People generally buy an investment property for one of two reasons. Either they are hoping for cash flow or banking on appreciation. I don’t have any delusions about knowing how to time the market so I decided to go for the cash flow approach. I looked at hundreds of properties before I found one that provided the cash on cash return I was looking for.
From what I had read, a 10% cash on cash return was a good target for Portland, Oregon. The market here seemed especially difficult to turn a profit on so I learned to hone in on a few budget breakers beyond the sale price: taxes too high, HOA fees, rent too low and properties with deferred maintenance (lots of stuff needing replaced).
I finally found my diamond in the rough in late 2016. The property was a newer build townhome with two separate living quarters and no HOA. Say what? Yeah, and the realtor who listed it didn't put any of the keywords investors are looking for in the ad. Had they had put any words like "cash flow", "rental", or "legal ADU" it would have been game over. As it was I ran the numbers after it had been up only a day and we put in a full price offer of $250,000. We believed the second unit being functional and legal placed the value closer to $280,000 so already we just jumped into $30,000 in equity.
This google spreadsheet is how I ran my numbers. Feel free to use it and make it your own. It was what made it possible for me to quickly analyze the return on hundreds of properties.
The purchase price was $250,000 and I assumed I would roll 2% of the closing costs into the loan. The closing costs are generally 5% of the total sale price so I assumed the other 3% not wrapped in my loan would be out of pocket.
Investment properties generally need 25% down so with an interest rate of 3.5% I could see I would need around $71k for closing. This townhome could be divided up to be a 2 bed/2 bath and a 1 bed/1 bath. Two bedrooms in the area went for around $1500 a month and one bedrooms for around $900. I included utilities in my rent price and landed on $2,573 per month.
My assumptions
- 2% annual rent increase
- 5% vacancy
- $3,700 for property taxes annually
- $370 per year for insurance
- $500 for maintenance & repairs annually (this is very low because it was a newer unit and my husband and I would do the vast majority of any work needed)
- $4,152 per year for utilities which included water/sewer, gas, electric and garbage
- I added in $3,000 a year cost to borrow. I did that because to get the money for the down payment I did a cash out refinance on my home and $3,000 was much my home’s mortgage raised by.
- Revenue of $2,573 - (Mortgage of $865 + $977 expenses) = cash flow of $612 a month
The annual cash flow looked like it should come out to $7,341 the first year and grow every year after. That made it a projected cash on cash return of 10.32%. That doesn’t include appreciation. The cap rate came out to 6.93%. What’s even cooler is if I wouldn’t have included the cost of borrowing my down payment in the spreadsheet it was telling me I would make a 14.53% cash on cash return.
For my market I felt like it was a home run. Since purchasing the townhome 4 years ago we believe the property is now worth around $350,000 and we have been averaging closer to 14% cash on cash per year. It turns out is was a pretty good buy, however, given the housing laws in Portland that are complicated and burdensome I don't think I'll be buying here again.
I am a novice and learning as I go so if you see any blaringly obvious errors in my numbers or approach please let me know. Thanks!
