All Forum Posts by: Account Closed

Quote from @Account Closed:

Quote from @David M.:

@Jai Reddy @Alex Forest Good point.  I had mentioned cap rates, but thought they had an actual appraisal done for some reason.

@John Roberts if you are referring to the assessed value used by the County/ Municipal tax assessor, then I agree this whole discussion is moot. While assessed values are supposed to be at "fair market value" (at least in the regular ad valorem system), they never are because the numbers are behind (it costs the muncipality to bring in a contractor to help with reassessing). Also, some areas I've found out purposely take only a percentage of the FMV. His comment about 20yr sounds like he used a cap rate or similar valuation system. So, don't "feel bad" about any perceived difference from your assessed value. Residential buyers get hung over this all the time for no good reason.

 Here’s a follow up to the last couple posts. There is confusion in the language used in these posts: 

The "assessed" value is the market value the county puts on the property. The property was assessed when the current owner purchased the property. Let's say the current owner purchased the property 10 years ago for $70k (for simplicity, let's assume the fractional assessment is 100%), so the county would assign property a FMV of $70k. The county typically "re-asssesses" real estate a couple times a decade so the county's FMV would stay at $70k for many many years.

The "appraised" value is determined by an appraiser who would (primarily) use an "income approach" to determine the appraised FMV. In other words, a property's only value is based on the income it generates. It's quite possible that the appraised value is $150k, while the assessed value is only $70k.

In summary, the assessed FMV determined by the county doesn't mean anything to you or the seller and the appraised value is the number you need to be talking about. I don't know which you are using.

All that said, the owner won’t get much money for the property if it is vacant. A new owner would pay higher taxes because the property will be reassessed based on it’s sales price and the new owner would have to put a large amount of money for “tenant improvement” costs for a new tenant to open their business. In other words, a new owner would require very high rent for the deal to make sense. Given your situation, I can’t see that happening, unless the current owner finds someone who wants to buy it and run their own restaurant. Even then, it is still kind of iffy.

Advice: 

1) tell current owner that you will only sign a 5-year lease and that you want two 5-year options or you will walk. 

2) Review your current lease to see what it says about “fixtures”. Fixtures are things that are literally bolted to the building such as the fire suppression hood, walk-in cooler, the bar itself, air scrubbers, maybe the HVAC system. If your lease doesn’t say anything about fixtures, you can remove everything you put into the building (I think). You can just throw the stuff in the garbage if you want. That would make the building worth even less. I feel this is kind of a sleazy thing to do, but the current owner isn’t being very polite.

3) I suggest that you reach out to a COMMERCIAL real estate agent/broker (not your cousin Brock who is a residential agent). Give the commercial broker a couple hundred dollars to give you an unofficial estimate of the property’s appraised value. If the appraised value comes in at $150k, you should buy it.

 Correction: I made it sound like @Jai Reddy and @David M. were confusing the words assessment and appraisal. I meant all the posts above theirs were confusing the two and that Jai and David are correct.

Quote from @David M.:

@Jai Reddy @Alex Forest Good point.  I had mentioned cap rates, but thought they had an actual appraisal done for some reason.

@John Roberts if you are referring to the assessed value used by the County/ Municipal tax assessor, then I agree this whole discussion is moot. While assessed values are supposed to be at "fair market value" (at least in the regular ad valorem system), they never are because the numbers are behind (it costs the muncipality to bring in a contractor to help with reassessing). Also, some areas I've found out purposely take only a percentage of the FMV. His comment about 20yr sounds like he used a cap rate or similar valuation system. So, don't "feel bad" about any perceived difference from your assessed value. Residential buyers get hung over this all the time for no good reason.

 Here’s a follow up to the last couple posts. There is confusion in the language used in these posts: 

The "assessed" value is the market value the county puts on the property. The property was assessed when the current owner purchased the property. Let's say the current owner purchased the property 10 years ago for $70k (for simplicity, let's assume the fractional assessment is 100%), so the county would assign property a FMV of $70k. The county typically "re-asssesses" real estate a couple times a decade so the county's FMV would stay at $70k for many many years.

