All Forum Posts by: Clayton Mobley

@Cindy H. Yes I would agree, you would be better served to sell this property and use the cash to buy one or more leveraged properties that your tenants essentially pay for over time. This is how many many folks get started in REI, selling an appreciation primary home and using the capital to fund down payments.

As for the spreadsheet, I must admit I am not overly familiar with the one Brandon recommends, although he is definitely an amazing resource. I personally do not count income I can't guarantee (appreciation and rent increases) in my return calcs. Ideally, you will benefit from those things, but I always like to make a conservative estimate of my returns and then be pleasantly surprised when the real number is higher. 

I also don't typically take into account tax benefits of rentals in my calcs. If a property produces decent income when you're just looking at the facts of the rental (current rent, maintenance, vacancy, taxes, insurance, P/I), then all those other benefits of REI are just icing on the cake. If the market doesn't go the right way every year, if you can't increase rent, if tax laws change, you still have a solid investment that cash flows (and you've accounted for potential vacancy in your calcs).

If you like I would be happy to shoot you over one of the interactive ROI calc sheets we use for our properties. You can input any data you like so it's pretty useful for analyzing other props. They also include amortization tables for 30yr and 15yr notes, so you can see what your returns will be incl that equity or without it (more of a CoC figure). Feel free to message me any time.

Ok, I don't know about Ca tax laws or financing so please consult someone who does before you pull any triggers. That being said, I'm guessing that, like here, you can get lower interest rates for primary residences than for investment properties, the risk is lower to the lender. If that's the case, then I would say you should sell your old property to benefit from all that appreciation (like you said, it's not as likely to keep increasing as the new place is). I would not use it to pay down your new prop, because if you then turn around and take a HELOC you've just got additional fees to pay and the same amount of debt (more or less ). I'd leverage the new prop just as you laid out ($260k @4.45%) and use the proceeds from the sale of the older, highly appreciated prop, to build a portfolio of leveraged cash flow props. You need to consider how much debt you're willing to take on. But if you have that much cash to work with, you could potentially have a tidy little portfolio of properties that produce better income than the one you currently have.

**Again, please please speak to someone who knows your market, your tax laws, your financing options. General REI strategy is one thing, but those details could render all of my advice totally irrelevant, so make sure you know where you stand before making any moves. **

That being said, if this were me, in the US, I would sell the old prop and use it to build a portfolio of rentals. More diversification, more income, more flexibility long-term. I'm a conservative investor (cash flow over appreciation any day), but I also don't like having capital sitting unused, so at this point in my career (mid-30s) I'm not looking for fully paid properties, I want to leverage my capital to have as many doors as possible and let tenants pay them off, because time is on my side. Like any investing strategy, I will become more conservative as I near retirement. So, consider your risk tolerance seriously before making a decision. You may want to just buy 1-2 props in cash if you're risk averse (again, not sure the prices in Ca for solid B-class rental props) and would rather have more monthly income with no loan risk; or spread that capital across several down payments if you don't need the income now and want to snowball a portfolio over time (my personal strategy). 

Either way, you need to make sure you've done the homework necessary to know where you can get solid returns, stable tenant base, etc. 

Hope some of that was helpful, good luck!

Clayton

The New Property

The new property is a house hack - where you live in a property and rent part of it out. You'd need to prorate the amount of your mortgage that would be funding the rental space in order to know what your rent to value ratio is (how big is this space versus the entire prop?). If you're financing, apply that prorate to your down payment to see how much cash would be invested just in the rental space, then add your rehab budget. You'll need to do the same for all your other prop-level expenses, like taxes and insurance, so the math will be trickier. Since you're buying this prop one way or the other (correct?), the return rate on this basement rental isn't really that important, you're going to be paying that mortgage anyway so anything is better than nothing in terms of rental income. If you only have to put ~$20k or so ($10k plus some pro rata portion of the dp, just guessing) and can get $900 a month, keeping expenses low (you'll obviously manage and keep the place maintained since it is also your house) then your return on that unit will be quite good. 

