All Forum Posts by: Eric Fernwood

Hello @Jason Mak ,

Back to your original question on where to invest. Comparing properties in different locations is not as simple as simply comparing ROI. You need to compare return (including the major location specific costs) plus the significant risks specific to each area. For example, the major location specific costs and risks might be as follows (not ranked):

Location Specific Costs:

• State income tax
• Property taxes
• Landlord insurance

Location Specific Risks:

• Eviction
• Population
• Job
• Maintenance

Costs

To show the impact of differing state income tax, property taxes and landlord insurance costs I will compute cash flow for an identical property in three different locations. The formula I will use is below. Note that I find cash flow much more informative than ROI. I can't deposit "ROI", but I can spend the net cash (cash flow) I receive from the property. However, if you include all the costs in an ROI calculation (ROI = (Rent - RecurringExpenses)/(AcquisitionCost)), ROI will work as well.

Cash Flow = (Rent - DebtService - ManagementFee - Insurance - PropertyTaxes - PeriodicFees) x (1 - StateIncomeTaxRate)

Below are the details on the example property I will use:

• Purchase price $150,000
• Rent: $1,000/Mo.
• Financing: 20% down, 4.5% interest, 30 year term.
• Down Amount: $30,000
• Debt Service (PI): $600/Mo. Interest portion of first payment: $450
• Periodic fees: $0 (for simplicity)
• Management fee: 8%
• Rehab cost: $0 (for simplicity)
• Closing cost: 0% (for simplicity)

Below are three cities with state income tax rates, property tax rates and landlord insurance costs:

Data Sources for the above table:

1. State income tax source.
2. Property tax source.
3. I used homeowners insurance rates to approximate landlord insurance cost. Normally, landlord insurance is 10% to 20% more than home owners insurance.

Calculating property cash flow for each of the three cities:

• Austin: Cash Flow = $1000 - ($600 + 8% x $1,000 + 1.88% x $150,000 / 12 + $1,625 / 12 + $0) x (1 - 0%) or –52/Mo.
• Indianapolis: Cash Flow = $1000 - ($600 + 8% x $1,000 + 1.07% x $150,000 / 12 + $802 / 12 + $0) x (1 - 3.4%) or = 119/Mo.
• Las Vegas: Cash Flow = $1000 - ($600 + 8% x $1,000 + .086% x $150,000 / 12 + $710 / 12 + $0) x (1 - 0%) or = $152/Mo.

Summarizing the above:

The lesson here is that you must consider all the major cost drivers when you are comparing properties in different locations.

Location Specific Risks

I listed typical location specific risks earlier and repeated the list below for convenience.

Location Specific Risks:

• Eviction
• Population
• Employment
• Maintenance

Risks are hard to put into numbers and some risks concern the rental market changing over time. Below is a brief description of each risk item.

Eviction

One of the largest unplanned expenses you may face is evicting a non-paying tenant. I have clients from many states and have heard a lot of horror stories. For example, I understand that in California, if a tenant knows what they are doing, it can take up to a year to evict them. In other areas, if the tenant is over 65 or has a medical condition, evicting them can be almost impossible. In comparison, typical time to evict a tenant in Las Vegas is less than 30 days and typically costs less than $500.

Population

If people are moving out of the area (urban sprawl or moving to another city), housing prices and rental rates tend to fall. If people are moving into an area, housing prices and rental rates tend to rise. Here is a website that shows population shift by county. This level of data is great for metro areas but might not provide sufficiently accurate data for a specific location within a metro area.

A metric you can use for a specific location is historical home sales prices. Renters and home owner come from essentially the same pool of people so if property prices are falling it is usually because there is less demand for properties in that area. If there is less demand to purchase homes there will be less demand to rent homes so rental rates will also decline.

Another factor to consider is median age of the population. As people reach retirement age they tend to have less disposable income and desire smaller and easier to care for homes. So, if you buy a property targeted at families in an area where the “family aged” population is decreasing due to aging (even if the total population is stable), you are going have a serious problem in a few years.

Employment

In many parts of the US, manufacturing and similar high paying jobs are vanishing and what remains are service sector type jobs. These jobs tend to pay less so the families of these workers have less disposable income. Less disposable income means they cannot afford to pay the same level of rent as they did in the past. If this is wide spread then property prices and rental rates will decline.

A metric you can use is inflation adjusted per capita income. If you see a falling inflation adjusted per capita income, you need to carefully consider the long term risk associated with buying a property in that location property.

Maintenance

Some of the major factors for maintenance are:

• Age of the property - the older the property, the more maintenance it will require.
• Climate - Moisture and temperature are both major factors. Properties in areas with significant hard freezes and rain will tend to have more maintenance than in milder and dryer areas.
• Construction - Construction plays a big part in maintenance costs. For example, if the home has a brick or stucco exterior, it will have less maintenance than conventional siding. A composition will require more maintenance than a tile roof.

I hope that the above provides some insight into comparing properties in different locations.

Hello @Justin Foley ,

I agree with @Robert Adams concerning being very careful with hard money loans. The few that I have seen are very expensive. The terms on the last hard money loan one of my clients did was 5% closing costs, 40% down, 10% interest rate and the life of the loan was 18 months. Hard money loans vary significantly so the numbers you get might be completely different.

