First Property Options - 22 year old San Diegan

[Brianna Billings]

Hello All, 

I graduated from undergraduate in May 2020 with no debt (low tuition cost, scholarships, and a little help from my parents). I started my first salaried job ($80,000k per year) in early August 2020. At that time, I had about $11k in my bank account and $9k in a Roth IRA that I had started about 2 years prior. I kept my high school car which is 100% paid off, and I pay my parents for insurance twice annually (about $1000 total). I also opted to continue to live with my parents, rent free. Because all I pay for is gas and food, I have been able to save most of my taxed salary and currently have $38k in my savings and $12k in my ROTH IRA. I have also been putting 10% pre-taxed income into my 401k and have about $4k in that; 6% will be matched following 1 year of employment, in August 2021.

When I reached 6 months of of employment, I applied for home loan preapproval from 4 different lenders. My max loan currently (30 years, 2.855% APR) is for a $580,000 purchase price, with 5% down ($29,000). I am able to purchase a $600,000 home with this lender if I increase my down payment and closing costs to $50,000. This would take me about 15 more weeks to accomplish at my currently savings rate.

I would like to purchase my first property with the intention to occupy one room and rent out the remainder (I am actually moving in with my Grandma for the foreseeable future, she is 92 years old. So until I need to live elsewhere, I could potentially rent out all rooms or the house/condo as a whole? I am not sure if that is an issue with the rules for a first time home owner). I live and work in San Diego, where property is pretty pricy. I have a few options outlined below and would like to get more experienced opinions on what my move should be. 

1) Single family home inland with large property: These are going for between $450k - $600k. If the property is large enough, I could build an ADU on it in a year and also collect rent from that. Only issue is that the rents are barely covering the mortgage payments it seems. I think the only way I would make money every month would be with the ADU.

2) Condo in beachside communities: The ones in my price range are between 2-3 bedrooms and 1-2 baths. They are going for between $450k and $600k. I like this idea because I surf, so if I need to ultimately stay in my first property, I would feel way better about being close to the beach. My hesitation with this option is the HOAs I am seeing and the lack of potential in the property. The HOAs are around $300/month, which really cuts into the profitability it seems. Also, unlike the single family home, I am limited in the amount of additions to the property that could potentially increase rental income as well as appreciation. 

3) Condo in inland communities: These go for between $350k to $450k. About 2-3 bedrooms and 1-2 baths. My hesitation with this is that it is well below my budget. My idea was to make the most of the 5% down payment, since I only get that opportunity on my first property I believe. I want to leverage myself as much as possible in this first property so I am able to take out more money from it in the future. Is this a correct way of thinking, or should I buy anything that produces cashflow each month?

3) Any other ideas? Things that you noticed I am confused about/need clarification on?

Sorry for the essay! I really appreciate anyone who took the time to read this. 

Thank you!

Bri

[Dan H.]

Originally posted by @Brianna Billings:

Hello All, 

I graduated from undergraduate in May 2020 with no debt (low tuition cost, scholarships, and a little help from my parents). I started my first salaried job ($80,000k per year) in early August 2020. At that time, I had about $11k in my bank account and $9k in a Roth IRA that I had started about 2 years prior. I kept my high school car which is 100% paid off, and I pay my parents for insurance twice annually (about $1000 total). I also opted to continue to live with my parents, rent free. Because all I pay for is gas and food, I have been able to save most of my taxed salary and currently have $38k in my savings and $12k in my ROTH IRA. I have also been putting 10% pre-taxed income into my 401k and have about $4k in that; 6% will be matched following 1 year of employment, in August 2021.

When I reached 6 months of of employment, I applied for home loan preapproval from 4 different lenders. My max loan currently (30 years, 2.855% APR) is for a $580,000 purchase price, with 5% down ($29,000). I am able to purchase a $600,000 home with this lender if I increase my down payment and closing costs to $50,000. This would take me about 15 more weeks to accomplish at my currently savings rate.

