First deal - Is it worth it?

Question

Hi Team!This is my first post on Biggerpockets. I'm 24 years of age, just got settled into my full time career as an Engineer and now I want to invest in Real Estate. I have a deal on the line right now that I would love to hear feedback on.Property Details

• 2 unit Duplex
• 900 sq. foot on either side; built on a cement slab
• Built in 1987
• One side currently occupied by a tenant @ $725/mo & i'm planning to live on other side in order to homestead
• Purchase agreement price: $154,900 - 26 days left until closingNote: There were several other offers and mine is the highest by approx. $1,000. I know this because I tried to get concessions and failed miserably
• Note: There were several other offers and mine is the highest by approx. $1,000. I know this because I tried to get concessions and failed miserably
• I had the home inspected and the inspector found nothing inherently wrong with the property. He simply found a few things that should be upgraded but are not critical
• The property is located in a mediocre area. It is next to 3 other duplexes.

• Note: There were several other offers and mine is the highest by approx. $1,000. I know this because I tried to get concessions and failed miserably

Financing

• Secured a 30 year FHA loan @ 4% interest
• Payment per month is going to be approx $1,200/mo
• I have to fork over $11,000 at closing

The plan

• I plan to live in one side and rent out the other for about a year. After the property is homesteaded and I have access to more cash, i'd like to turn around and buy another property.

Here's a pic of it:

Biggerpockets Team; is this a deal or no deal?

Sarah Lorenz · Answer

With your income, you might consider buying a higher-end duplex in Rochester or another nearby desirable area. You will have higher-quality tenants with hopefully less turnover/wear and tear, much better appreciation, and your rents will appreciate much more as well. Here is a little personal case study: I sold my first home in a working class Wayne county city about 20 years ago. Investors love to gobble up houses in this area. I sold it about 20 years ago for 124K, and it's worth about 110K today. That's right, negative appreciation--still recovering from the recession. The rents have gone from about $800 to $1100 in that 20 years. After I sold it, I bought another similar house in my current city for 150K, with a payment of about $1200 a month, PITI. In less than 20 years, the value of that house has doubled to over 300K. It might sell for 350K if totally updated. It would rent today for $2100-2400. So I would have cash flow of about $1000 a month before repairs and cap-ex. That's the difference in a Class C vs. Class A area. If I were your age with your income, I would probably move into a new, owner-occupied duplex in a Class A or B area every two years, with 3.5% down. (After living there for two years, you can move and count the rent as income to qualify for another loan.) Read up on BP about the dangers of investing in low-cost rentals in Class C and D areas. Good luck!

Max Householder · Answer

My advice would be to slow down and keep learning. Listen to every BP podcast. Subscribe to keyword alerts for your area. Add alerts on Zillow and Realtor.com for multi-family properties and run the numbers on every new listing. Buy books that get mentioned in the podcast episodes and read them. I am not an experienced investor, but I ran the numbers on hundreds of properties and looked at dozens in person before I found ONE that I wanted to make an offer on which is the one we bought. If you do the homework, your gut will tell you when you've found your first deal. If you have to hem and haw and fudge the numbers to convince yourself it's a deal, then it isn't one.

On your last point, the best thing you can do while you learn is to SAVE MONEY. If you're 24, single, and making six figures then you have a golden opportunity to quickly reach financial independence in less than 10 years.

Why is your credit mediocre? Do you have student loans or consumer debt? Pay them all off ASAP. Read some blogs on improving your credit score and start taking the necessary steps.

In the mean time, live on half your income or less! Don't buy a new car, don't rent a high end apartment, learn to budget, learn to shop for groceries, learn to cook. Don't raise your lifestyle every time you get a raise. You don't have to eat ramen and beans and never travel or go out with your friends, but take at least half your income (or more!) on pay day and put it into savings for Real Estate and then learn how to live comfortably on the rest.

Read this article for backup on this advice: The Shockingly Simple Math Behind Early Retirement

The steps to wealth are learning how earn, learning how to save, and then learning to invest. It sounds like you got step 1 covered with your earnings. Now move on to tackle step 2 while you teach yourself about step 3. Life will be so much easier if you've got a rock-solid financial footing to build upon.