I am a Realtor in Las Vegas and the majority of my business is remote investors. I look at the Las Vegas market every day and I see very few properties that can be flipped profitability. Unless you really know what you are doing you can lose a lot of money flipping. But, if you are inclined to try, below is a process that I have used and worked for me and I believe will work for anybody.

Once you find a property that you believe has flip potential, take the time to really think the entire process through with a spread sheet. Start with what you conservatively believe the property will sell for if it is brought to market standards (more on market standards later). Do not be optimistic on the eventual sale price or time to sell; be very conservative. Once you are reasonably confident about the sale price and how long it will take to close once the rehab is complete you are ready to work backwards to the maximum you can offer for the property.

Work Backwards to Make Money

As an example, suppose you find a property that looks like a good flip. You carefully study recent sales comps and decide that, remodeled to market standards, the property should go under contract for $200,000 within 60 days after the rehab is complete and it is placed on the market. And, your trusted contractor conservatively estimates it will cost $40,000 and take 2 months to bring it to market standards. Since profitable flippers are pessimists, estimate the total rehab will cost $50,000. Your hold time will be:

As to profit, suppose you will be happy with a 10% return. So, your goals are:

Also during your due diligence you learned that the real estate tax rate is 1%, property insurance is $450/year, purchase (closing) costs are 3% and cost of sales (commissions, closing costs, etc.) will be 8%. I put these numbers in the table below:

Now that we have an (over simplified) estimate of the total cost, we can work backwards from the probable sales price to determine the maximum price we can offer.

Based on the above, you cannot pay more than about $110,000 for this property if you are going to make money. Yes, you can probably reduce cost of sales and perhaps other numbers but you cannot significantly reduce rehab costs and there will always be surprises which will burn you if you do not have sufficient funds set aside.

Flip Considerations

• Typically, lenders will only finance properties that are already livable so financing damaged properties can be a challenge. Talk to a knowledgable lender about 203k loans. Contact me if you need a recommendation. You need to get this nailed down before you even start looking.

• You may have noticed that I used the phrase "market standard" multiple times. There is a common erroneous belief that if a property is "really improved" it will sell for more than what similar homes have sold for. This is never true. If similar homes are selling for $200,000, even if you put $100,000 of "improvements" into the property, it will not significantly increase the sales price. One of the biggest challenges for new flippers is the tendency to remodel the property to their taste as oppose to rehabbing to market standards. If similar homes are selling for $200,000 with vinyl floors, travertine tile will not significantly increase the sales price. You need to really know what characteristics made similar properties sell and not go much beyond that. Cost control during the rehab is critical. Of course, there are small things that can make the property much more desirable to potential buyers without spending a fortune. For example, ceiling fans in the master bedroom and family room, improving the curb appeal and the front entrance area, fresh paint, etc.

Justin, I hope the above helps. Flipping can be a profitable business but only if you really know what you are doing and you have a well thought out plan. Be careful and good luck.

Hello Atlan,

Both my business partner and I are former residents of Singapore and a lot of our clients are foreign nationals. Below are the answers to the most frequent questions we receive. If you have concerns that are not addressed below, please contact me and I will promptly respond. My contact info is at the bottom of this page.

Q: Can I buy property in the US even though I am not a US citizen or a permanent US resident?
A: In general, anyone can buy any property you wish in the US with the exception of certain classes of properties such as major dock facilities, airports, etc.

Q: Can I buy investment property?
A: Yes, most of my clients are doing just that. The idea is to buy a property, rent it out for a few years and then use it as a vacation/retirement home later.

Q: If I buy an investment property, how can I manage it from another country
A: We only have one client that lives locally. All the others live in other states or countries. None of my clients manager their properties, not even the one who lives here. It is not something an investor should do. Leave property management to an expert. Typical fees are 8% of collected rent.

Q: How much does a typical investment property cost?
A: Most of my clients are buying three bedroom single family homes in good areas priced around $USD150,000 to $USD200,000. The property situation is very different here; there are very few of the high-rises as there are in Singapore.

Q: What kind of return can I reasonably expect?
A: At this time cash buyers are averaging 5% to 8%.

Q: Will owning a property in the US change how long I can stay in the US?
A: I have no knowledge of immigration law so you need to check with someone practicing in this field. In general, I believe that it does not affect how long you can stay in the US.

Q: Will I have to come to the US to close?
A: No. We have Chinese and others buying properties and none have come to the US for closing.

Q: Do I need to get a US tax ID?
A: It will make life easier. We have TIN (Tax Identification Number) which is about the same as the Singaporean UEN. I can provide the process for getting a TIN. If you do not have a TIN, the property manager will generally hold back 20% of your income for taxes.

Q: How is remittance handled?
A: Generally, rents are due on the first of the month and your funds will be wired to your account by the property manager on the 10th. All you need is to provide the routing number and account number of your account (at DBS or whatever bank you trade with).

Q: How do I handle paying property related bills?
A: Most property managers will handle paying property taxes, association fees, etc. You do not need a US account. If you feel the need to have one, both Bank of America and Citibank both have offices in Singapore. I occasionally did business at the Bank of America on Collyer Quay.

