Build to rent - too good to be true?

[Andrew Q.]

Hi BP! I've done four BRRR deals so far and recently hooked up with a builder and am looking seriously into small scale build-to-rent. Honestly it could be build-to-rent or build to sell, but I'm sticking with more conservative build-to-rent numbers in case something unforeseen happens with the market.

Would appreciate if I can get some feedback on my estimated return - I'm getting a little over 25% cash-on-cash returns after units are rented and refinanced but this feels too good to be true.  

I realize there are many other intricacies associated with working capital, loan draws, time value of money, appraised values, etc... but just scoping at this point and trying to get reasonable numbers to start with

Inputs/Assumptions: 

• 19,000 sq ft corner lot for ~$120,000 in Houston - subdivide into 4 lots at 4,750 sq ft each. No HOA restrictions
• $80/sq ft SFH build cost for 1700 sq ft house
• Property tax rate at 3%, insurance roughly 1%, property management at $125/month

Calculation: 

• (Annual Rent - taxes - insurance - prop mgmt) / ((build + land cost) * 30% left in properties after refinance)

Any comments are appreciated!

[Joseph Cacciapaglia]

@Andrew Q. the $80/SF build cost seems incredibly low to me. I have a couple of new builds going on, and I'm significantly higher than that on both. Neither is a high end build either. If that's based on a quote from a contractor, I would suggest digging into it to see what he is leaving out of the quote. I dealt with this on one of my projects, where the contractor gave me an incredibly low $/SF like that, but left out a ton of line items and wasn't able to stick to budgeted numbers on several of the ones he did include. It turned out he was completely broke, so couldn't cover the shortfall, despite having a guaranteed price contract. Feel free to PM me, if you'd like to know who that contractor is, just in case he's made his way to Houston. I'm sure there are plenty out there doing the same thing though. If it were me, I would make sure the deal pencils out at $140/SF. I think you can do a little better than that, but not a ton. Of course, Houston is a bit different than San Antonio, but I can't imagine it's that far off.

[Drew Sygit]

Yeah, what are you building for $80/sqft, a tree house or a dog house?

[Michael H.]

I'd be skeptical, because no one Ive talked to has their new builds come in on budget or on time.

I'm getting off market deals in Houston sooo far below replacement cost(AKA build cost) that I wouldn't be trying to build.

[Julie Marquez]

@Andrew Q. Are all the permit fees included? Design fees? I feel like your construction cost is missing something. We built a duplex to rent and we were double your construction costs. You can search my posts to see our breakdown of the project, and we did a lot of the work - my husband is a carpenter. Also, how are you funding this? Your money sits idle for a while before rents come.

[Tyler McDonald]

We just built a primary residence last year and all I can say is that it was a learning experience (aka a complete disaster with lots of important lessons learned).  Not sure how well you know your builder but based on my experience with ours this is what I would do differently next time, especially if for investment purposes:

1. See if I could tag along for a couple of days before signing a contract.  How does he/she actually run the business of building?  Ours knows A LOT about building a house and NOTHING about project management or running a business.  Consequently costs spiraled, the schedule got blown out, and tensions ran high.  COVID was not a major issue as all materials were purchased prior to.

2. Add 10-20% to the budget (at least mentally).  Our builder was quite aspirational when it came to price.  He swore $100/sqft was doable for what we wanted, ended up being closer to $115.  And that was without any real constructive changes or upgrades.

3. Ask for referrals.  It is so painfully obvious to me now.  We did ask to walk through a house he had under construction, but we should have asked to talk to recent clients of his.  I'm certain this would have revealed some of the problems we encountered.

4. Ask for their list of subs.  I would think a solid list of a few subs is a good thing.  Ours simply used whoever was cheapest.  The plumber was someone he had no prior experience with and we have spent thousands of dollars of our own money correcting issues that the plumber screwed up. (I know, I know, we shouldn't have to spend our own money!  But when there is no hot water and its 20 degrees outside and everyone says "we'll try to get out next week" and your wife is shivering in the shower every morning...you pay the $1000 and try to recoupe it later).

Hope this helps!

[Andrew Q.]

Thanks everyone for the solid feedback!  This is what I meant when I said seems to good to be true, just wasn't quite sure why.  

The builder info is from a friend who has done several high-value condos in hot areas, so it's not just a random contact.  The general plan would be to buy the land cash and then take out a construction loan to fund the home builds, so land $ will be tied up for a while but nowhere near the full amount.  I probably am leaving out several of the fees for design and permitting as @Julie Marquez mentions. 

I don't have the intricacies on how the builder is setting his pricing, though I suspect he is looking to make a certain $ amount off each build.  Thanks again for the comments!

[Julie Marquez]

@Andrew Q.

https://www.biggerpockets.com/...

Here is the link to the story of our duplex build if it can offer any useful information for ya!

Our design fees were very very (unusually) low, our contractor had a 15% markup, and we did the second half of the work ourselves.

[Mitch Hill]

Thanks for this detailed account of your duplex project.  I am thinking about a build project for my next one as well. Finding the lot is the challenge as usual.