That's my $0.02

Sarah Lorenz · Answer

What school district is this in? Have you really carefully researched the rents yourself? I have a hard time believing you couldn't get $850 for a 900 square-foot rental in southeastern Michigan.

Max Householder · Answer

Looking at neighborhood scout, I didn't see the information you pasted, but a high vacancy rate seems like a red flag to me, especially if you plan to raise rents for most/all of your value-add strategy. I'm confused by how they get their numbers. Median price is 70% lower than all Michigan neighborhoods, but rents are 70% higher? If rent is so high, then why aren't property values up? I also came across the job numbers and 25% of the employment in Rochester is in manufacturing. Considering decades of decline in US manufacturing, this doesn't seem to bode well for future growth.

Thomas S. puts it more bluntly than I have, but he's right. This seems like a bum deal for cash flow based on the information at hand. I also didn't emphasize in my previous post, but that analysis shows you breaking even as being the best-case scenario, i.e. no maintenance or vacancy. In reality, you'd very likely lose money every year you owned this property.

Continue to do your diligence, but I'd make sure you know exactly how & when you can get out of the contract and jump ship if the information you gather doesn't improve dramatically.

Thomas S. · Answer

Although other posts indicate you could possibly make this deal work I do not see any way you will experience any positive cash flow over the long term. This is a bad deal for you to start with and the likely hood is it will be a financial mistake.

If you could push rents to $800 with expenses even at a low of 40% your debt repayment will result in a negative cash flow of $240/month. There is no way you will achieve positive cash flow ever.

Ben Wilkins · Answer

@Will T. - assuming you get another tenant at the same rent cost later, you would have a cash flow of only $200 / month without accounting for maintenance or CapEx.

Is there anything that you plan to do for value add on the property while you live there? What can you do to bring down the expenses or increase the income? Is there a garage or other storage space that you can rent out?

If you do not have a plan in place to increase your cash flow, I feel that this is rather close on cash flow to make much money.

That said, it does cash flow positively once you have a tenant, and it will get you in the game. It might not be the best deal in the world, but it gets you in the game, gets you equity, and gives you options later on your real estate journey.

Brian Mcguire · Answer

Before you exit this, I would call a real estate agent / broker and get a rental comps for property. This way you exactly know where you stand with rent, and can adjust your numbers to reflect it. Then you can decide what to do.

Max Householder · Answer

So your new P&I would be $670/month. Would your mortgage require PMI being less than 20% down?

Expenses should be roughly 50% so if your total income would eventually be $1450 then expenses should be around $725/month...

Taxes: $233

Insurance: $79

10% management: $145

10% maintenance & repair: $145

5% vacancy + 5% CapEx: $145

Total expenses: $747 = 51% which is a VERY reasonable assumption

You didn't mentioned expenses for water, sewer, trash, and any utilities the landlord pays. Also consider lawn care. So get numbers for those and add them in, but we can ignore for now.

$1450 income

minus $747 expenses

minus $670 P&I

$33/month cash flow.

You're more likely to break even in this scenario, but still not much, if any cash flow.

Look, you will always be able to fudge the numbers to get to an answer that you want to see. Take it to it's logical conclusion: well if you put 100% down THEN you'll cash flow nicely. Sure, but is it a good investment? What are your return goals? 5% 10% 15%? You need to decide what to aim for before you pull the trigger.

I think the key is to come up with your expense assumptions and then filter every property through those exact same assumptions to come up with your target properties and then dig in further. This isn't the only duplex in the world, there will be many, many others you come across. If the numbers don't work, then they don't work. Excel never lies. Just walk away and start looking for the next one while you refine your criteria. It's easy to get tunnel vision on one property because it's there and available now, but you've got to be able to take a deep breath and stick to your principles.

Will T. · Answer

Hey guys,

I did some more calculations and figured out where the deal is really hurting is my down payment of only 3.5, I found access to more cash, so in reality I could bring the total down to 9.5%. Here's a pic of what the deal would look like over 20 years with a little better financing:

What is your opinion now?

Will T. · Answer

Hi Sarah!

This Duplex is located in Clinton Township so it's clintondale schools. It's very close to Fraser High.

First deal - Is it worth it?

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