Real Estate Deal Analysis & Advice
Market News & Data
General Info
Real Estate Strategies
Landlording & Rental Properties
Real Estate Professionals
Financial, Tax, & Legal
Real Estate Classifieds
Reviews & Feedback
Updated almost 17 years ago, 12/16/2007
Crunching the numbers
Hi,
I want to buy a single family home as a longterm investment. I already own a nice home and I have around $300k in short-term CDs ready to invest. I like the idea of earning rental revenue far more than the stock market or bank rate of interest.
I found what looks to be a nice home that meets my general criteria. It's in good shape (same owner since 1980), initial review looks good. There is an upstairs area with 1.5 ba and 3 bdrm which I can rent for about $1400/mo. There is a separate downstairs, with private entry, with kitchen, 1 br and 1 ba, I can rent this for $800 easily. So total is $2200 rental revenue. It is not a legal duplex but I believe in this area I would not have a problem renting it to two parties.
The owner has it listed at $370k on the MLS but the owner said there is a clause that says they can sell it independently as FSBO. I already purchased one home with FSBO and I have no problem with this. I found the home via For Sale By Owner advertisement.
What do you gurus say about the numbers--assuming $2200 per month and basic cost of maintenance, what kind of price should I pay today if I expect to get 5% on my money per year irrespective of property appreciation? Right now the market is very slow so I will likely at least start with a lowball offer, but I wonder what pricetag gets me 5% return assuming rents of $2200/mo.
Thanks for any responses!
If your rent is $2200 per month you can expect your net operating income to be about $1100 per month or $13,200 (search for posts about the 50% rule). If you were to pay cash and wanted to get a 5% rate of return you can pay no more than $264,000 including closing costs. The real question is why would you pay cash? You are better off using that money as down payments on several properties to take advantage of the leverage that real estate investing is able to provide. You spread your risk across multiple properties and can still achieve the desired cash flow.
8)
Thanks a lot for the numbers breakdown. 50% sounds like a tough rule but I am sure experienced people in the business have come up with that figure.
I am unconventional in terms of my taste for debt. I don't like debt so I save and buy what I can afford. However, my idea with this property would be to pay cash, get it situated, then within 5 or 6 months refinance it and seek another property. Ideally I'd like to use the $300k saved in order to get two properties, and go from there. I realize that is likely far more conservative than many investors but I don't think prices will rise much in coming years so my focus is on paying the bills not hitting an appreciation jackpot.
Any further feedback is appreciated.
The 50% is a rule of thumb, your actual expenses may be more or less. However they won’t be a lot less and the rule will keep you out of trouble. Keep close track of your expenses and you’ll begin to see how they add up. Be sure to keep a reserve for maintenance and repair, that is a good chunk of that 50% (figure on about 10%).
8)
Another consideration is that it may be harder to sell an illegal 2-unit. Personally, I would not buy one.
Mike
I also would not go for a unit that's not being used in conformance with zoning and permitted uses. I've ran across two different properties that had great numbers, but were out of compliance. I passed on both.
The numbers on your deal aren't good. Personally, I would never buy into any real estate deal with a 5% return. You can get that on CD's. Well, maybe not quite right now, but close. I would be looking for at least 10-12%, if not higher. To get 12% with the rents you mention, you would need to pay no more than $110,000.
I do agree with your thinking on appreciation. While there may be local drivers that create appreciation in specific situations, I think flat prices are the best we can hope for in the coming years, and significant declines are possible.
Jon
Wow with all due respect, I am sure you are far more experienced than I am, but that is just hilarious!! I have to laugh about that response but please do not take it personally I am just sharing the thought. I am in Seattle WA. The home is less than 1 minute drive to the freeway and there is a bus stop in front of the property. The location is excellent. If you wanted to buy something for $110k then you'd have to drive literally 2.5 hours away. The low end for any home, a rat-infested fixer with a bad roof, is $250k. Using your figures nobody would ever own a home to rent out. I think longterm appreciation and hedge against inflation is a factor here. CDs are poor investments in my opinion but everyone brings a personal strategy. I can say that here in this area at this time, to be able to buy two dwellings in an area central to tens of thousands of jobs (Boeing less than 3 miles away, and millions of square feet of retail is within walking distance) nothing can be purchased for under $300k. This is a nice house.
