All Forum Posts by: Helmut Forren

@Darnell Kramer so about your quad in Georgia, presumably renting for $650 each, total $2600, with deferred maintenance.  I had one in Sugar Hill / Buford.  Built in 1967.  Similar rent.  Far too much maintenance.  Far too much tenant turnover.  Far too much damage by tenants.  Far too non-liquid -- it took me two years to sell it.

I sold that and changed to single family homes.  $1100 rent in 2013.  Higher class of tenant.  15 years old or younger buildings requiring less maintenance.  Move in ready.  Takes 20 minutes to 10 days to rent.  (Yes, one tenant moving truck beat me to the house as I drove from closing attorney to house.)

On paper, the quad earned $8000/year cash flow. In reality, it earned half that and took a lot of hassle time. In reality, the SFR's now have earned over $4000/year cash flow each. I spend perhaps 8 hours finding a new tenant. Then I spend perhaps 8 hours per year on the property after that. No hassle hardly at all.

Nothing like TV and movies where you get a midnight call to unstop the toilet. I did get late night calls about the quad, to get the kids truck un-stuck from the back yard where he progressively slipped on wet grass and was messing up the septic field, which was already at functional risk for the old property. I did have quad tenants break the toilet tank lid and stick plastic flowers in it, jamming and causing a month long toilet leak. I ended up on the hook for the $400 water bill. (Two of the apartments shared a meter, so I had to re-bill.) I did have an SFR blow a pipe in winter, but that's the worst emergency I've had in two years. Also, of course, I pay my $25/hr handyman who earns a fraction of what I earn at my engineering day job.

@ALL In addition, I won't spend the time writing it all, but I'll just mention what I figured out during sleepless nights.  All else being the same, with 5% conventional 30yr fixed financing, any rehab would only break even if rehab cost was around half or less the price discount.  To date, most I've found were 1-to-1.  Nevertheless, it may be possible to find some where (phrased upside down) the rehab cost doubled it's money in equity value.

But then, if I introduce 7% alternate financing, everything breaks.  The rehab would have to be less than a quarter of the discount.  Rephrased, the rehab money needs to return four times its cost in increased equity.  That's going to be very difficult, and then only breaks even with 5% conventional move-in ready.  So, for sure, I need to exhaust my ability to get 5% conventional move-in ready.

The only way the 7% seems to work is if you have a dramatically higher LTV. But I calculated a 97.5% LTV in my head, and it led to negative cash flow. So, at first I thought that as the investment fell, you'd get a divide-by-zero kind of explosion in the cash on cash rate of return. However, I think cash flow goes to negative before the investment goes to zero. So that makes a negative explosion of cash on cash return! Of course, when numbers get real small like that, variability destroys the analysis. That is, even if you earn $100 on a $1 investment and seem to have a 10000% return, there is far more than $100 uncertainty in your return, so that analysis is meaningless.

Oh, in reverse, I'll point out that I'm a short-timer mentality eager to exit the rat race.  As soon as I have enough yearly cash flow, I want to semi-retire.  This means cash-on-cash return is my primary concern.  In detail, I mean investment cash vs yearly cash flow.  Yearly cash flow becomes reasonably reliable retirement income.  Investment cash requirement tells me how many more years I have to work at my high paying high stress engineering job.  Fifteen years down the road is too far for me to see in my crystal ball.  As long as we don't have deflation, my income should grow with inflation.  In fact, it should grow faster than inflation.  (A lesson I learned about taxes one time.  Imagine you have 80% deductions from taxes.  You only pay the tax rate on 20% of your income.  Now imagine your income increases 10%.  But now, using the prior denominator, you now pay tax on 30% of your prior income.  So, your taxes rise 50%.  Yes, a 10% increase in income leads to a 50% increase in taxes and many sleepless nights in April.  Brought to this subject, my cash flow corresponds to rent less about 72% debt service and maintenance.  So the cash flow is about 28% of the rent.  If rent goes up 10%, that's as if cash flow goes up to 38% of the rent, roughly.  That's a 36% increase in cash flow for a 10% increase in rent.  NICE!  Of course, a 10% deflation in rent corresponds roughly to 36% decrease in cash flow.  OUCH!)