Q: Can I finance properties or do I have to pay cash?
A: It is possible to get financing but I would need to check. 

I do miss seafood at Newton Circus!

...Eric

Hello @Raghav Haran ,

I recently posted a detailed response to a question very similar to yours. Hopefully you will find it helpful.

http://www.biggerpockets.com/forums/12/topics/159951-advise-for-starting-an-out-of-state-buy-and-hold-investing-portfolio?page=1#p1074148

Hello @Kelley B. ,

General market metrics will tell you little about whether you can make money flipping. You have to evaluate each opportunity on its own merits. Once you find a property that you believe has flip potential, take the time to really think the entire process through with a spread sheet. Start with what you conservatively believe that the property will sell for if it is brought to market standards (more on market standards later). Do not be optimistic on the eventual sales price or time to sell; be very conservative. Once you are reasonably confident about the sales price and how long it will take to close once the rehab is complete you are ready to work backwards to the maximum you can offer for the property.

Work backwards to make money

As an example, suppose you find a property that looks like a good flip. You carefully study recent sales comps and decide that, remodeled to market standards, the property should go under contract for $200,000 within 60 days after the rehab is complete and it is placed on the market. And, your trusted contractor conservatively estimates it will cost $40,000 and take 2 months to bring it to market standards. Since profitable flippers are pessimists you estimate the total rehab will cost $50,000. Your hold time will be:

As to profit, suppose you will be happy with a 10% return. So, your goals are:

Also during your due diligence you learned that the real estate tax rate is 1%, property insurance is $450/year, purchase (closing) costs are 3% and cost of sales (commissions, closing costs, etc.) will be 8%. I put these numbers in the table below:

Now that we have an (over simplified) estimate of the total cost, we can work backwards from the probable sales price to determine the maximum price we can offer. 

Based on the above, you cannot pay more than about $110,000 (Break-Even Price) for this property if you are going to make money. Yes, you can probably reduce cost of sales and perhaps other numbers but you cannot significantly reduce rehab costs and there will always be surprises which will burn you if you do not have sufficient funds set aside. 

Flip considerations

• Typically, lenders will only finance properties that are already livable so financing damaged properties can be a challenge. Talk to a knowledgeable lender about 203k loans and possibly HomePath. You need to get this nailed down before you even start looking. The alternative is cash or a hard money loan. The terms on the last hard money loan one of my clients did was 5% closing costs, 40% down, 10% interest rate and the life of the loan was 18 months. Hard money loans vary significantly so the numbers you get might be completely different.
• You may have noticed that I used the phrase "market standards" multiple times. There is a common erroneous belief that if a property is "really improved" that it will sell for more than what similar homes have sold for. This is never true. If similar homes are selling for $200,000, even if you put $100,000 of "improvements" into the property, it will not significantly increase the sales price. One of the biggest challenges for new flippers is the tendency to remodel the property to their taste as oppose to rehabbing to market standards. If similar homes are selling for $200,000 with vinyl floors, travertine tile will not significantly increase the sales price. You need to really know what characteristics made similar properties sell and not go much beyond that. Cost control during the rehab is critical. Of course, there are small things that can make the property much more desirable to potential buyers without spending a fortune. For example, ceiling fans in the master bedroom and family room, improving the curb appeal and the front entrance area, fresh paint, etc. 

Kelley, I hope the above helps. Flipping can be a profitable business but only if you really know what you are doing and you have a well thought out plan. Be careful and good luck.

Hello @Max Balesteri,

You are way ahead of many investors in your thought process. Especially on these points:

• Cash flow is what matters
• Excellent property management is critical
• Buy where you can get good properties
• MF or SFR, it does not matter as long as they cash flow

Keep in mind that cash flow (or ROI) is really only a snapshot of market conditions today but real estate is a long term investment, at least 7 to 10 years. You need to look at longer term area trends as well as taxes and rental related legislation. I will talk about these topics later.

The criteria I recommend that you use to evaluate each potential property are:

• It is located in an area likely to appreciate over time
• It is highly likely to have sustained profitability
• Located in an area with real estate investor friendly taxes and legislation

The process I recommend is illustrated below:

Favorable Population, Employment and Crime Trends

The old adage that the three most important things in real estate are location, location, location is still true but areas change over time. Areas that are good today can decline and sometimes areas that were once bad get better. Is it possible to accurately predict what an area will be like in 15 or 20 years? No, but you can make a reasonable guess as to what an area will be like in 5 years and extrapolate from there. Three indicators I think you should evaluate are population migration, job stability and quality, and crime.

Population Migration

If people are moving out of the area, the housing prices and rental rates are likely to fall. If people are moving into an area, then there is likely to be appreciation and rising rents. Here is a website that shows population shift by area. Also, many areas have populations that are getting older. As people age they tend to want smaller properties and lower rents. If you are considering a property targeted towards families and the area is aging, you will likely find demand decreasing. So, also check the population demographics.