If it was easy to find great properties that were good investments with positive cash flow everyone would do it. The fact is that investing is work. If you buy a house with the idea that it will appreciate you are speculating. There is nothing wrong with speculating and a lot of people have made a fortune doing just that. A large down payment or cash purchase is just buying your cash flow and Wheatie’s comparison to a CD is appropriate in that case. Any investment should be looking on the return on the cash that you invest. It’s easy to rationalize a purchase by saying that you can’t buy for less in this area. The fact is that investors need to buy properties at a discount not retail. Is it easy to find? Absolutely not. Many newbie investors post on this board with their potential investments and the more experienced investors here try to keep them from making mistakes that could cause them great financial harm. Your aversion to debt will keep you from getting burned, the worst that will happen is that you might not earn as much as you could. But you might wind up doing very well and all investment entails some risk. So you might find the comments “hilarious” but quite a few novice investors have used advice like that to keep from making some huge blunders.
8)
You say you don't like to be in debt yet you want to refinance when the property is paid off. What is the difference? The only difference I see is that you've severely limited your growth by not fully utilizing leverage.
I'm not saying to go out and buy a bunch of houses, I just don't see the advantage of paying cash for one, unless it's an absolute steal.
Keeping a loan on a property is one way to reduce the risk of lawsuits. You can more easily 'hide' cash. Free and clear property is easier for a lawyer to notice when trying to see if you are worth suing.
John Corey
Hi,
Thanks for all of the useful feedback. I was thinking that cash payment for a home now, and let rates settle back down because they may fall a bit more, then refinance it. I know it really goes against the grain to buy an investment property without a loan. I will seriously re-think my strategy. Based on my initial research, I can refinance a home that is 100% owned, and get the same rate as if I were to get a loan to purchase it. Is that not true? Perhaps I did not word it well. As for hiding assets, that is a good thought. I am somewhat paranoid of this too. But I already have my name on a very desirable property of an amazing 6+ acres in one of the most desirable communities here. Frankly, nobody owns that kind of land here, I got it by luck and hard work. Any lawyer who sees that will instantly jump unfortunately at what I already own, should the case arise that I am being sought out for lawsuit asset search. If you know of any good umbrella policy I would like to hear about it. I do not want to be a landlord without a good policy. Thanks!!
Unfortunately, an umbrella policy may not save you in a rental property related lawsuit. Many of the common things that cause lawsuits (like lead paint, mold, etc) are not covered by insurance. You need a multi-layered asset protection program in this business.
Mike
goodvalley,
If you feel you have exposure from the land then work on addressing that. Better late than never.
Mike has the right principle. Get Bronchick's book and read up on your options. If for no other reason than $14 worth of book knowledge will help you ask better questions when discussing your needs with a lawyer. How long on the clock does it take at their bill rate before you have paid for the book?
Be cautious but do not let paranoia get in the way of wise investing.
John Corey
Bought a fabulous triplex (3 apartments/3boxes) in an expensive neighborhood. It was large since it was the orginal farmhouse at the turn of the century. Zoning was downgraded in 1985 for this subdivsion. At that time owners who wished to grandfather had to fill out a form but few did. At the time if you had separate meters no one bothered to challenge the multiple unit issue. That changed.
One month after closing, a banker/ next door neighbor complained to zoning. Inspector showed up to "inspect" the premises based on 3 mailboxes and told me I'd have to get rid of a tenant. There were other accusations such as putting a kitchen in at night ..but unfounded. Just wanted to intimidate me into evicting a tenant.
For the next year I spent time proving to the city zoning that the triplex had been renting CONTINUOUSLY since l975 (their requirement) and had to search previous owners out cross country for affadavits of this fact. Paid for and hired the most intimidating lawyer I could find on the city's main street. I filled out the form and they allowed the grandfather "officially" . If I hadn't worked for the government and been accustomed to documentation this would have been a bigger nightmare. At least I did the documentation for the lawyer but I still had to pay him for that call you know?
Be sure the "neighborhood" isn't just waiting for you to fill up that house before complaining. It doesn't take much to cause you alot of grief. I ask every agent showing a house with an empty apartment in back "Do you have a grandfather certifcate in the zoning file?" In our area, you cannot rent to more than 3 unrelated people. Neighbors are well aware of that restriction also.