A rough math breakdown: 

With the loan amount and interest rate you mentioned, assuming similar tax and insurance rates as the current prop, your monthly payment is going to be about $1600. Let's say 20% of that is attributable to the rental unit, that's $320. Add in some maintenance (5%) and vacancy expenses (10%) and let's assume you get to keep a conservative $450 per month. For the year that's net income of $5400, which doesn't include the fact that your tenants are helping to pay YOUR mortgage, which is a major plus. If you put $20k into it, you're sitting pretty at about 27% CoC. Again, I would include the loan paydown since that's free equity in an appreciable property, but we started with CoC so let's stick with it.

@Cindy H. Ok I'm going to take this piece by piece since you're asking a lot of questions and I don't want it to get all muddled.

Your Current Prop

Firstly, Congrats on all the appreciation!! That's fantastic! One question I would have is: what are the capital gains taxes like in CA? If it's anything like the states you could be in a pretty good position if you sold.

Let's assume you hold it, though, just for the sake of this thought experiment. With $1800 a month in gross income, your rent to value ratio is not amazing (about 0.5%), so that's a tick in the Sell column. Since you'll need to put in another $30k to make it rent ready AND have already assumed you'll have some large capex items coming up fairly soon, your investment in this prop is substantial. 

As for your question about CoC, first let me say that it's not my favorite metric for analyzing rentals because it's going to change every year depending on expenses, rent increases, etc and it doesn't include one of the most powerful types of return - equity built up by tenants paying off your mortgage (although in this case that doesn't apply). Typically CoC is used to determine return on the sale of a property, not for annual returns on an ongoing investment. That being said, the CoC calculation includes all of the cash you have invested in the property vs the cash you get out of it. 

So, if you had purchased this as a rental and made a down payment and then let tenants pay off the loan, the CoC would be calculated using that down payment (plus any rehab work you put in, maintenance expenses, closing costs, etc), but not the full loan amount since someone else is paying that. In your case, this was your primary and you paid the loan. The time you rented it was after you paid off the loan, so everything you paid, including interest - and plus the $30k you'll put into it now - is all your cash in the prop for the sake of CoC (this is why the CoC on rentals purchased with all cash is so much lower, more cash in the deal, lower CoC; leveraged purchase, higher CoC).

I would consider also running that number assuming you replaced those capex items now (esp the ones you think only have 5 good years left). My guess is that you won't really like the number you get. Even without that, and assuming you lived in a world where mortgage interest doesn't exist, you're $200k ($170k purchase + $30k rehab) into the prop with only $1100 * 12 = $13,200 in net annual cash flow. That's just 6.6% CoC. Given that the real number will be lower once you take interest and closing costs into account, I think you can do better.

@Cindy H. Can you give us a bit more data on your current property? It;s hard to weigh the options without knowing how viable and investment that prop would be. If you could give us the following, I'm sure the BP community will have some opinions for you ;)

• Value of the current prop
• Estimated Rent Rate
• Estimated Rehab cost
• Would you manage it yourself or hire out?
• What are the taxes on the prop? Insurance?

My gut is that option 1 is more complicated and expensive than it needs to be if the current prop could be a good investment. Since you own it outright, you could always pull equity from it if you really wanted to expand your portfolio asap, but that's a decision you'd need to make based on your finances and ability/desire to carry additional debt.

Feel free to @ me in your response and I'll take another look when you have some data to crunch ;)

@Allison Mueller Awesome post! This is an issue I talk about allll the time because you're right, this term is thrown around like crazy these days and it's hard for new investors to know what they're buying if it's all called the same thing. I've been referring to these two different concepts as 'Capital T' Turnkey (true turnkey), which is a noun describing a specific investment model; and 'lower case t' turnkey, which is an adjective describing any rent-ready prop. 

One point I would drive home for any investors reading this thread who are learning about the turnkey model:

The reason this distinction is SO important is because your long-term returns absolutely DEPEND on it! Two identical properties may look the same, may get the same tenant, may bring in the same gross rent, but the property with new/nearly new Capex items (roof, flooring, HVAC etc) is going to have farrrrr fewer maintenance call outs.

Not only does that keep your maintenance rate low long-term, but you're also more likely to keep that tenant longer. The house that looks great but has aging capex items is going to tire the tenant out, constantly having to have the maintenance guy come out to fix leaks etc. The one that's truly turnkey is going to provide a much better, safer, and more relaxing home for the tenant, which means they'll stay longer. Move out costs are no joke, so whatever you can do to minimize turnover is a huge plus. 