Job Quantity and Quality

In many parts of the US, manufacturing and similar jobs are going away and what remains are service sector jobs. Service sector jobs tend to pay less than manufacturing jobs so the families of these workers have less disposable income. Less disposable income means that they cannot afford to pay the level of rent they did in the past. Look at the major employers, what industries they are in and their future prospects. A key indicator is inflation adjusted per capita income over the past few years. If you see a declining per capita income adjusted for inflation, you need to carefully consider the long term value of the property. You have to be careful on inflation adjusted numbers. There is reality and "official" numbers. Official inflation during 2014 is 1.7%. However, “official” inflation numbers do not include energy or food. Personally, I use energy and eat so the inflation I experience is much higher than the “official” number. Depending on whose numbers you use, actual inflation is between 6% and 10% per year. Keep in mind that unless the per capita adjusted income is rising at or greater than the rate of actual inflation your potential tenants disposable income is eroding. What this means is that if you buy a property that rents at the upper end of the rent range, you will likely have increasing time-to-rent and declining rental rates over time. 

Crime

Stable or increasing property values and rents rarely occur in areas with high crime. When crime increases, people with sufficient income move to areas with lower crime. The people who cannot afford to move tend to have lower incomes thus resulting in falling rents and property values. What you need to consider is the types and frequency of crimes in the area and how it is changing. Where can you find such data? Here are some sites: crimemapping.com, homefacts.com, crimereports.com and spotcrime.com. Depending on your city/area you may have such data available from the local police department or the sheriff's department. Remember that it is not just crime in the specific neighborhood that matters, you also have to consider areas near the property where people will shop and such. For example, I was evaluating a property in an area that I did not know well so I used Google Street View to check the drive path to the property. I noticed a strip mall near the property where I anticipated tenants would shop. When I checked that location on one of the crime sites I discovered that robberies and assaults occur frequently at the strip mall and that the situation appears to have been the same for the past few years. I rejected the property based on these findings. So, check the shopping areas that tenants would use. You should also check the sex offender database. See familywatchdog.us but there are likely many others. Some states/counties/cities have their own sex offender/crime websites. 

Favorable State Income Tax, Property Tax and Legislation

State Income Taxes and Property Taxes

State taxes and property taxes are another big factor to consider since their impact on your real return can be huge. For example, suppose you are considering three identical properties that rent for the same amount (yes, this is an over simplified and contrived example!). And, one is located in Austin, one is located in Indianapolis, and one is located in Las Vegas. Which one is better? Below is a table showing approximate state personal income tax (I will assume a person filing separately with a $50,000 income) and property tax rates for all the cities. (Note, please forgive me if I am off on the values. My goal is to communicate a concept, not accurate math.) Note: Property taxes source and state income tax source.

Below is a (oversimplified) formula for estimating cashflow assuming 100% occupancy, no maintenance, etc. in order to keep the numbers simple. The property details are:

• Purchase price $150,000
• Rent: $1,000/Mo.
• Financing: 20% down, 4.5% interest, 30 year term.
• Down Amount: $30,000
• Debt Service (PI): $600/Mo

Cash Flow = Rent x 12 - DebtService x 12 - PropertyTaxRate x PurchasePrice

And, to take into account state taxes:

Net Cash Flow = (Rent x 12 - DebtService x 12 - PropertyTaxRate x PurchasePrice) x (1 - StateTaxRate)

For Austin: ($1,000 x 12 - $600 x 12 - 1.9% x $150,000)x (1 - 0%) = $1,950/Yr

For Indianapolis: ($1,000 x 12 - $600 x 12 - 1.07% x $150,000)x (1 - 3.4%) = $3,086/Yr

For Las Vegas: ($1,000 x 12 - $600 x 12 - 0.86% x $150,000)x (1 - 0%) = $3,510/Yr

In summary:

Real return is about how much money actually flows to you, not gross rent or ROI. Property taxes and state taxes have a big effect on the real return.

Legislation 

Legislation concerning tenants and rent vary by state, county or city and can have a huge impact on your return. One example is evictions. Clients have told me that in California, if the tenant knows what they are doing, it can take up to 1 year to evict and cost thousands. In Las Vegas, the time to evict is typically less than 30 days and usually costs less than $500. 

Location, Type, Configuration and Rent Range

Where can you get highly detailed information on the best rental property type, location, configuration and rent range in any area? Local property managers. Most new investors think of property managers as someone to collect the rent after they buy a property. I strongly disagree with this view. I consistently find properties for my clients that meet the dual goals of profitability and appreciation through processes and an investment team. The key member of any real estate investment team is the property manager. (I am a Realtor; I do not manage properties.) Below is a diagram showing four categories where a good property manager can help you be successful. Your initial interviews with three or four property managers will concern their local knowledge of: type, location, configuration and rent range.

Below is more detail on this four characteristics.

• Type: Condo, high rise, single family, duplex, single story, two story, etc.
• Configuration: Two bedroom, three car garage, mud room, etc.
• Location: Usually a very specific area. For example, west of 23rd St and south of the river, etc.
• Rent Range: If the majority of the population to which you want to rent are willing and able to pay $1,000/Mo to $1,300/Mo. you should only be looking at properties that you can purchase, rehab and profitably rent in the same rent range.