@Wayne Brooks Thanks.  So now, the original question remains:

Can I remove the principle residence from the count by quit claiming my [ownership] interest to my wife? We live in Georgia which is *not* a community property state.

Can i remove the principle residence from the count by our moving it to one kind of trust or another? 

@Ethan Atkinson your post slipped past my attention initially, with no email notification about it.  Thanks for your suggestion as well.  I agree that the lender's statement is what matters most.  I just like knowing the answer to a question before I ask it, as much as possible.  And some of these factors are still future factors.

Nevertheless, I am interested in finding new lenders for sure.  Some brokers are definitely more knowledgeable than others.  Do you know a Ga broker or two that really understand 5-to-10 Fannie Mae properties?  I would greatly appreciate your referring me to them by telling me their contact info.   

In addition, I know at least one lender who keeps rather than sells their loans, and who's overlaid guidelines are *less* restrictive.  They do not count financed properties where you are not on the loan.  I'd love to know of another.  Do you know one?

Roy, by the way, your words sound like I offended you, and I definitely didn't intend to do so.  I apologize if I did offend you in some way.

Otherwise, I'm missing a point from you.  Specifically, for a single property, I'm doing a fixed interest loan, so future mortgage interest rates don't matter.  I look at neighborhood stability and schools.  Many years in the future, there may be a consideration of refi interest rates for cash out (although not Fannie Mae, having more than 4).  But otherwise, I don't understand why you're focusing on past and future interest rates.  Yes, they will cause fluctuations in rent.  But there's also inflation.  So if the property works today, and rents do nothing but go up, then it will work tomorrow.  The only uncontrollable risk factor is net rent deflation, which is both very unlikely and impossible to predict.  

I'm an engineer by trade and deal most often with hard data.  Perhaps if you gave an example of why you're focusing on historical debt service interest rates...

Also, I don't rely solely on GRM, either. I do a full amortization estimate. I look at depreciation. I look at after tax income. I also consider opportunity cost of doing something now and then again later, rather than only later.

@Wayne Brooks Thanks for your advice, but I believe you missed the point. (Or else I'm mis-reading what you wrote, or I led you to mis-read what I wrote.) I already have more than one loan and am on a journey toward probably 6, perhaps 10. It's not about DTI. It's about Fannie Mae rules. Per https://www.fanniemae.com/content/guide/selling/b2...

The count changes ones ability to do cash our refi. It changes the required LTV. It limits the maximum number of properties allowed. So it's important.

Many lenders count properties where you're on title but not on loan, and by my own reading, that's the correct meaning.  At least one other lender I know does *not* count properties where you're strictly on title but not on loan.  That lender, however, keeps their loans and doesn't sell them, so they might be adding a less restrictive policy on top of the Fannie Mae guidelines, knowingly counting differently.

@Daniel Dietz thanks for the forum usage advice.  As you can see, it works for me now.

@Roy N. your 1% rule is the same as the 100 GRM rule of thumb. (Gross Rent Multiplier) I have two houses where the GRM at purchase was less than 100 (better), and a number of others where it was greater than 100. The numbers work up to about 118, given, of course, the recent low interest rates.

@Darnell Kramer I've looked for exactly that of which you speak, where the final value is noticeably more than the repair cost, but I haven't found any. I do understand that math and I'll continue looking. Combine that with GRM rule of thumb and it's indeed a way to buy and hold, as I prefer.

On the other hand, the one flip I did, I spent 3 months and made $450.  My biggest problem was that I fixed the property too well.  Years prior, I saw Ga Real Estate Investors group/club members selling houses they had fixed, and they had bad foundations not repaired and other bad structure just painted over.  These were pigs with lipstick added.  So I knew I didn't want to buy those, as they would cost far too much in future repairs, and/or rent for less and less over time as they deteriorated.  Now, admittedly, there was a big gap between my poor flip and these pigs with lipstick.  That gap certainly has room for some nice houses and nice deals.  I've looked for those and not found them.  I can look further.