The "appraised" value is determined by an appraiser who would (primarily) use an "income approach" to determine the appraised FMV. In other words, a property's only value is based on the income it generates. It's quite possible that the appraised value is $150k, while the assessed value is only $70k.

In summary, the assessed FMV determined by the county doesn't mean anything to you or the seller and the appraised value is the number you need to be talking about. I don't know which you are using.

All that said, the owner won’t get much money for the property if it is vacant. A new owner would pay higher taxes because the property will be reassessed based on it’s sales price and the new owner would have to put a large amount of money for “tenant improvement” costs for a new tenant to open their business. In other words, a new owner would require very high rent for the deal to make sense. Given your situation, I can’t see that happening, unless the current owner finds someone who wants to buy it and run their own restaurant. Even then, it is still kind of iffy.

Advice: 

1) tell current owner that you will only sign a 5-year lease and that you want two 5-year options or you will walk. 

2) Review your current lease to see what it says about “fixtures”. Fixtures are things that are literally bolted to the building such as the fire suppression hood, walk-in cooler, the bar itself, air scrubbers, maybe the HVAC system. If your lease doesn’t say anything about fixtures, you can remove everything you put into the building (I think). You can just throw the stuff in the garbage if you want. That would make the building worth even less. I feel this is kind of a sleazy thing to do, but the current owner isn’t being very polite.

3) I suggest that you reach out to a COMMERCIAL real estate agent/broker (not your cousin Brock who is a residential agent). Give the commercial broker a couple hundred dollars to give you an unofficial estimate of the property’s appraised value. If the appraised value comes in at $150k, you should buy it.

CCIM and A-CRE

I’m not sure if this is really relevant to the OP, but when I take out a loan (I only have commercial loans with 5 year terms), I negotiate the renewal cap. One loan’s term is up for renewal next year and the new rate will be lower than current interest rates.

Quote from @Account Closed:

Quote from @Account Closed:

Quote from @Bill B.:

No. I said NOI made it easier to compare businesses. Because the financing will be different for just about every business.

Real estate financing on the other hand will be almost identical for the same property type. (Which most investors stick to.)

When comparing real estate investments some people want cashflow some people want ROI, (even if ROE is more important) almost nobody in the 1-4 SFR market cares about NOI. That's more useful in medium to large multifamily. Where again. The financing costs can vary wildly.

you don’t subtract your expenses from income to see if a property such as a SFH will make money as an investment. How do you calculate your ROI, cash flows, etc?

 @Account Closed so for cash flow I've been calculating my rental income minus everything I take out each month, mortgage if financed, (including PMI, property taxes and insurance), HOA if any, management fees, and everything for my reserve fund(vacancies, maintenance , Capex,. ROI I've been calculating it by assuming it will be financed. So for my total out of pocket I use my down payment, closing costs, rehab costs, attorney fees, points (depending on deal structor) realtor fees(depending on how the deal is structured), inspections(depending on how deal is structured), etc. Any cash that I have to physically take out of my bank before and at closing. For my ROI I then take my annual cash flow/total all in cost. That's how I've been doing it.

Note about vacancy: when you are assessing a property for purchase, you should estimate what you think the vacancy rate will be. After you purchase a property, you don't really think about vacancy because it is seen in your gross income (i.e., if you have a vacant or non-paying unit, your gross income will be less than if all the were occupied and all the tenants were paying rent). In other words, vacancy is not an expense if you already own the property.