Start by telling each property manager that you are just starting out and are looking for a property manager to work with. You need to have a well defined list of questions before you start interviewing and ask the same questions of three or four property managers. (I have a set of property manager interview questions that I'd be happy to share.) After these interviews you will have a pretty good idea of the local market and you may even have an opinion whether any of the property managers you talked to are people you would like to deal with in the future. Once you have a reasonable idea of type, location, configuration and rent range (which I call a property profile), you are in a position to determine whether you can achieve the other goal: profitability. 

Once you know the property profile you can use Zillow (or many other sites) to determine the typical sale price of properties in that local. With a reasonable knowledge of the rent and price of typical properties, you need to determine whether you can make a profit. In my practice I am almost constantly making what I call an investigate/forget decision. I do this so often that I created an online tool which enables me to instantly estimate a break-even price (where rent equals recurring expenses). Below is a screen shot of the tool. (I'm also happy to share it. There is no charge or obligation for using the tool.)

In the example above I entered the estimated rent and other factors and tapped Estimate. The result is that if the property were purchased for $185,000, the rent ($1,200/Mo.) would equal the recurring costs (debt service + taxes + insurance + property management fees + monthly fees). This means that if I thought I could get the property for $165,000 I would investigate further. If I thought I would have to pay $185,000 or more for the property I would forget this one and look for another. Remember that this tool is only for making a quick investigate/forget decision, not a purchase decision.

If you cannot make a profit, look somewhere else. Once you find a place that looks to have good potential, get the name of a local Realtor from the property manager(s). Tell the Realtor what you are looking for (type, location, configuration) and have her/him send matching properties. This is important: many people think that Realtors know how to choose investment properties; very few do so you have to provide the criteria.

If you see a few properties you like send them to the two (or three) best property managers and get their opinion as to the property in general (will it make a good rental) and what is their estimate on the rent and time to rent. The answers from the property managers should be close. If everything looks good, I would travel to that location and meet with the property manager and the Realtor. These are the people who will be responsible for one of the more expensive assets you will own and you need to evaluate them and see some properties. 

Max, let the numbers be your guide; do not start with a pre-conceived technique, property type or location.

I wish you the best.

Hello @Travis Avenarius ,

I believe that you must first understand what team members you need and what responsibilities each team member has before developing interview questions. I am a Realtor in Las Vegas and my practice is almost exclusively remote investors. My primary team members include the following:

• Property Manager
• Realtor (my partner and I)
• Inspector
• Investor (the client)
• Contractor

The property manager is THE key person but I will provide a brief description of the duties for each. Will you occasionally find an individual who has more skill categories than what is shown below? Yes. For example, we developed software and processes for finding good properties; we find the properties for our clients. So, take the following as a general guideline, not a rule. 

What to Expect from Team Members

Property Manager

The property manager is the key member of any investment team. Below is a diagram showing the roles they play in each phase of the investment life cycle.

Realtor

Most Realtors know little about selecting investment properties. However, they know what sells and what does not as well as local economic conditions. And, what motivates people to buy are the same motivations to rent. They also have the best understanding of changing conditions in the local market. And, last but most importantly, they are the ones who ensure that you have a safe and secure transaction. They know the laws and regulations concerning buying properties.

Property Inspector

The property inspector I work with has saved me and my clients from buying potential disasters many times. For example, in a recent purchase he detected that something was wrong with the tile roof. To make a long story short, the seller put a new roof on the house before close of escrow. If the inspector had not called out the potential roof problem, my client would have been faced with an unexpected $12,000 expense in the near future.

Investor (You)

Your job is to lead the team but it would be a very incompetent leader that did not listen to their trusted advisers. It is also your job to ask only what each team member can realistically provide. For example, you would not ask your Realtor to quote on replacing the roof on a property. That is the job of the contractor. So, do not expect the Realtor to select good investment properties. That sort of knowledge comes from the property manager. Also, do not expect the property manager to estate profitability, that is your job.

Contractor

The contractor is the person to tell you what something will cost and what are the risks. For example, carpets, paint, window treatments, appliances have virtually no risk. Mold, bad plumbing, bad electrical, structural damage can all be high risk items. 

The Key Team Member Element

Integrity is THE critical characteristic for all investment team members. The reason integrity is so important is that there is no way to write an agreement which will ensure that the team member will do what is actually needed for you to be successful. Saying this another way, there is the "letter" of an agreement and there is the "spirit and intent" of an agreement. A person with integrity will consistently carry out the spirit and intent of the agreement. A person without a deep sense of personal integrity can usually be relied upon to carry out the letter of the contract most of the time which simply is not enough. Never associate with or deal with anyone who is not a person of high integrity.

I have a set of property manager interview questions which I'm happy to share with you (or anyone else) if you are interested.

Travis, I hope the above helps get you started.

Hello @Matt Mahony ,

If your goal is achieving financial freedom as quickly as possible, there may be a better solution than multi-unit apartment complexes in the midwest. I see nothing wrong with multi-unit apartment complexes or any property type or location as long as every property meets the following criteria:

• It is located in an area likely to appreciate over time
• It is highly likely to have sustained profitability
• Located in an area with real estate investor friendly taxes and legislation

The process I recommend is to start with the location and then progressively narrow your focus down to specific properties. 

