Property under contract, do I walk away?

Question

I currently have a property under contract. It’s a duplex both units are 3/1.5. Units are fairly updated and both rent for 775 fully occupied, so 1550 p/month.

However, it has a lot of immediate foundation issues roughly 25-30k (if the drain tiles don’t need to be fixed, then tack on another 10k) and needs a partial roof fix, 7-8k.

Put it under contract for 55k cash. Comps go for around 100-110 but with the current foundation issues it won’t appraise for that. It cash-flows great right off the bat but not sure I’d be able to get the money out of it that I put in for the fixes when I refi. Question is do I keep it or walk away?

Thanks in advance BP nation!

Mike Cumbie · Answer

I don't know your area at all so take what I say for what it's worth.

A 55K house bringing in 1550 a month is 18,600 a year (no clue on taxes and here in NY that is a BIG factor). So in 5 years (60 months) rents are worth $93K (assuming no increases, which is a bad assumption). Even assuming you have actually 30K in foundation issues (which I find hard to believe on a property of that worth, unless it's trashed in a sink hole). Personally I'd buy and find a more realistic foundation person. If it is shot and the rest of the neighborhood has huge values, tear it down and rebuild.

DISCLAIMER: No actual advice given, for entertainment purposes only, any human following this advice is most likely wrong.

Ken Eck · Answer

@Todd Rasmussen I did know about the foundation but it’s a little more substantial than originally thought. I did not know about the roof at time of contract, that was found upon inspection.

You’re right equity will be very lean but the cash flow makes up for it. Especially since the cash flow will essentially pay for the repairs and then some.

Brian Ellis · Answer

Appraisers aren't foundation experts. They wont point to the foundation and say "that foundation looks like it needs 40K worth of work". (unless it really is that noticeable, and practically falling apart). They give an overall assessment of the condition of the house + or -  sold comps.

55k cash and 40k towards repairs, youre still on top, especially with that much cashflow. What id ask myself is "Can I actually afford to repair the foundation". Dont rely on the cashflow alone to get you there.

Goodluck!

Ken Eck · Answer

Update: I had the appraiser in the other day. As-is value 59k. ARV 105-115, conservatively ill stick with 100.

I think I am going to keep it. Is it the best deal out there, no. Yes, it will carry a bit of risk, and I will leave cash in the property if my estimated numbers remain what they are but it would end up being less cash (about 7%, 18 v 25) than what would be needed for a DP on a conventional loan. As a long term investment it will preform, just need to get over that short term hump.

Ill post some updates as I progress with it.

Thanks all!

Todd Rasmussen · Answer

@Ken Eck

If you are confident in your numbers, I think it can still work. I think your equity reward is a little lean for putting all of that work in. Did you know about the foundation issues and the roof when you offered? Assuming that it was discovered during the inspection, I think you'd be justified asking for a credit to give yourself a little margin.

Dan H. · Answer

Cash flow is really not relevant because what you are determining is whether the purchase out performs other options.  The $100K ARV comp is another viable option and likely not the best option available.

$55k + $30k + $8K = $93K.  Value of $100K to $110K.  There is potentially only $7K of value add.  There is risk and effort.  On top of that, the $55K cash has 0 leverage and the repair costs will also be tough to obtain significant leverage. I expect much better return on my money and effort than $7K.  Even at the $17K, it does not approach my expectations for return for a cash purchase.  When you refinance to obtain some leverage: 1) you will not get out your full investment because your equity position will be low 2) there will be fees associated with the refi (or higher interest rate).

I would rather purchase the comp RE at $100K with a traditional loan (higher leverage) with the same rental income.  If you do the math this is likely to be the better investment.  It is definitely the lower risk investment.

I would look for a different value add.  One that provides enough of a return above the ARV purchase to warrant the risk and effort.

Good luck

Andre Taylor · Answer

I second what @Todd Rasmussen added. I would try to go back to get it at a lower price but since you already knew about the foundation; the seller might not be willing to move. With the numbers being lean ... doing the refi you will still have money in but not all of your money out. It is tricky with the margins pretty tight.

Dave Skow · Answer

Ken - hi there ....did you proceed with the closing ?  how did it go?

Ken Eck · Answer

@Mike Cumbie I am investing in Milwaukee. I now live in Olympia WA.

I had the engineer in on Saturday and he from what he found 3 of the 4 walls need to be excavated and reinforced. The 4th wall can be reinforced from the inside. It will also need to be completely resealed and the major gaps filled. It is a cinder block basement.

My next steps is running actually estimates from contractors. right now I am running worst case numbers off of what the seller has had estimated for him previously and what the engineer concluded.

With the type of cash flow that it makes, less taxes and PM Fees and Cap expenses I would be able to recoup the money left in the property after refi fairly quickly. There is still a good possibility I get the 55k purchase price out of it at least.

John Teachout · Answer

That seems like a lot for just part of a roof. Did you get more than one estimate? Is it shingles?

Property under contract, do I walk away?

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