Of course, until which time my current model can't move forward anymore, due to interest rates or 10 property limit or something else, it probably still returns at least as well if not better than the earned equity method, and also with much less effort.  Nevertheless, when that time does come, I've learned from all of you a little more about the alternative landscape.

DARNELL (the @ trick won't work twice), about that Ga rental at $2600. Is that single family or multi-family? For metro Atlanta, I assume the highest rent in the state, there are SFR rents that high, but that's really high and the marketplace will be much smaller. Also, it's tougher to get close to 100GRM (although you suggest 85, although I believe there's a time gap between purchase and today's rent, and so your GRM was probably higher at the time of purchase). Now I did have a quad that rented for $2800. But the $700/unit rent was, for lack of any other way to say it, attractive only to a lower class of tenant. The GRM was under 100, but the tenants turned over far too rapidly (higher average vacancy rate) and the property was older (higher maintenance cost), and the tenants damaged the property as well (yet higher maintenance cost, note broken window syndrome). In the end, this property seemed better on paper than my current SFR's, but was in fact much more hassle and less profitable.

Thanks again to all,

Helmut.

How do I cause @Jeff Benz to highlight as I see you guys replying?

Jeff:

I may need to re-read what you wrote several times, but I don't understand.  I'll try to describe, but could you otherwise please clarify?  I understand "earn equity", but I don't want to necessarily earn equity.  I want to earn a return.  I was about to write that if I spend $20K in rehab to increase my equity 20%, then it doesn't help.  Perhaps you mean I need to spend $20K in rehab to increase my equity 30% or 40%.  That would be "earn equity". Please confirm or correct.  And, nope, I haven't seen that but can keep a new eye out for it. That would then need to be followed by non-conventional refi, so that the equity can be re-leveraged.  Otherwise, net worth on the books is worthless without increased revenue to go with it, and revenue won't increase if it's still just the same single unit rental.

Otherwise, can you please give me a real world example of anything with greater rent/cost returns?  I've thought about commercial retail, but oh my God I see far too many empty retail locations to think the risk isn't simply huge.

Steve:

You're right I'm not interested in rehab, but only cuz I don't see the leverage working.  However, if I can earn equity and non-conventional refi in order to purchase more, I might change my mind.  Otherwise, again, you're correct I'm not interested in rehab.

Otherwise, are you in fact agreeing with me?  Please clarify or correct.  Note that I'm getting fixed 30yr mortgages, so it's not a question of rates going up on my existing holdings.  However, it's true that I have a great fear of not earning enough fast enough and regular conforming rates rising too high for my sweet spot for new purchases.  It may stagnate prices which have been rising, but I doubt (hope for other economy reasons?) it won't lower them.

So, my bottom line is about intentionally increasing rates by going to non-conventional lenders.  (In case I'm using the wrong term, by non-conventional I mean not Fannie Mae backed or sell-able.)

Brent:

I'm an engineer by trade, so sometimes I need things spelled out more exactly. 

There's a little ambiguity in what you wrote, but I think you mean to say that the non-conventional lenders, charging for example 2% more interest as I described, are doing so to get a larger piece of the pie.  That in turn, leaves less for me.

You seem to be agreeing with me that the numbers don't work as well for the non-conventional lenders.  Please confirm or correct.  Thanks.

Summary:

Well, it seems like all three of you may have, in part, confirmed what I said.  The numbers don't work as well with those non-conventional interest rates.  Are other folks using those rates simply satisfied with the lower return?  Or are they "earning equity" by getting great discounts without too much rehab cost (but I've done that analysis and don't like the result, for either numbers reasons or neighborhood reasons or lip stick on a pig reasons).