Location

The old adage that the three most important things in real estate are location, location, location is still true but areas change. Areas that are good today can decline and sometimes areas that were once bad get better. Is it possible to accurately predict what an area will be like in 15 or 20 years? No, but you can make a reasonable guess what an area will be like in 5 years and extrapolate from there. Three indicators I think you should watch are population, crime and job stability.

Population Migration

If people are moving out of the area, the housing prices and rental rates are likely to fall. If people are moving into an area, then there is likely to be appreciation and rising rents. Here is a website that shows population shift by area. Also, many areas have populations that are getting older. As people age they tend to want smaller properties and lower rents. If you are considering a home targeted towards families and the area is aging, you will likely find demand decreasing. So, also check the population demographics.

Crime

Stable or increasing property values and rents rarely occur in areas with high crime. People with sufficient income move from areas with high crime to areas with lower crime. The people who cannot afford to move tend to have lower incomes thus resulting in falling rents and property values. What you need to consider is the types and frequency of crimes in the area and how it is changing. Where can you find such data? Here are some sites: crimemapping.com, homefacts.com, crimereports.com and spotcrime. Depending on your city/area you may have such data available from the local police department or the sheriff's department. Remember that it is not just crime in the specific neighborhood that matters, you also have to consider areas near the property where people will shop and such. For example, I was evaluating a property in an area that I did not personally know so I was using Google Street View to check the drive path to the property. I noticed a strip mall near the property where I anticipated tenants would shop. When I checked that location on one of the crime sites I discovered that robberies and assaults occur frequently at the strip mall and that the situation appears to have been the same for the past few years. I rejected the property based on these findings. So, check the shopping areas that tenants would use. You should also check the sex offender database. See familywatchdog.us but there are likely many others. Some states/counties/cities have their own sex offender/crime websites. 

Job Quantity and Quality

In many parts of the US, manufacturing and similar jobs are going away and what remains are service sector jobs. Service sector jobs tend to pay less than manufacturing and similar jobs so the families of these workers have less disposable income. Less disposable income means that they cannot afford to pay the rents that they did in the past. Look at the major employers, what industries they are in and their future prospects. Another key indicator is inflation adjusted per capita income over the past few years. If you see a declining job market or dropping per capita income adjusted for inflation, you need to carefully consider the long term value of the property. On inflation adjusted numbers, "official" inflation during 2014 is at 1.7%. However, “official” inflation numbers do not include energy or food. Personally, I use energy and eat so the inflation I experience at the gas station and the grocery store is much higher than the “official” number. Depending on whose numbers you use, actual inflation is between 6% and 10% per year. Keep in mind that unless the per capita adjusted income is rising at or greater than the rate of actual inflation, your potential tenants disposable income is eroding. What this means is that if you buy a property that rents at the upper end of the rent range, you will likely have increasing time-to-rent and declining rents over time. 

Real Estate Investor Friendly Taxes and Legislation

Legislation concerning tenants vary by state, county or city and can have a huge impact on your return. An example is evictions. Clients have told me that in California, if the tenant knows what they are doing, it can take up to 1 year to evict and cost thousands. In Las Vegas, the time to evict is typically less than 30 days and usually costs less than $500. The best source of this sort of information would be local property managers. 

State taxes and property taxes are another big factor to consider. For example, suppose you are considering three identical properties that rent for the same amount (yes, this is an over simplified and contrived example!). And, one is located in Austin, one is located in Indianapolis, and one is located in Las Vegas. Which one is better? Below is a table showing approximate state personal income tax (I will assume a person filing separately with a $50,000 income) and property tax rates for all the cities. (Note, please forgive me if I am off on the values. My goal is to communicate a concept, not accurate math.) Note: Property taxes source and state income tax source.

Below is a (oversimplified) formula for estimating cash flow assuming 100% occupancy, no maintenance, etc. in order to keep the numbers simple:

Cash Flow = Rent x 12 - DebtService x 12 - PropertyTaxRate x PurchasePrice

And, to take into account state taxes:

Annual Cash Flow = (Rent x 12 - DebtService x 12 - PropertyTaxRate x PurchasePrice) x (1 - StateTaxRate)

For Austin: ($1,000 x 12 - $600 x 12 - 1.9% x $150,000)x (1 - 0%) = $1,950/Yr

For Indianapolis: ($1,000 x 12 - $600 x 12 - 1.07% x $150,000)x (1 - 3.4%) = $3,086/Yr

For Las Vegas: ($1,000 x 12 - $600 x 12 - 0.86% x $150,000)x (1 - 0%) = $3,510/Yr

In summary:

Real return is about how much money actually flows to you, not gross rent or ROI. Property taxes and state taxes have a big effect on the real return.

What to Buy

Now that you have a (few) location(s) that appear(s) to be good, you need to know the best types of investment properties in that local. Where can you get highly detailed information on type, location, configuration and rent range in any location? Local property managers. Most new investors think of property managers as someone to collect the rent after they buy a property. I strongly disagree with this view. I consistently find properties for my clients that meet the dual goals of profitability and appreciation through processes and an investment team. The key member of any real estate investment team is the property manager. (I am a Realtor; I do not manage properties.) Below is a diagram showing four categories where a good property manager can help you be successful. Your initial interviews with three or four property managers will concern their local knowledge of: type, location, configuration and rent range.