I would like to purchase my first property with the intention to occupy one room and rent out the remainder (I am actually moving in with my Grandma for the foreseeable future, she is 92 years old. So until I need to live elsewhere, I could potentially rent out all rooms or the house/condo as a whole? I am not sure if that is an issue with the rules for a first time home owner). I live and work in San Diego, where property is pretty pricy. I have a few options outlined below and would like to get more experienced opinions on what my move should be. 

1) Single family home inland with large property: These are going for between $450k - $600k. If the property is large enough, I could build an ADU on it in a year and also collect rent from that. Only issue is that the rents are barely covering the mortgage payments it seems. I think the only way I would make money every month would be with the ADU.

2) Condo in beachside communities: The ones in my price range are between 2-3 bedrooms and 1-2 baths. They are going for between $450k and $600k. I like this idea because I surf, so if I need to ultimately stay in my first property, I would feel way better about being close to the beach. My hesitation with this option is the HOAs I am seeing and the lack of potential in the property. The HOAs are around $300/month, which really cuts into the profitability it seems. Also, unlike the single family home, I am limited in the amount of additions to the property that could potentially increase rental income as well as appreciation. 

3) Condo in inland communities: These go for between $350k to $450k. About 2-3 bedrooms and 1-2 baths. My hesitation with this is that it is well below my budget. My idea was to make the most of the 5% down payment, since I only get that opportunity on my first property I believe. I want to leverage myself as much as possible in this first property so I am able to take out more money from it in the future. Is this a correct way of thinking, or should I buy anything that produces cashflow each month?

3) Any other ideas? Things that you noticed I am confused about/need clarification on?

Sorry for the essay! I really appreciate anyone who took the time to read this. 

Thank you!

Bri

 >I have also been putting 10% pre-taxed income into my 401k and have about $4k in that;

At your age you should be placing the money post tax into a Roth 401k if it is an option.  


FHA requires owner occupancy. If you intended to live in the property and due to circumstance change, you would not be doing loan fraud. But if you did not intend to live in the property, that could result in severe consequences. You must owner occupy a property purchased via FHA loan (or even non-FHA loan where you indicate owner occupancy).

Option 1: Adding a hands off ADU virtually always costs more than the value added. This implies you start with a negative position that consumes your initial cash flow. It therefore is a better investment to buy the property with a 2nd unit than build an ADU. If you are buying a 2 unit property, it is better for various reasons to purchase a duplex over a property with the ADU. the primary reason this is better in your case relates to financing. The rent from the other unit in a duplex is used to qualify for a FHA loan, but the rent from one of the units from a SFH with ADU does not help with the financing.

Option 2: it is my belief that most HOAs are good stewards of the HOA fees and that many investors underestimate maintenance and cap expenses. The HOA typically gets discount on the maintenance/cap ex due to their scale. So it is not the HOA fees that concern me with this option but the HOA power. What happens if when you move out the HOA does not allow you to rent the unit. There are many HOA horror stories.

Option 3: you have the downside. 

Now the realities of investing in San Diego RE. SFR are virtually always cash flow negative at purchase (when properly allocating for expense estimates) using high LTV financing if found on MLS. Deals off market take effort to find.

The situation is not much better for duplex to quad. It is still a challenge to find a duplex to quad property with high LTV loan with positive cash flow, but in most cases the initial cash flow will be better than the SFR.

Does this imply San Diego RE is not an outstanding investment?   No!   Historically San Diego RE has outstanding long term property and rent appreciation.  For 2020, San Diego had outstanding property appreciation but not good rent appreciation.  This implies San Diego RE is a long-term investment.  It requires holding long enough to recover from the initial typically negative cash flow.  

As for advice:

• Research rental expenses Learn the 50% rule. It will be fairly accurate for San Diego RE with HOA. It will be conservative for San Diego property without an HOA or Melo Roos.
• Go to some RE meetups   You can find some on BP or many on Meetup.com.  Virtually all are still virtual.
• Keep researching RE. BP is a good source, but recognize there are many opinions from people who do not have much RE experience or RE success.

Good luck