Too Good To Be True??

Question

I have been looking for multi-family opportunities to get started in REI.  I've come across this deal that seems too good to be true.  Help me understand where I've gone wrong on the 24 unit deal.

I have put in some assumptions about mortgage rates, terms, interest only, etc.  I have a quote from a management company for 6% of gross rent collected plus the cost of staff allocation (still to be nailed down), so I left a figure in Maintenance to allow for that in addition to the 6% they quoted.

It meets the 1% rule and the 50% rule.  It's running at an 8% vacancy and I figure we can get it to 5% with better management (there is some evidence of lackluster management).  But the numbers work at 8%. I have a 2% rent inflation rate built in. I built in some inflation on the expense side in the out years based on the ratios in Yr 1.

My target goal is a cap rate of 10%.  With a purchase price of $720K it yields a 11.3% cap rate.  With the numbers I have run, the NOI and my target cap rate yield a value of $815K so maybe not a lot of room to get a 10% discount.  After Yr 1 with resolving the vacancy rate, it looks like I could re-fi and get some equity out for further investing.

I go by the doctrine of if it seems to good to be true it usually is, so BP'ers, what am I missing?  I'll get better details of the costs once I get into the due diligence phase.

J Scott · Answer

Are you realistically going to be able to get a 30 year fixed rate loan?

Are you certain there are no repairs necessary or deferred maintenance?

Do you have a contract at the $720K price or is that just your pro-forma?

Are you sure you can get management services for 6%?

You don't have anything budgeted for turnover...why not?

Is $250/unit/year realistic for maintenance?  Are the units in good condition now?

Do you have anything budgeted for CapEx?  I don't see it in there?

Ramon Jenkins · Answer

Do you have a click version or download copy of this spreadsheet ?

Property management -> I’m estimating a minimum 9 – 12 %.

Will you be out sourcing the grass and snow removal?

Would this property be occupied by students or everyday resident in the community?

You might need 25% – 30% for down payment.

Current owner be willing to carry 2nd note for this property?

( 5 % – 10 % )

Keith Martin · Answer

Hi @Matthew Schroeder,

Good points.  I am working off the offering memorandum so all that has to be verified.

Thanks to everyone for you input.  Maybe not too good to be true but still a deal to be pursued further.

Ramon Jenkins · Answer

Owner or tenants

~~~~~~~~~~~~~~~~~

water monthly cost,

electric, heat , and gas

Each unit individual metered ?

Matthew Schroeder · Answer

In a multi-family property like this, utilities can be a huge swing factor between profitability & loss.

Based on the fact that you have an input in the electricity expense line (3%), I assume that you (as the owner) pay for electric.

For electricity expense, you have $4,900 in Year 1.  That works out to $17 per month, per unit, ($4,900/24/12) - that seems very low!!!  Are the tenants paying a portion of the electricity?  Do you have historicals/actuals to support your projections?  The current owner should be provide you with actuals/historicals so you can verify against that.

Keith Martin · Answer

Hi @J  Scott,

The property is not under contract yet.  These are pro forma at this point.  All of your points are good ones I need to resolve during due diligence.  The property management deal is  a 6% base with an allocation yet to be nailed down.  I left 3.7 pts in maintenance for the allocation so I am close to 10% in reality.  The contract maintenance has the turnover costs in it for vacancy turn over.

Thanks for the feedback!

Ramon Jenkins · Answer

What is the debt service for this property ?

Initial renovations budget for this property ?

Maybe add the cost for appraisal and property inspection.

Closing cost with lender maybe changed to 2.5 % - 3%

Keith Martin · Answer

Hey @Jenkins Ramon,

Thanks for the reply.  I'll look at how to put a file up.  As for the other questions, here's what I know at this point.

• Property management -> I’m estimating a minimum 9 – 12 %.  Right, I have the 6% base plus I left 3.7% in Maintenance for the allocation fee they talked about.  Puts me right in the range you mention
• Will you be out sourcing the grass and snow removal?  Grass and snow removal are in Landscaping which is based on 2014 actuals
• Would this property be occupied by students or everyday resident in the community?  occupants are every day residents it's not in a "college town".
• You might need 25% – 30% for down payment.  Right, I figured the 20% down to get to a 80% LTV. But you are right I might need 5-10% from the current owner.
• Current owner be willing to carry 2nd note for this property?

Thanks again!

Ramon Jenkins · Answer

I would suggest keeping your maint and vacancy around 8 % - 9 % minimum for the first two years. Worse case each year extra saved funds for a raining or miserable day.

Basically for any future unknowns

~~~~~~~~~~~~~~~~~~~~~~~~~

roof issues

water heaters

furnace issues

tenant issues

parking lot issues

plumbing issues

property insurance inflation ( rates )

extra property tax inflation

etc

Too Good To Be True??

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