All Forum Posts by: Chris Farinella

@Chris Farinella as @Drew C Grossman a lot of it boils down to: rent does not increase proportionately to the price of the property.

Why does rent not increase proportionately with the price of the property?

Some of it has to do with the fact that the market for a higher priced property is fundamentally different than the market for a lower priced property.

For instance, let's say you had a very expensive rental that you were trying to rent for $10k/month. If someone can afford $10k/month rent, they probably also have the money to buy a pretty nice property (and many do)--making it harder for you to find a tenant. 

Also, the higher the rent, the smaller the tenant pool of people who can afford to pay that rent--again, making it harder for you to find a tenant. ...and there's a point where a rent price is so high that it becomes  impossible to place a tenant. 

These factors help create a ceiling effect--where, no matter how much the house is worth, there's a limit on how much you can charge in rent.

And, as you mentioned--if leverage is involved, the debt service of a more expensive property often overshadows how much you can charge in rent.

These factors contribute to rent not increasing proportionately with the price of the house (and there are probably other factors too, that I'm just not thinking of at the moment...haven't had my coffee yet).

Having said that, there are some extremely niche markets with rental properties that cater to multi millionaires, and which are extremely expensive (certain areas of LA, for instance...probably the French Riviera --where there are probably lots of transient tenants worth tens or hundreds of millions)...but, those types of markets are obviously the exception to the rule...

Good luck out there!

Hey @Chris Farinella this is a great question. 

Let’s start with a basic example …and assume we are paying cash. I’m going to use markets in Florida as an example.  

You have a $200,000 house in Central Florida that rents for $2,000 a month..2,000 / 200,000 = 1% a month in gross rents. 

You have a $400,000 house in Tampa that rents for $3,000 a month …3,000 / 400,000 = .75% a month in gross rents

You have a $900,000 in St John’s County, Jacksonville that rents for $5,500 a month …5,500 / 900,000 = .61% in gross rents.

Notice that the higher price point you get..the lower the rent / price ratio…making farther away from a 1%+ deal

Let’s assume that in this market taxes and insurance combined is 2% of purchase price per year. 

$200,000 x 2% = $4,000 
$24,000 yearly rent - $4,000 = $20,000 $20,000 NOI / $200,000 purchase price = 10% cash on cash return.

$400,000 x 2% = $8,000 
$36,000 yearly rent - $8,000 = $28,000 $28,000 NOI / $400,000 purchase price = 7% cash on cash return.

$900,000 x 2% = $18,000 
$66,000 yearly rent - $18,000 = $48,000 $48,000 NOI / $900,000 purchase price = 5.3% cash on cash return.

**not factoring in PM expense or reserves**

Adding leverage can also boost returns and this example above will hold true with financing when comparing apples to apples cost of capital. 

So why is the cash flow less in the higher side of the market? Simple ….for every $100,000 increase in price point the harder it gets to achieve that additional $1,000 in monthly rent. I am speaking very general with a long term rental approach as I know creative / short term rentals can fetch more rent. 

Also a majority of the demand for homes at higher price points are people who are owner occupants which buy homes not because it’s an investment but because they need a place to live. This can drive up price …

In most markets you have a balance of appreciation vs cash flow and you are usually sacrificing one for another…however not in all cases as the goal is to find markets with healthy amount of both!

 The primary reason why lower value homes tend to have a greater cash flow than higher value homes in Los Angeles is because of the cost of housing. In Los Angeles, there is a high demand for real estate, especially in the luxury market. This drives up prices and makes it difficult for lower income families to purchase more expensive properties. As a result, people are forced to seek out cheaper housing options that are still within their budget. These homes may not be as luxurious or desirable as more expensive properties but they offer an opportunity to generate positive cash flow from rental income while providing a place for people to call home. Additionally, these lower priced homes often come with lower taxes and maintenance costs which further increase their net worth potential. Therefore, if you are looking to invest in the Los Angeles real estate market, it may be beneficial for you to look into lower value properties that can help you generate a steady stream of rental income.

Leona 

@Nick Filer

I only had 30k in savings when I started 7 years ago. Lol. 50k is more than enough.

As the author of the book, I'll chime in...

If you're looking for an accurate list of prices for various renovation tasks and components, the pricing the book is likely outdated for most areas.  A lot of people are asking if I plan to do a revision in the near future, and the honest answer is, until the market settles down and inflation is under control, any pricing speculation is going to be out of date pretty quickly.

All that said, the main purpose of the book isn't to list prices for things. The main goal of the book is to teach the methodology for looking at a property, completely inspections, determining what needs to be renovated, creating a scope of work, and then using that scope of work to get real life bids on both labor and materials.

And that content is not at all impacted by economic conditions or changes in the market.

For anybody looking to learn the methodology behind estimating rehab costs and learning the process so that they can start estimating their own projects, the book is as great as ever.

But I would certainly take the pricing estimates with a grain of salt these days.