As has been mentioned before, it's not enough just to have the true turnkey rehab, you also need to keep your turnaround time for maintenance call outs you do receive to the minimum. Deferring maintenance is a sure-fire way to end up with a much bigger bill down the road. Real turnkey investments aren't just a product, they're a long-term service.

Again, great post! Love seeing providers adding real value to the forums!

@Jason Foxx

While there is no hard and fast rule about how long you need to hold a property to be eligible for a 1031, most folks agree you're safe with 12-18 months as long as you can prove the stated intent was to hold long-term. Again, as @Mark Creason said, you can get away with exchanging a prop you've held for a short period of time (again, intent must be proven, ie not forum posts about flipping it) but if you have 'unsolicited offers' all the time, the IRS will get wise.

If the property is a vacation home rather than a regular rental prop, there are some stricter rules. You have to hold it for at least 24 months prior to the exchange, must have lived there no more than 14 days out of each year (and less than 10% of the total time it was rented out; ie. if you only rented it out for 30 days of the year, you could only live there for 3 days that year), AND must have rented it to someone else for at least 14 days each year . 

One thing to be clear on, however, is that you MUST have a qualified intermediary in place before you close on the sale of your current property. If one penny of those proceeds touches your bank account, the exchange is void.

Once you cut the check there won't be quite so much work to be done, but like Ali said, that doesn't mean you just stop paying attention. Your provider should make it easy for you to check in on your property's performance, ideally with some sort of online platform so you don't have to call in or wait for an email response. Just like you check on on your 401k from time to time even tho it just sits there in mutual funds year after year, you should periodically check on all your investments, even a fully-managed rental.

@James Wise and @Ali Boone hit the nail on the head: just because it's called 'passive' investing doesn't mean it isn't work!

Do your research, ask specific questions and expect specific answers. Ask for references from folks who are currently invested with the company. Actually call those people and ask them about the experience. Learn about what it looks like to analyze a property and how all the different factors work together to determine the bottom line, learn how the math works and don't take anyone's word for it, do the calcs yourself. Learn about what it takes to make a rental property profitable long-term (yes, long term tenants are great, but you also need solid rehab work and new capex items to keep that maintenance rate low). Ask providers about how long it takes them to deal with maintenance call outs. Ask them how many of their tenants renew leases. Ask about how long the average tenant stays. Ask about average move out costs and if they are included in their maintenance rate. 

It's a lot of physical labor to rehab and rent a property, but it's just as much mental labor to choose someone else to do it for you. Don't skimp on the legwork. Once you determine your top one or two providers, make the trip out to meet them. Look them in the eye, tour the town, look at properties, drive around the neighborhoods at night. It'll cost you a bit out of pocket, but it's an investment in your investment that will be worth it in the long run. 

Like James said, get your own inspection. If the provider balks at that, run away. If the provider only allows cash purchases, run away (they either need the capital from cash purchases that badly that you should be worried about their business model working long term, or they're selling a lower-tier product in the C/D range that is going to be nothing but headache for a first-timer, stick to $50k+ at the very least).

@Michael Gib I understand, your home market limits you in a lot of ways. I agree with @Thomas S. , REI might just not be right for you at this point. If your market makes positive cash flow nigh impossible, you might need to invest in something else passive while you learn the ropes. You mentioned the Vanguard funds aren't available to you, but would you be able to invest in public REITs (like ETFs but comprised of real estate investments instead of stocks)? Those are traded on the on the stock market and are highly liquid, just a thought. You definitely don't want your capital sitting around doing nothing, so if getting less than .5% gross return (your rent to value ratio is .0047) is as good as you can get right now, it's better than nothing. I would suggest maybe looking into other ways to invest in REI that isn't direct ownership. Do folks over there invest in syndicates (many investors pool funds to invest in larger commercial projects)?

One of our co-founders is actually working on a project to help international folks (and US citizens living abroad) invest in the US RE market more easily, so maybe someday soon she'll have a solution for you that can net you a bit more for your money ;)

Good luck!