Is this a good deal? Good cashflow but bad neiborhood?

Question

I'm looking at a duplex with crazy cash flow but it's in a really bad neighborhood. Bunch of thieves, dogs, and drug attics running around. Pretty far from any restaurants, markets, and such. But it has 2 tenants in place already, who are paying $900 per unit. Have not had an inspection yet, but expecting to see few problems like needing a new a/c and it's also in a flood zone (with stilt height in place). I remember not to mix personal feelings towards buying an investment property, but I just cannot help myself.

So should I put an offer on a property with crazy cash flow that's in a bad neighborhood and possible problems with the property? I would use property manager since I live in a different state.

Listed $139,500. 20% Downpayment ($27,900).

PITM (Mortgage, Insurance, flood insurance, taxes)= $838

Rent = $1800 (900 per unit) {each tenant has contract until May 2022)

Jennifer Donley · Answer

This is a hard no for me.  Bad neighborhoods are tough  - even if you have the best tenants on the planet, you will deal with things outside your control - violence, break ins, etc. that will cost you money and kill your paper cash flow.

Also in your calculation, you haven't figured in vacancy, maintenance, reserves, property management and owner paid items such as utilities, lawn care, trash.  Add those in and the cash flow on this isn't all that spectacular.  It'd be fine in a decent neighborhood but not nearly enough in a bad one.

Evan Polaski · Answer

@Kevin Jung, others hit on many of these points, but the trap I see many people fall into is underwriting a low end property with the same assumptions as a high end property.

Where is cash flow most commonly eaten up: Capex and tenant turns.  As noted, low quality properties bring low quality tenants. Low quality tenants move in and out more frequently, and generally do more damage to a property than a higher quality tenant.  You may be able to fill the property quickly, so vacancy may look the same, but your turn costs will be much higher, and more frequent.

Capex: lower quality properties will often times have more frequent and larger Capex items.  Roofs, HVACs, gutters, exterior paint, kitchen remodels, bath remodels, etc. A roof on this property will cost the same as a similarly sized roof in a class A area, but if your roof is older, you will have that repair sooner.  Also, and this is clearly an assumption, but class a property owners are often more proactive in addressing issues.  So there is a chance that when the lower end property gets a new roof, it also needs new flashing, and underlayment, which could add substantially to the overall cost.

Now the real kicker: everything in real estate is an assumption.  By nature you are balancing risk.  This property could be in great shape with great tenants, and somehow never be effected by vandalism and break ins.  And if it isn't, you will do much better than the Class A property investment.  But if all the risks you are seeing do come to fruition, you will have made less money for a lot more work and headache than investing in a nicer property.

Drew Sygit · Answer

You NEED to understand that a Class X NEIGHBORHOOD will have mostly Class X PROPERTIES, which will only attract Class X TENANTS, CONTRACTORS AND PMCs and deliver Class X RESULTS.

If it was easy to get Class C & D tenants to pay, Class C & D property values would be higher.

In our opinion, very few PMC's can effectively manage a Class C property and ONLY a local DIY owner who plans to drive by their property 3-5 times/week can make a Class D property actually cashflow.

Marc Ferguson · Answer

Hi @Kevin Jung, if you want to do some extra homework I'd suggest plugging in some numbers into this spreadsheet - https://www.biggerpockets.com/... . I found it in this article Real Estate Analysis 101: How to Analyze Real Estate Deals (biggerpockets.com). This shows you what the potential of that property could be for the term of your loan. Like @Jennifer Donley suggested make sure you add all your other expenses (vacancy, property management, etc) and see if this place really cash flows like you hope it does. Good luck.

Bill Ward · Answer

Is that section 8 guaranteed money? Or are the tenants likely to end up in jail one week, losing jobs, and then not paying?

John Teachout · Answer

Properties in bad neighborhoods will not cash flow "in real life" like they do on paper. I wouldn't recommend buying in this type of area unless you were in the vicinity and could self manage it.

Is this a good deal? Good cashflow but bad neiborhood?

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