​D Class Properties - You Get What You Pay For

A buddy of mine recently got into real estate investing. He called me up to tell me he’d found a property in east Kansas City for $9,000. As he told me about the place, his excitement was obvious, but as someone who’s invested in over a hundred properties, I was seriously skeptical.

As if the price alone wasn’t enough to clue me into how this property ranked, the more he told me about it, the more obvious it become that this was a D class property in a D class area. And that, to me, are two very giant red flags.

Let me explain.

Among investors, agents, brokers, and anyone else in the real estate business, there is a ranking system that we all know and use. It goes from A to D, with A being the best and D the worst. Properties are assigned a grade based on their location and the quality of the property in question. Here’s a quick rundown:

A - New or newer, in excellent condition, has modern features, includes amenities, located in great part of town with low crime rate and easy access to entertainment and other attractions

B - 10-20 years old but still in great condition, some remodeling may have been done, located in a good neighborhood with low crime and decent schools, access to local amenities and attractions

C - More than 20 years old, livable but in need of updates and repairs, located in a not-so-great neighborhood

D - More than 30 years old, more or less uninhabitable, neighborhood has high crime rate and poor-performing schools

That’s just an overview of some of the characteristics that are considered in property ranking. There are other details that can factor in to raise or lower a rank, but the classification system as a whole is really just a general way for those in the industry to talk to one another about properties.

Now, back to my story with my investor friend. He was excited about his “great deal” on the $9,000 property, but I knew right away that his “deal” was anything but. Why? Because when you spend $9k on a house, you get what you pay for. Let me say it again: You get what you pay for.

When you’re spending this little on a property, there’s a virtual guarantee that you’re going to spend tens of the thousands of dollars to make that property into what will hopefully be a profitable investment. Whether you’re planning on flipping the house or using a buy-and-hold strategy (as my buddy did), you’re going to spend major bucks to make it livable for the next owners or tenants. I’m talking major repairs in every area - electrical, plumbing, HVAC, roof, flooring, painting, etc. With a D class property that costs $9,000, I promise that all of these areas will need to be addressed.

And in the case of my friend, they did. He spent nearly $70,000 getting that home in decent enough shape to rent it out, and then he quickly discovered that he had a new challenge. Now he had a B/C class home, but he was still in a D area. And finding quality renters for a home in this location is no easy task.

Every applicant he had raised a warning flag, but the longer he went without a lease, the more money he lost. So finally, he decided to lease the home to a tenant who he believed to be the least risky.

Boy, was he wrong.

The first month, he got his rent on time and he was feeling pretty good. He had stopped by to ensure that the tenant had everything he needed, and the place was in decent shape. My friend was relieved.

The next month, he got a text from the tenant saying the rent would be a day late. ‘No big deal,’ my buddy thought. That day passed, and the next day, there was still no rent check. He called the tenant, got an apology and a promise he’d have it the following day.

At this point, you can probably guess what happened next. The rent wasn’t paid that day either, or the next. Finally, my friend got a payment, but by then he was already realizing what he was in for.

To make a long story short, each month the rent was late or only partially paid. And when my investor friend when to check on the property a couple months later, it was in a completely different state than it had been on his previous visit (i.e., it was trashed). After dealing with this for 7 months, he decided to the evict the tenant, a costly and stressful process on its own. By the end of his first year of ownership, my friend was ready to sell. The expense and stress of managing his $9,000 D class property was too much.

So what’s the moral of this story? There are a couple, actually.

1. When you buy a D class property, you usually get what you pay for. The cost of maintaining and managing such a property is usually more than most investors plan for, and all too often, they lose money in the end.

2. If you do decide to invest in this property type, you MUST prepare for it, financially and mentally. You also must be up to the task of managing a high maintenance property and low quality tenants. You’re going to have to be tough and not afraid to stand your ground.

My advice for anyone who isn’t up to #2 is this: don’t invest in this type of property, even if you can get it for a steal. Choose a C or B class piece of real estate instead. You’ll pay more, but you’ll likely save money and you’ll certainly save a lot of stress in the long run.