New to RE-Bay Area investing question - Cashflow vs appreciation?

Question

Hi Everyone,

I have been reading the book on Rental Property investing by Brandon Turner and it is helping me a lot. Brandon always mentions that appreciation is like gambling and a speculation. We should not buy any properties based on speculation. He says the first thing we should look for is positive cashflowing properties. But people from the bay area know this very well that here it is basically the appreciation which matters as most of the properties are negative cashflowing for a long time.

I currently have 50k worth for downpayment (700k loan) and was looking to buy a home with FHA loan and house hack. that way I will save up living expenses and also taxes. In my range, there were a few houses in San Bruno but only 2 bd and the numbers did not make any sense. Also, the only places that makes sense were places in East Bay (Hayward, Oakland, Richmond etc). Now, the only thing I am confused about is which location should I choose and also should I ride this appreciation roller coaster? How do you people find out if a property is going to appreciate or not?

Any help would be greatly appreciated.

Thanks

Chris Mason · Answer

A lot of the senior head honchos at BP have experiences that bias them towards the midwest. In Ohio or Colorado or Nebraska, I agree that it might be a total coin toss if something will appreciate or not. A family member of mine just sold a home in small town Indiana after owning it for 15 years, and it didn't appreciate a single inflation adjusted dime during that entire time they owned it.

Let's compare/contrast with our area. I dare you to find someone who has owned well located Bay Area real estate for 15 years, at any point since 1945, that didn't see that property DOUBLE in value over that 10 or 15 years.

And if you want to "whatabout" the Great Recession, great grab what some considered a "rough" neighborhood in Oakland in 2007, and let's even shorten it to 10 years. Fruitvale Oakland CA sales prices 2007 v 2017 for well maintained real estate. Buying right on the eve of a once-a-century catastrophic event, there's your WORST case scenario going back six full decades. And you STILL came out ahead, it probably did indeed double in value.

At some point we must concede that it's not "luck," the dice in the SF Bay Area are quite loaded, and they are loaded in favor of property owners. Income in the Bay Area is largely a tech story. Wealth in the Bay Area is largely a real estate story. It would IMO be silly to evaluate things in our area like our area is Ohio.

But, again, if you're looking in rural areas or the midwest, then yes "cash flow is king." It MUST be king, since in those markets you MUST assume zero appreciation.

And not to put too find a point on it, but Saj right above is a Subject Matter Expert on achieving "impossible" cashflow in the Bay Area, in the current market, right now as we speak he has one in escrow. See podcast here where he goes over exactly that:

https://anchor.fm/sean-pan/episodes/33---Why-Investing-in-Your-Backyard-is-the-Best-Strategy-with-Saj-Shah-e3d249?fbclid=IwAR0eZ-wL-Plb00UjP_NIYQ4eSUn-gC26J60yrcKtPSqqOF1qgBHPnX_sjgg

Account Closed · Answer

@Vivan Bhalla and @Michael Hyun,

Unlike the TK marketers and providers, we fellow local investors don't have anything to sell to you guys. It kills me/us to see our fellow Bay Area investors, in general, throw their hands up with our market and go OOS. Most of them just take the path of least resistance and learn it the hard way.

Let me share with you a brief story. Over a cup of Peets Coffee today, my partner and I went over some rehab, repair and rent numbers. It reminds us why we're doing what we're doing. The formula seems sooo simple. We buy a building with $7-$10k/mo in-place rent. Over a course of 5-10 years, the rent roll goes up to $12-$15k conservatively. Say we get to keep only 70% of that rent increase as the property management company keeps 5%, property taxes, insurance, repair costs, etc... take another 25%. That's still $3.5k/mo, which is equivalent to $700k of equity per building. Times that by 10 buildings we own. At the same time, tenants are paying down over $2M of principal over the course of 10 years. That's $9M, or $4.5M for each guy. Of course, the pathetic cash flow of six figures help pay for lunches and coffees while the true wealth is being built.

We recently completed a cash out refinance on 15 units. Our average repair and maintenance cost came in at $568/yr/unit for the previous 2 years. The appraiser noted it costs an average $1,300/yr/unit for our San Jose market. We disputed the number and challenged our loan officer to take this to his committee. I told him we're full-time RE investors, and I'm a licensed general contractor in addition to being a licensed civil engineer. Could this be the reason why we have been able to keep our R&M cost down? They accepted our reasoning, used our number and gave us a bigger loan size.

Say we save an average of $732/yr/unit, times that by 76 units we own, that's about $55k/year. Peanuts right? Our market is trading at 15 GRM. $55k x 15 GRM = $825k/year value that we add to our buildings, and I haven't even talked about the cost we have been saving on cap-ex. You're totaling dependent on someone else's, who doesn't have your best interest at heart when you go OOS. Real estate is about control and leverage. You're giving up half of the equation (control) when you  invest out of your farm.

By the way, we just closed on a 4-unit building in Oakland with two vacant units, and the lot is big enough to build 7 more units. We may hit or get very close to the 1% rule once we put in the new tenants. @Rolando Reyes Jr has been to the site and checked it out.