Below is more detail on this four characteristics.

• Type: Condo, high rise, single family, duplex, single story, two story, etc.
• Configuration: Two bedroom, three car garage, mud room, etc.
• Location: Usually a very specific area. For example, west of 23rd St and south of the river, etc.
• Rent Range: If the majority of the population to which you want to rent are willing and able to pay $1,000/Mo to $1,300/Mo. you should only be looking at properties that you can purchase, rehab and profitably rent in the same rent range.

Start by telling each property manager that you are just starting out and are looking for a property manager to work with. You need to have a well defined list of questions before you start interviewing and ask the same questions of three or four property managers. (I have a set of property manager interview questions that I'd be happy to share.) After these interviews you will have a pretty good idea of the local market and you may even have an opinion whether any of the property managers you talked to are people you would like to deal with in the future. Once you have a reasonable idea of type, location, configuration and rent range (which I call a property profile), you are in a position to determine whether you can achieve the other goal: profitability. 

Once you know the property profile you can use Zillow (or many other sites) to determine the typical sale price of properties in that local. With a reasonable knowledge of the rent and price of typical properties, you need to determine whether you can make a profit. In my practice I am almost constantly making what I call an investigate/forget decision. I do this so often that I created an online tool which enables me to instantly estimate a break-even price (where rent equals recurring expenses). Below is a screen shot of the tool. (I'm also happy to share it. There is no charge or obligation for using the tool.)

In the example above I entered the estimated rent and other factors and tapped Estimate. The result is that if the property were purchased for $185,000, the rent ($1,200/Mo.) would equal the recurring costs (debt service + taxes + insurance + property management fees + monthly fees). This means that if I thought I could get the property for $165,000 I would investigate further. If I thought I would have to pay $185,000 or more for the property I would forget this one and look for another. Remember that this tool is only for making a quick investigate/forget decision, not a purchase decision.

If you cannot make a profit, look somewhere else. Once you find a place that looks to have good potential, get the name of a local Realtor from the property manager(s). Tell the Realtor what you are looking for (type, location, configuration) and have her/him send matching properties. Be sure to send the properties that you are interested in to the property managers and get their opinion as to the property in general (will it make a good rental) and what is their estimate on the rent and time to rent. The answers from the property managers should be close. If everything looks good, I would travel to that location and meet with the property managers and the Realtor. These are the people who will be responsible for one of the more expensive assets you will own and you need to evaluate them and see some properties. 

Matt, let the numbers be your guide; do not start with a pre-conceived technique, property type or location.

I wish you the best.

Hello @Oliver Martin ,

I broke your questions into two parts:

• Condo vs. single family vs. four-plex 
• Using a HELOC vs. an investor loan

There are multiple factors to consider when you are comparing different types of properties (some of which are unique to the specific location and Las Vegas in general), two of which are:

• Sustained profitability
• Probable appreciation

Condo vs. Single Family vs. Four-Plex

Since all three types of properties are located in the same area I was able to put together a simplified comparison below using typical association fees, etc. for Las Vegas:

Notes:
1) Financing is not available for many condos. Requirements on most condo investor loans: 51% owner occupied, less than 15% HOA delinquencies, no structural litigation.
2) Four-plexs with an HOA fee (usually a converted apartment complex) are extremely difficult to finance.
3) Depreciation is mandated by the IRS and can be shown as an income or a negative expense.

Looking at just the numbers I think anyone would decide on the four-plex. However, this may be deceiving.

• In Las Vegas, most of the four-plexes that I have seen for sale have significant deferred maintenance. The few that I explored in depth had rehab costs in the $10,000 to $30,000 range. Remember that these types of property have only one buyer: investors. To investors, everything is based on the cap rate. And, if the investor is making money on a property, they do not sell them. 
• Depending on who you ask, average condo/multi family vacancy rate is about 16%. However, this is misleading. The new large apartment complexes (which are sprouting up all over the city) are offering huge discounts and incentives making it very hard for individual condo investors to compete. Typical incentives I have seen include one to two months free rent and discounted rent. Another factor is that since you will be competing with the large new complexes, you will have much fewer applicants from which to choose so you tend to get more problematic tenants thereby increasing your maintenance costs and increasing your vacancy rate. I did not know how to represent this in the table above so I used 20% on the condo vacancy rate and 15% on the four-plex vacancy rate which may or may not be a valid estimate.
• Potential appreciation: You buy for cash flow, never just appreciation. However, in the future you will likely sell the property (1031?) so appreciation is very desirable. With multi-unit, the only buyers are investors. Investors value a property based almost exclusively on CAP rate. In Las Vegas, rents have been stable for many years (However they are increasing somewhat at this time). What this means is that even if residential properties increase in price, multi-unit properties may not increase as much because investors buy on CAP rate. In other words, no rent increases, no appreciation. This is not entirely true but is largely true.