I am a newbie in New Orleans working on a short sale long distance. This is actually my first deal. It's a family member who is going through pre foreclosure in Houston, Texas. I am not clear on how to run the numbers for the deal. The bank sent her a letter basically offering to short sale the property or give her cash to vacate. I have the short sale package list from the bank. I have submitted the authorization letter. I have also completed the hardship letter, working on the seller's financial statement, collecting 2 yrs of tax returns and 3 months of bank statements. I have a detailed retail inspection report. I just don't have lowball comps, current listings and proof of funds. Any help is much appreciated. :shock:
I don't there is such a thing as "lowball comps". Go on line at the local assessor's office and see what houses were sold for on that particular street and when. Also, search realtor.com and see by the map version what's listed for what in that immediate area. Talk to realtor offices near this neighborhood and see if the broker will give you price range information.
Proof of funds. Normally whoever's is lending you money does the check through your local bank(s). I assume your bank could write a letter stating what your deposits are if the burden of proof is on you.
I'm sure others are much more knowledgeable than I but this is my brief feedback.
Thanks for the reply. Your references are very helpful. If there is anyone out there who wants to give me a rough sketch on running the numbers on this deal, please feel free. I don't know what to put in as a starting offer to the bank. The lowest comps I can find are 133K, the payoff may be in the range of 115K, I have a retail estimate of 32K for repairs. I'm sure there will be holding costs and such but I don't know how to estimate them conservatively to help with my analysis of the deal. I'm open to suggestions from anyone who wants to respond.
Purchased on for $160,500 vs. $189,000 (reduced from $220,000 a year earlier). Commerical loan to buy and refi 8 months after purchase and rehab was complete. Repairs were $71,307. Admin costs were $19610 for 9 months. Includes interest ($10292), 2 closing costs $3544, utilities $2063, yard $1497, cleaning, insurance ($1694), etc.. taxes $1944. $90,000 plus total. I really planned to spend $45,000. Only financed $110,000. Cost to renovate $45/sq. ft. and that's me as coordinator. Utilities are high because the lot is huge and there's a 6 zone sprinkler system.
It took 3 "almosts" renters to get someone responsible in the house so if you have to cover yourself it's good to have cash to hold out and NOT get your newly renovated house damaged.
I was willing to dump money into this house because I know I have a great, in town location AND I bought low. Also, bought a house no one wanted. You should talk to someone in your short sale area that's recently done a rehab. Call a big realtor's office and ask if they know of anyone that's familiar with a recent flip. They'll be happy to share some info with you I'm sure.
I hope this is helpful.
Great advice! There were definitely some things I overlooked. I took the advice from another helpful investor who helped me look for comps. Now I am looking for private or hard money at good rates and terms. Private money is preferred because my holding time may exceed 6 months--the subject property is in a buyers market . If anyone has any suggestions, I'm open.
we use a small contractor friendly banker in the commercial division. Ask realtors who flip and investors who they're using. 20% down (or cross collateralize from another property you own with lots of equity or outright)
.5 pts. This summer rates ran 7.75%. May be lower now.
You can build a relationship with these bankers. They're used to big numbers but require credit etc. from you. If they want an appraisal they'll tell you. With enough down and familiarity with your record they'll tell you if they'll do the deal as discussed. Downstairs is no good. Too conservative.
They will loan you money to rehab but will not release at closing. You will have to email and do draws which means you've got to pay subs ahead and get it back from the bank This is not something I anticipated when I did my rehab last year. I was confused by times the investor used his own money and got one check from the bank - 1 draw.
You must have excellent credit and FICO. Forget the above if you don't.
Originally posted by "goodvalley":
Just because people are asking these prices does not make it a good investment. THis fact you must accept.
we're just sharing problems you might anticipate such as zoning complaints etc. These issues can really cause nightmares. Then plunge--by all means.
A couple of lenders in my area are doing this as well. In essence it's zero down but purchase plus rehab must be no more than 80% of ARV and you must pay for their appraisal. A minimum of 10k for the rehab. Also you need the cash to start the rehab until you can draw the money from escrow, which is usually about a month.
Think of it this way.
ARV 100k
Purchase plus closing 70k
Rehab 10k
Of course you need great credit but I thought I'd point out that 0 down is still possible even in these tight times.
You might as well keep your CD's making 4-5%...There is no reason to invest in real estate, at this level if you are making 5% compounded annually. You are just taking on more risk and making the same return as a no risk CD.
Shoot for properties that will make you a 15% cash on cash return...
Hope this helps!