All Forum Posts by: Matt Schelberg

Thanks, @Tom Meade . I think you are right that a key factor is how the owner actually saves (or doesn't save) for the big capex item. I see two approaches:

1) If the owner is truly setting aside an allowance each year for the expense item (e.g. a roof), then he should not discount that expense. He is sending the annual allowance amount to a savings account where it cannot be reinvested, so for all intents and purposes, it is a current year expense.

2) If the owner is not setting aside replacement reserves each year, he can reinvest the "roof money" for 20 years before it comes time to pay for the new roof. So he enjoys the benefits of compounding during that period, and using DCF in example #2 is appropriate (at least according to this line of thinking).

Frank Gallinelli's great book "What Every Real Estate Investor Needs to Know About Cash Flow" got me thinking about how to properly account for replacement reserves in rental properties. If we discount future rents using discounted cash flow (DCF), shouldn't we also discount a deferred expense like roof replacement?

In other words, if I expect to spend $5,000 to replace a roof every 20 years, can I use DCF analysis rather than simply dividing $5,000 by 20 years and using this as my annual allowance for replacement? This could have a significant impact on cash flow calculations, so let me know if you think this would be "fudging the numbers" on deal analysis. Please try to shoot holes in my idea!

Thanks,

Matt

One thing I noticed... your reserves for replacement are too high becuase you base depreciation on "remaining life" rather than total expected lifespan. So you are budgeting to replace the roof and HVAC every 10 years. This is almost certainly too short for the roof, and probably too short for the HVAC.

Even if the roof only has 3 years left, this is a one time expense to replace, not something you would need to do every 3 years.

Adjust the expected roof lifespan to 20 or 30 years and you will have a more accurate estimate of expenses. Might bump up your cashflow 20 or 30 bucks per month.

One question: What are property taxes and where are these represented in your numbers?

@Ty Burns , 92 offers? Wow. What kind of sellers were you working with? What, if anything, changed with your approach on that first successful deal?

Great comments from all, thanks. @Bill S. I am also a fan of hardwoods whenever I can restore them, but unfortunately in this neighborhood I don't think I'd get an acceptable ROI by installing hardwoods.

However, I have never used laminate so I appreciate the warning @Colleen F. Perhaps I'll look at vinyl squares...trying to stay away from carpet. It's a multi-story house, so I'll definitely do ceramic tile in the finished part of the basement...that has been very popular with tenants in my area.

@Jean Bolger , thanks for the clue-in on the tenant's perception. I always have to remind myself to think back to when I was a renter...I was not as picky as I am now!

@Kevin Lochen Your comment about acoustic tile piqued my interest! Based on some price checks it looks like the materials and labor would be comparable to sheetrock...maybe even higher. Why do you like it and when do you use it?

@George P. ,

As an amateur without any formal training in plumbing, I agree with you on pex and I have yet to hear a good case against it.

@David Doyle , why don't you like pex?

If I HAD to be in one or the other, it would be real estate. In the stock market everyone is generally using the same information, and while there are market inefficiencies that create opportunities, there is little that gives small investors an edge over the big players (hedge funds, mutual funds, and private equity).

In real estate, the big players are simply not interested in the $200k investment because it won't even move the needle for their massive funds...it's not worth their time. The small investor can get an information edge by knowing a market street-by-street and by performing the due diligence no one else bothers with.

-Matt

@Account Closed ,

I've often struggled with the same question, and I think it really boils down to which particular opportunity is more attractive at any given time. Certainly there are times when the stock market is fully valued and there are still opportunities in real estate, and vice versa. And times when the best thing is to move to cash and sit on the sidelines until sanity returns to an overpriced market. This is what Buffett did in 2007 before the crash...but easier said than done.

Also, it would be foolish to hold a stock until you achieve an arbitrary sell price target if other more favorable opportunities exist in real estate.

Another thing to consider: You may not need to sell your stock to put the money to work in real estate. You could borrow against the shares at 7-8% through a margin account. Just need to be very conservative here to reduce the possibility of a margin call in a big market decline.

-Matt

Hi @Brien Houston ,

Welcome to BP! Fellow veteran here from Maryland. That is solid advice from Darren. Podcast 023 with James Vermillion is a good episode to check out, especially regarding the challenges of managing a real estate business through PCS and overseas orders. Also, check out Brandon Turner's "Investing in American Real Estate While Serving in the US Military."

Good Luck!

-Matt

I am trying select a flooring option in a working-class rental unit with a drop ceiling. Currently there is wall-to-wall carpet that needs to be removed. One option is to replace it with laminate floors, but would this clash with the not-so-nice ceiling? I want to avoid selecting an option that forces me to upgrade other parts of the house.

Thoughts?

Thanks,

Matt