People buy real estate as a path to financial independence which requires long term profitability. Factors to consider include:

• Crime: Long term profitability and high levels of crime do not occur together. Many of the multi-unit and reasonably priced condos are in higher crime areas. Before you buy any property, check both the specific area in which the property is located and the nearby major shopping areas. Not too long ago I was checking a property for a client and while the specific neighborhood was OK, the nearby strip mall was not. When I checked the strip mall on one of the crime sites I discovered that robberies and assaults occurred frequently and that the situation appears to have been the same for the past few years. I rejected the property based on these findings. So, check the shopping areas that tenants would use. You should also check the sex offender database. See familywatchdog.us but there are likely many others. Some states/counties/cities have their own sex offender/crime websites.
• Long term tenants: Single people and couples tend to be a significant percentage of condo/multi-family residents. Families (children) tend to be a significant percentage of the single family home residents. Singles and couples in the Las Vegas market tend to move more frequently than families because families want stability for their children. So, expect more turnover with condos and multi-family properties than single family homes.
• In general, people with lower income rent lower priced properties. People with lower incomes typically tend to live in a "cash" based mode as opposed to people with higher incomes who tend to live in a "credit" based mode. People who live in a cash based mode have little to fear from collections agencies and negative credit reports; they have little to fear if they damage the property or skip out on a lease. So, in general, lower income properties tend to have more damage and more maintenance. That is why I used $4,000/yr for the 4-flex maintenance provision in the table. Whether this is high or low would depend on the specific property.

Oliver, I hope this gives you some ideas on evaluating a condo vs. a single family vs. a four-plex. 

Using a HELOC

A lender I regularly work with just provided me with an update on HELOCs:

• HELOCs can only be used on a primary residence.
• Maximum amount is 80% of the market value.
• The interest rates are reasonable but they adjust each month. Adjustable interest rates are a big concern for me. The official inflation rate for 2014 is 1.7%. However, the official inflation rate does not include energy or food. Personally, I use electricity and drive a car plus I eat so the official inflation rate means little to me. The actual inflation rate is between 6% and 10% depending on whose numbers you believe. I believe that the government can only manipulate interest rates (which is a factor of inflation) for so long and then the actual interest rate will come into effect. During the 1980's interest rates exceeded 18% source. Below is a comparison of the monthly payment on a $100,000 loan based on the interest rate.

So, while the HELOC is easier to obtain, it is not what I would call permanent financing. One of the big advantages of real estate is that if you have a fixed rate loan, inflation can be beneficial to cash flow. Historically, rents and property prices have tracked inflation but your debt service is constant. This would absolutely not be the case with a HELOC. Other than the ease in obtaining the funds, I see nothing to recommend using a HELOC as a long term financing alternative.

Oliver, I hope the above helped answer some of your questions.

Hello @Seneca Stephens ,

A good question. Before I continue, know that I am a Realtor in Las Vegas and my practice is almost exclusively remote investors. In my practice I frequently deal with whether to recommend a tenant occupied property or a vacant one. Below are my thoughts on the pros and cons.

Pros

• Immediate income - Since the tenant is already in the property you start receiving income from day one.
• The tenant already signed a lease so you can get a copy and know the terms.
• Possible existing relationship with a property manager that already knows the property and its maintenance issues.
• You know the rent amount so it is easy to determine whether the property will generate a profit.

Possible Cons

• Tenant qualifications - How was the tenant screened? This is critical. Checking credit score alone is not enough. For example, recently a prospective tenant had a credit score in the mid 500's. However, all the negative items were medical collections. Apparently the daughter became very sick and there was no way they could pay the huge amount owed. If you took away the medical collections, their score was in the high 700's. Another applicant had a low 700's credit score but in the past had collections for unpaid rent. What the property manager must screen for in addition to a detailed credit inspection is: 

• Criminal history (national, state, county, city and sex offender). If they are on any of these lists, you do not want them.
• Employment history - Are they job hoppers? You do not want them. Also, their income must be sufficient to handle the rent and their other obligations.
• Back child support and alimony. If it comes down to them paying money to the court or you, guess who is going to lose? 

If the seller just wanted to get "anyone" in the property so they could sell it "with tenant" you could be facing a real nightmare. Also:

• Is the tenant paying market rent? I have heard of situations where the property is sold and the tenant is (for example) paying $1,000/Mo. rent. A few months after close the tenant skips and the buyer discovered that the market rent of the property was $600/Mo.
• Property condition - With a tenant in the property it can be difficult to determine the actual condition of the property if there is collusion between the tenant and the current owner.

My Experience

About 50% of the time when one of my clients buys a property with an existing tenant we end up evicting them, usually for non-payment of rent. So, unless I know the property manager and their management characteristics, we will not buy a property with an existing tenant. I would only consider a tenant occupied property where there is no property manager involved if the tenant has been in the property for multiple years, their credit shows no late payments on utilities, they have been at the same job for multiple years and the property is in good condition.

In Summary

While buying a tenant occupied property sounds good, they can be a nightmare unless you know the property manager managing the property and their screening process. Another factor to consider is how long evictions take and cost in your area. For example, in Las Vegas an eviction typically takes less than 30 days and costs less than $500. I understand that in California if the tenant resists, it can take up to one year. In some parts of New York state, up to 18 months. So, be very careful buying a tenant occupied property unless you have a very good reason to know that they are good renters.

I hope the above helps.