know I am not alone. I have several homes that I own free and clear. Values range from $60k to $140k and I am having a hard time finding banks that will make the loan. I have excellent credit but my DTI is just a bit to high. IMO this is going to be a major hurdle for my buy and hold strategy going forward. I think the lack of collateral based lending is going to force many investors to do more flipping for cash-flow and to show more income rather than a strait buy and hold, at least during their growth stages.

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  • Tony Salazar
    Rehabber · Corona, CA · Member since 2009 · 59 posts · 21 votes
    13y
    Originally posted by Gene Hacker:
    Its good to know I am not alone. I have several homes that I own free and clear. Values range from $60k to $140k and I am having a hard time finding banks that will make the loan. I have excellent credit but my DTI is just a bit to high. IMO this is going to be a major hurdle for my buy and hold strategy going forward. I think the lack of collateral based lending is going to force many investors to do more flipping for cash-flow and to show more income rather than a strait buy and hold, at least during their growth stages.

    Hello Gene. It seems if you have several free and clear properties, then you should be generating a substantial cash flow and that would help your DTI. If these are properties that you have recently acquired, make sure your 2012 taxes reflect this, and that may be what is needed to reduce your DTI and qualify for new financing.

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