Too good to be true..but where's the catch?

[Sankalp Gosain]

Hi all:

I've come across a deal on an old, 20-unit Sec 8 building being sold at a 19% CAP rate according to listed numbers. Seems suspiciously rosy, but until I can figure out what's wrong with it I'm drawn to it like a moth to the flame! Any suggestions?

The deal:

• 20 units, 5 retail suites. Apts currently 85% occupied, retail suites 100% occupied
• listed at $440K (19% cap rate)
• "apartments are leased in conjunction with the HUD Moderate Rehabilitation (Mod Rehab) Housing Assistance Payments (HAP) Contracts, renewed annually in November." Currently ~93% of rental income comes from the government subsidy.
• The Mod Rehab program allows a Vacancy and Damage allowance of up to 2 months of subsidy payments per unit, per vacancy incurred.
• Rent roll shows mostly long-term tenants, about half have lived here for 4-9 years
• new roof (2006) and furnace in every unit (last 3 years)
• tenants pay gas and electric, landlord pays trash and water
• "Retiring ownership directs immediate sale" (yeah, not compelling enough for these numbers to make sense)
• owner is open to seller-financing

So total income last year was $130K, and claimed NOI was $83K. (Including an extra $12k cost between maintenance and management.) Even assuming this NOI figure is bunk and going with a 50% expense ratio, that's still $65K and a 14.7% CAP rate. Assuming this is priced efficiently, do we just conclude there's a ~4% premium to the property being in a relatively poor part of town, despite 93% of rent being guaranteed, long-term tenants, and 2 months of vacancy/damages covered by the HUD?

I've got a short list of some management groups that specialize in Sec 8 that I'd interview and select a winner from if indeed nothing turned out too ugly, but I'm so skeptical.

Is it that this property is somehow going to lose it's main customer, the government? Could be that the property is baarely squeaking by the qualification process this year or the owner is somehow anticipating the program will be cut or reduced.

Looking forward to your thoughts!