First home purchase - San Diego. Thoughts?

Question

Hello All, 
My wife and I are in escrow on our first home. We plan to live in and remodel over the next two years and sell in 2015 (or rent it, depending on the market). I'm not sure if it's standard practice to include the address in a post like this, so I'll leave it out unless prompted.

The details...
Lake Murray/San Carlos Area of San Diego
2,300sf, 4/3 
500sf master suite above garage
2 car garage
Pool
PP $430,000
expected rehab costs $45K, mostly materials (mid to high-end finishes)
I am a contractor, so I'll be doing most of the work.

I'd be curious to hear from people in San Diego regarding the estimated ARV of this home.

Jon Holdman · Answer

This may well be a great place to live.  Assuming you can afford it, enjoy!

But as an investment, its not good, unless there is more value here than you've given so far.  If $470K the as-is value or the value with your improvements?  You're paying $450K for a house worth $470K.  That's 96% of value.  Given the variability of appraisals, you're effectively paying full price.

Even if its worth $550K after your improvements, you'll just break even if you sell in two years.  6% commissions and another 2% for closing costs means you'll net $506K.  You will have paid $495K plus buying costs of about $9000, so you're into this for about $504K.  That's assuming 10% increase in two years, which is not a bet I'd make.

Now, if you're really thinking of this as an investment, you should already know the ARV, if you're really going to improve it with those upgrades.  Get your agent to pull comps to figure out the ARV.  This is absolutely critical for flipping, and you MUST have a good idea of this number.  You must be pessimistic about the value.  If you find 10 comps and pick the best 3-4, you're fooling yourself.  Drop the lowest one, maybe two and take the lowest ones remaining.

Even in CA, you still need pretty significant margins to make a profit on a fix and flip.  You're living there and will have an OO loan rather than hard money, so money closes are much less.  Still, you need to be below about 80% of ARV for purchase and rehab to turn any significant profit.  That means you need an ARV north of $625K.  Can you get there?

If it will only rent for $2200 its a truly awful rental.  You would need much more rent for this to be a profitable rental.

Steven Straughn · Answer

Hey everyone. I understand your warnings and the pitfalls associated with living in a home while fixing it. My wife and I are in this together, and she is aware of what is involved.

David, our exit strategy is to sell in 2 years, and while I wish we could flip it in 60 days, that's just not feasible for us. Renting it out would be plan B if the market is terrible for sellers in 2 years.

Shari, I'll have to let you know if we manage to keep the house looking good so you can stop by and meet a contractor unlike any you've met before =) And while this might not be an "investment" in the eyes of many on this site, it is in my mind. It will be an investment of time and money that I believe will pay off when we sell. I totally understand your point about having to buy in the same market as we would sell.

Theresa K. - I was encouraged yesterday to see that 6602 Jackson Dr. is pending after 8 days the market. I envision our remodel being as nice, and perhaps a little nicer than theirs in certain areas.

Shari Posey · Answer

I've never seen a contractor's home that looked good. I mean that! They always have a dozen half-done projects because they are always working on other people's homes to get income. Maybe you are different.

I don't see anything wrong with what you are doing but I'm not sure I'd exactly call it "investing." My husband and I have done this BUT when you exit by selling, you will be in the market again to buy and if it went up enough for you to make a tidy profit on the sale, you'll be paying more for the next house. It ended up as kind of a wash but we enjoyed living in the houses.

If you rent it out and have upgraded it really nice make sure you get a good security deposit. Hardly any tenant will keep it as nice as you do. Also, a pool is a liability for a rental.

David Driscoll · Answer

A contractor living in a home while they remodel, YIKES! This like having on foot on a dock and the other on the boat.

Here's the downside, family arguments, divorce, living in half finished projects, not enough time to complete the job, major stress.  I have three contractor friends who tried it.  Not a pretty site.

You need an exit plan.  If you plan on renting it, you don't put high end stuff in a rental. If you don't plan on living in it longer than 2 years, do the job and flip it in 60 days, don't for get the selling cost, real estate commission and escrow about 3.5% of the sale price.  Use the profit from the flip, if there is any,to buy a move in ready home, no work required. Then go find another flip or rental.  A lot happens in 2 years

Jon Holdman · Answer

I misunderstood your question.

Surprisingly low.  I'd expect the lender's title policy alone to be more than that.  Let alone all the other fees title companies and counties seem to come up with and all the fees lenders charge.  I usually figure 2% of purchase price, though it often come is less.  Lender fees (origination fee, appriasal, underwriting fees, etc.) seem to add another 1.5%.  Perhaps you're paying cash, which does eliminate a bunch of fees.

Steven Straughn · Answer

Jon Holdman I appreciate your input and advice. Our purchase price is $430K (not $450K) and our closing costs are about $1800. I determined the ARV to be around $575K, with no allowance for natural appreciation. My profile picture must be pretty bad if I look foolish enough to purchase a home without figuring out the ARV first =) My intent in posting was merely to get other opinions and perhaps meet some BP members in the area.

Additionally, we will be renting one or two rooms to our friends, so we'll have $1000-1300 per month in income.

Daniel Craig - Not sure that I share your optimism, but I hope you're right.

Daniel Craig · Answer

Well According to forecasts, the housing market is bound to go up in the near future. Fed is buying back treasure bills = more cash in the market which indirectly causes people to want to buy and spend more. The housing will surely increase at least by 5% in the near future!

Steven Straughn · Answer

Theresa K. - Steve Babiak is right on the money.

We do not have the capital to pay for remodeling right now, so we plan to work on it steadily over the next couple of years (and hopefully enjoy the home as well). Although, in the interest of being thorough, and in light of the appraisal, I am going to crunch the numbers to see what the numbers would look like if we tried to flip it.

Theresa K. · Answer

Steve Babiak:  good point.  I guess I was thinking that the flips are doing ok in that area right now so he could potentially make $40-50K or more on that deal right now depending on how he improves the property and how much work he does himself.  I'm not a flipper so I don't know if that would be considered a good profit or not.

Steve Babiak · Answer

Sounds like they plan to make it their residence, to qualify under Section 121 of IRC:

http://www.law.cornell.edu/uscode/text/26/121

First home purchase - San Diego. Thoughts?

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