To Purchase or Not to Purchase?

Question

Hi Everyone,

So, my wife and I ready to start purchasing our first rental property!  Let me run some numbers past everyone and see what everyone thinks.  Its an up/down 1600 SqFt duplex with 2/1 upstairs, and 3/1 downstairs. they are asking $115,000.  Current renters are on a month to month contract (which would change), and they pay $1500.00 between them both (700 up, 800 down).  They've also been there a decent amount of time (2 years and 8 years, so I don't believe they intend on moving, unless they have to.  The location of the home is in a small town of about 1900, and a lot of people rent.  Not much jobs in the area, but its fairly cheap living compared to towns around them.  The owner pays utilities, which I have a copy of the income and expense sheet from both the owner and utility companies, and the utilities for water, gas, electric, and garbage, costs about $400.00 per month.  So here are my numbers is I factored them correctly, if purchased at asking price;

Income $1500.00 per month/$18000.00 per year.

Mortgage PITI:  $741.00

Vacancy:  $150.00 per month

Utilities:  $400.00 on avg. per month

Cashflow $209.00 per month/$2508.00 per year

Here's the issue and reason why im looking to get a second opinion. The cash flow is a bit weak in my opinion, especially if something were to go wrong.  The utilities are paid by the owner, which the current owner can do because he bought it at a very low price awhile back.  I don't have a problem having the utilities in my name and me paying them, (it'll be a good write off) but I'd like to have their rents increased to cover that cost by adding $200.00 per unit for their rent.  The problem with increasing their rents is that their rents are about the average of the same around them.    Another issue is that the upstairs tenant has control of the thermostat, so if the lower level tenant wants heat, they need to call the upstairs tenant to turn it up or down.  The lower level tenant has been there for 8 years, so I dont think its a deal breaker if i didnt fix that issue, but my idea was just to purchase the property and put in a 2nd heat/ac system and divide up all the utilities, but the cost wouldn't be worth it.

The "What If" factor is going through my head on just about everything.  Im willing to bet that the owner will sell for less, but I just plan at asking price.  Other then those issues, the house is in pretty decent shape and I dont foresee any issues happening, but I am always trying to prep for that issue.  Am I just too paranoid about the numbers?  Am I expecting too much out of my first investment property?  Is it too much to ask for the tenants to have their rents increased because of the average cost of utilities?  Anyones opinion would be greatful!

Thanks

Jeremy

Keith Smith · Answer

Good catch there @Rhondalette W. That is another thing pretty important. I always factor in property management costs even though I manage mine myself. What if something happens to me where I can't manage on my own or I just get tired of managing. I want to be sure my cash flow is still good even if I have to hire a management company.

@Jeremy K.  Since it sounds like your first rental, I would even be more inclined to make sure to include PM costs. Plenty of people find that they don't want to manage their own properties. Nothing wrong with that at all, just want to still be profitable if that route needs to be taken.

Kevin Wang · Answer

Hi @Jeremy K.

Numbers wise the property cash flows poorly. If there is a major repair, that would wipe out your monthly cash flows. Vacancy is probably something I would worry about. Especially if you're looking to increase the rent.

Fundamentally, the location doesn't seem to be solid for long term buy and hold. If the number of jobs were to decrease or an employer moves out then the supply of housing increases further impacting the house price.

You're not wrong at all about the "What ifs" there's probably more of those than you expect. Always trust yourself in these situations.

Keith Smith · Answer

I see you took out PITI, vacancy and utilities but don't see you've factored in repairs. Sounds like an older building. Cash flow seems way too low for my liking. I wouldn't want it unless the selling price was lower, a lot lower.

Kurt McDowell · Answer

I'd offer 70k, wouldn't go above 90k.

JD Martin · Answer

That would make a difference but how does that compare to the market there? You said the rent is already at market level, so how would you propose getting that far above market, especially in an area with little to no growth and poor job prospects?

Jeremy K. · Answer

The house is older, but it has been updated quite a bit.  My repair budget is the cash flow (at least for now.)  My intent is to not touch the cash flow for anything other then repairs and keep it in my business account, until I've built up some reserve.  I don't expect for everything to stay in good working order, especially with tenants,  but I also don't foresee anything going wrong either.  Any suggestions on the utilities?  In my opinion, those utilities are high because they know they aren't responsible for the bill, but if I can somehow justify raising rents to cover the utilities, that'll help tremendously.

To Purchase or Not to Purchase?

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