Turnkey properties that meet the 1% rule?

Question

I'm looking into buying my first rental property, and I'm thinking of using a turnkey provider due to me investing from out of state. I'm looking at some properties at Pinnacle Investment Properties, and they have several that meet or exceed the 1% rule - for example, a 3 bed, 1.5 bath at $76,900 that rents for $825/month (and several others in that range). Their calculations show, however, that this property (when financed) would cash flow just $192/month, and that's with estimating just 5%/month for vacancy, and 5%/month for maintenance in a C class neighborhood in Indianapolis. Is that a reasonable amount for a property around the $75k value mark? I suppose the math on a non-turnkey home of that value would work out the same, assuming it also met the 1% rule - that $192/month just seems a little low to me, and not necessarily conservative enough of an estimate.

As a side note, does anyone have experience working with Pinnacle Investment Properties or Mike D'Arrigo? He's been very helpful & responsive on this site, but I wonder what someone who's bought properties with him would have to say.

Will Barnard · Answer

Don’t get tricked by the 1% rule, it is commonly used by real estate agents and some turn key providers trying to make the investment sound better than it is, it does not necessarily equate to cash flow as there are so many other metrics and situations to consider, not to mention changing market conditions.

There have been so many newbie investors looking for their first rental property and duped by “turn key providers” so it is ever important that if you choose that path, you make damn sure that provider has one of the best track records in the industry.

Depending on your goals and investment strategy, you may be better served investing alongside other investors in a fund that takes down a long term buy and hold through a sponsor. Again, you want to make sure the sponsor has an excellent rack record but the good thing is that you can invest a smaller chunck of cash to start, get advice from the sponsor and other investors in the fund, and learn the ropes through that investment before trying to go at it alone. Of course there are a few excellent TK providers that could also guide you through, but you have to be careful as their advice may have some bias.

Ross Denman · Answer

@William Godbe I am familiar with Mike and Pinnacle. I've been in many discussions with him here and over email and I have had client purchase Pinnacle properties and shift them to our management. I have a client who is purchasing 2 right now. My clients had a home inspection that came back with a handful of small to mid-sized issues and they took care of everything that came back on the inspection.

Personally, I am not a fan of turn keys, but they are a great way to get started and even purchase cash flow with limited out of pocket funds because the banks will fund these relatively easy.

First, as far as value, a bank will not lend if the home doesn't appraise for the sell amount (unless you cover the difference.) If purchasing with conventional lending, you will have an actual appraised value which will give you a better idea of your equity position. With most TK products, it will be zero and possibly negative.

Yes, most of my clients who finance homes find themselves in a $1,000-$3,000 annual cash flow after debt service. If you are BRRRR, which means 100% finance instead of 75%-80% that cash flow is more like $500-$1,000/year.

Here's my take:

You will have $16,000 down on the property. If you cash flow $2,300 annually, that's 14.4% ROI. As long as you cash flow at least $1,500/year, you are in good shape.

I would get a home inspection

Make sure you know how your property management works and where they make their money. From my experience, their property management company, Parc, does a pretty good job.

Ensure that you can get the best terms on the loan to figure the best payment possible for your goals.

Lastly, keep that cash flow in the bank. Build up your reserves. Investors who try to live on leveraged cash flow usually end up getting caught with their pants down. Build your portfolio first, pay down the debt, then live on the cash flow.

Larry Fried · Answer

1% rule should be looked at as more of a guidance - something to filter out those investments that don't meet it when looking for cash flow properties.  However you've got to look at the overall expenses - property management, likely turnover costs, property taxes, insurance, etc.  Property taxes and the great variance on these amounts from state to state (and sometimes within the state) can play a huge role.  Current taxes are not necessarily reflective of what future taxes might be, if you are buying what is currently a homestead (owner occupied) assessment in some states such as Indiana and Missouri.

Also, look for properties and PMs that are going to get and keep good tenants.  What is the average tenancy the PM manages.  I look for 3 years or more to cut down on the turnover costs.

Greg Scott · Answer

William:

First off, keep pushing forward.  I'd encourage you to buy something, which will put you ahead of 95% of people.

Next, I wouldn't get hung up on the 1% rule.   All else equal, 1% is better than 0.75%.   However, the problem is that focusing only on that metric tends to drive you to look in worse and worse neighborhoods.  In other words, it is easier to find a 1% property in a war zone than it is in a stable working-class neighborhood.

I would also say it is not uncommon for turn-key rentals to start out returning $200 or so cash flow.   That said, I don't like the numbers you have for vacancy and repair.  I typically use 8% assumed vacancy (which is admittedly a little high) and I found that over a long time all my houses averaged slightly more than $150/mo for repairs.  The number you have is closer to $40.

I'd suggest you look at Jason Hartman's property list.  I had good success with them and on their site you can compare turn key rentals across markets.

Good luck

Tom Ott · Answer

You could always look at other markets or other providers. They may have better options for you. Also, I have never heard of them.