Here is an example for how you calculate cash flow and return on investment:
First, you should calculate the NOI: NOI= Gross income - (taxes, interest, reserve deposits repairs, maintenance, landscaping, management fees, your utilities...) NOI does not include mortgage payments and Cap-ex. Cap-ex refers to big, one-off expenses that you pay from time-to-time. In tax terms, Cap-ex is referred to as "improvements" and are added to your tax basis and not your "expenses".
Second, you calculate cashflow simply by subtracting your mortgage payments from your NOI.
Third, you calculate the ROI by dividing the net gain or loss by the total amount you have invested. A monthly ROI = NOI/cash you invested . For example, you buy a property for $100k cash with no mortgage and the monthly NOI is $5k/month.Your ROI = 5000/100000 = 5%. If you borrow 80000k, your ROI would be 5000.20000=25%. Disclaimer: I might be wrong. To me, ROI has no meaning until after I sell the investment. For example, I hold the same property for 5 years and sold it for $125k. ROI would be (5x5000+125000)/amount invested. Scenario 1 with no debt: ROI=(5x5000+125000)/100000=150%. If you borrow $80k, ROI=(5*5000+125000)/20000=750%. Again, I might be wrong because this math is way off from your actual ROI because it doesn't factor in the costs of the sale, which includes cost recovery, capital gains, realtor fees and a bunch of other stuff. I use the internal rate of return (IRR), which is a better, but not exact, measure of your profit than the ROI model I described.

That said, I don't really think about ROI as described above so I might be totally off and this is a good time for someone to correct me.

Quote from @Bill B.:

Yes. Everything except capital costs. (Usually just interest but also PMI or any other cost you wouldn't have if you paid cash.)

@Account Closed that cap-ex items like a new roof, HVAC system… are not used to calculate NOI. However, you should treat monthly contributions to your reserve account, which is ultimately used to pay cap-ex, as an expense.

Quote from @Bill B.:

No. I said NOI made it easier to compare businesses. Because the financing will be different for just about every business.

Real estate financing on the other hand will be almost identical for the same property type. (Which most investors stick to.)

When comparing real estate investments some people want cashflow some people want ROI, (even if ROE is more important) almost nobody in the 1-4 SFR market cares about NOI. That's more useful in medium to large multifamily. Where again. The financing costs can vary wildly.

you don’t subtract your expenses from income to see if a property such as a SFH will make money as an investment. How do you calculate your ROI, cash flows, etc?

It's primarily up to he local code enforcement officer. There are certain issues that will prevent the sale, such as sewer issues, but you should be able to make an agreement with code enforcement that you and not the seller will be responsible for the repairs. 

Quote from @Bill B.:

I was going to say I have $50 that says you included the entire mortgage payment as an expense…it’s not. You need to replace the mortgage payment in your income minus expense calculation with just the interest and taxes, nearly 1/3rd of your payment will be towards principle, which is not an expense. 

But then I re-read your post. For some reason you're trying to figure out NOI? Is there a new guru in town? You're the second or third person to ask about NOI on rental properties this week. NOI has no business in real estate calculations. Net OPERATING income, means the income if you purchased the BUSINESS for cash. So it's easier to compare the business without the financing clouding the comparison.

So…delete NOI from your real estate dictionary/language. But the answer to your question is neither the principle nor the interest count in NOI. So it means nothing if you plan to borrow money.

The confusion might center around the difference between NOI and cash flow. NOI is calculated by subtracting all expenses from the gross income. Debt, i.e., mortgage payments, are NOT considered an expense. Cash flow is the amount of money you put in your pocket and is calculated by subtracting your debt payments from the NOI.

Granted, if one does not take out a loan, NOI equals cash flow. However, if you take out a loan, your cash flow is ALWAYS less than the NOI. It's incomprehensible how one could say NOI "has no business in real estate calculations". I don't think there is anyone on the planet--correction: any OTHER person on the planet--who would buy a property without calculating the NOI.

You indicated that, "it’s easier to compare the business without the financing clouding the comparison". Here, you are saying that it's easier to compare businesses based on their NOIs rather than their cash flows. In other words, NOI is an essential parameter in your real estate calculations.

@Luke Carl  Quote from @Bruce Woodruff:

Yep. I don't use a CAP for my STRs. Just figure out if it will make what you want and go for it......

I see this a lot on the forums and I am puzzled by this thinking. Evaluating any property involves determining if the NOI justifies the purchase price—that's what a cap rate is. Of course, an appraiser won't use an income approach to value a SFH, but the buyer certainly does.