We're also in contract to buy another 5-unit in SJ for $1.225M. Of course, people will keep parroting the market is too high, you will lose our shirt, the numbers don't make sense, blah, blah, blah... As Henry Ford said "If you believe you can't, you're right. If you believe you can, you're also right."

Just some food for thought.

Account Closed · Answer

Vivan,

To parlay on what Saj and Chris said, look for a multifamily asset and long-term appreciation in the Bay is real, not some myth or speculation like the clueless folks on BP claim. In fact, watch out for the ones who claim appreciation is speculation because they have some OOS 💩 to sell to you.

Real estate is about supply and demand, and desirability. The Bay Area has all of these factors. Supply is constrained due to geography and NIMBYism in the name of environment protectionism. Bay Area real estate sells to the entire world in addition to a tons on high paying jobs here. Bay Area is the land of endless opportunities where dreams become reality.

Appreciation can be created by us in addition to the market appreciation, which is due to supply constraint and rent growth. Higher rents = higher asset prices. Saj and I have created hundreds of thousands in equity on each of our purchases within months. We then do a cash out refinance. Rinse and repeat. Times that by a few handfuls of buildings and we’re talking about millions. Now, that’s how wealth is built and cash flow is created. No one is going to hand over their equity and cash flow to us. We have to manufacture them.

Lastly, tell us which market produces consistently rent growth? Don’t you know a $50 rent increase is equivalent to $10k in equity in our market? If you run the math on Bay Area real estate, the rate of appreciation has outpaced the rate of monthly rent for the last 40-50 years or so. Basically, we get paid for owning real estate here. Nothing is more passive than appreciation. BP’s thinking is so backwards IMO. 😂😂😂

Compared to what Chris said above, 10 years of no appreciation in some OOS market? No, thank you very much.

Just some food for thought.

Cheers!

Account Closed · Answer

You shouldn’t be looking at homes. You should set your search criteria to multi family.

You should also speak with a lender to get you pre-approved, before you analyze deals. @Chris Mason is great and has done several loans for me. He can add in future rental income from the other units (that you’re not living in) and use that to help you qualify for a more expensive property.

Amit M. · Answer

@Vivan Bhalla listen to Account Closed, as he gave you sound advice regarding targeting 2-4 units vs single family. As for which cities and which specific neighborhoods, that’s where you have to do homework! Start by looking at listings to find reasonable price points. Then walk the areas, talk to neighbors there, read local news about those areas, etc.

Second, search on the BP forms for “cash flow vs appreciation” (or it’s variant), and you will uncover a whole lot of conversations about Bay Area investing vs out of state. I commented in the past a lot about this, so search for my comments as well. Frankly I’m tired of writing the same damn thing over, and over and...although Account Closed was kind enough to do so, and give you an experienced investors POV.

Lastly I’ll leave you with this graph, which basically says it all:

-good luck!

Account Closed · Answer

@Vivan Bhalla you should be looking at multi family, a duplex up to 4 units. With your $50K you can afford much more than $700K because the potential rental income will help you qualify for a more expensive property.

Yes it won’t be a house, and yes you’ll be sharing space. But if you make this sacrifice, you can likely find cash flow in the Bay while benefiting from the immense appreciation.

Joe Kim · Answer

I would rent in a cheaper place to live and save money.   appreciation can only be done (ideally) in two ways - timing/location + forced appreciation.

But why not get both.   The housing market is primed to drop (nothing like in 2009-2011) but still we should be seeing a steady decline in the coming years.

House hack is a great idea and way to get started as soon as possible but again, don't overpay for properties in this current market.

Two more tips -  a base Tesla model 3 can be had for less than $40,000 and you will save both gas and toll fees ($3) for bridge toll.   Free carpool/express lane access for easier commute. almost NO maintenance.   Lastly,  you have to "live" and enjoy.   investors are going to hate me for saving this but use it as motivation to invest more.

Why not live in Newark (rent or house hack).   I think that is one of the best places for investors.   Newark, CA is such a great location (close to everything) and yet prices are still fairly good compared to other parts of the SF bay area.

Joe

Vivan Bhalla · Answer

Account Closedthanks so much for your advice, It is very helpful to hear from such experienced investors like yourself. I am also focusing on getting a MF house which has more units. However, there is one big question that I have in mind - "Will I be able to get something with a 50k down payment?"

DG A. · Answer

Yes sir. Bought at 422k appraisal as a part of my HELOC application came back at 650k. HELOC is 90% ltv.

DG A. · Answer

Look into the American Dream mortgage loan from US Bank.  It's a mortgage product they provide to be in compliance with the community reinvestment act. The loan allows a 3% down payment,  has no PMI, and allows you to buy up to a duplex.

That's the loan I used for my first purchase,  and now I can use FHA 3.5% down on my 2nd property. Though,  with all the appreciation over the last 3 years since I bought, I've got 200k in a HELOC and I may not need to use FHA 3.5% down.

Get it where u fit in,  as soon as u can.  Hope this helps!

New to RE-Bay Area investing question - Cashflow vs appreciation?

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