Where or where might I go, possibly totally different, where those higher interest rates work?

I like to buy and hold single family homes for rental.  I have a strategy that has been working very well for me.  Of course, conventional financing is becoming increasingly difficult.  I've seen other financing methods, but the numbers don't seem to work for me. Yet, there must be a way to make them work, or they wouldn't be out there.  

I would greatly appreciate some well thought out advice to help expand my understanding from my current position to a position where this other financing might work.

To begin with, here's what I've been very successful at -- at least in my opinion.  I'm north of Atlanta Ga, and the numbers all work here.  I have spoken to my work associates near Washington DC, and my numbers do not work there.

I purchase a nice nearly move-in ready for something between $120K and $140K, sometimes a little less or more. I put down 20% or 25%. My mortgage PITI ends up between $700 and $800. Rent was $1100 but rates have gone up and they're all at least $1200. (The over $140K are 4BR and rent for more. The rest are 3BR.) This gives me roughly $400/month in rent above PITI. I earn a lot at my day job, so I pay my handyman to do all the maintenance. Because the properties are only 10 to 15 years old and were in nearly move-in ready condition, maintenance costs have been down below $500/year each. Overall, after depreciation protects most of the income, I have been earning about $4000/property after tax. I'm very happy with this.

For metro Atlanta suburbs, this rent level seems a sweet spot.  Qualified applicants are I believe upper middle class and tend to take care of the property and pay their rent on time.  This is in stark contrast to a quad I had in the past that rented for $700.  They also stay for many years.  For a new property or turnover, it only takes a week or two to get a well qualified new tenant who then turns out to be indeed good.

Regarding the $4000/property after tax, earlier purchased properties with $25K cost are returning 16% cash on cash, and if I include principle pay down, my ROI well exceeds 20%. Later purchased properties with $37K cost are still making 10% cash on cash with total ROI also approaching 20%. I definitely feel this is much better than I can get in the stock market, and these numbers tend to auto-adjust to inflation, which the stock market does not. Take the example in point of rents already rising from $1100 to $1200.

Within all of this, a very important factor is the interest rate.  I have interest rates varying from 5.125% to 4.75%.  The higher earlier rate was before property values/costs went up, and the lower later rate was after they started going up.  So all the properties wash out to roughly the same profitability.

Note that I don't want to purchase properties that require any rehab first, because all that does is increase my investment, decrease my leverage, and therefore decrease my cash-on-cash and ROI.

SO NOW I CONSIDER OTHER FINANCING.  But if the interest rate is 2% higher, and the mortgage is 75% of a $140K property, then my first year interest is $2100.  That's more than half of my $4000/year profit.  Maybe there's some funny math with carry-over losses due to depreciation exceeding returns, and later superior after-tax earnings if we assume inflation, but I just don't like the idea of my investment money suddenly only going half as far.

So, how can this other financing with higher interest rates work?  Are other folks happy with half the rate of return?  Or is there some aspect that I don't understand?  (Being leveraged, my risk level seems fine, having reserves elsewhere.  My mortgages are only 60% of my current rent, plus I have more than 6 months mortgage in reserve, so aside from the risk from deflation, I believe I'm pretty well protected.)

I could bring up the net per house by investing more, by either greater down payment or cheaper house with rehab.  But that simply dilutes my return as well.  And another thing, all my houses are in cookie cutter neighborhoods with all nice houses.  The stability is good for medium to long term.  Tenants are good.  Etc.  It wall works very nicely.  The rehab houses I've looked into are all in older neighborhoods with less certain near term stability.  And I believe on-going maintenance will be higher as well.

So, once again, what am I missing, if anything?

Thanks very much,
Helmut

My wife and I are both on title for our principle residence, but she is the only one on the loan, and personally so.  At the moment, for my own investment property financing purposes (not hers), I'm certain that our principle residence is counted by Fannie Mae guidelines because I am indeed on the title and the property is financed.

Can I remove the principle residence from the count by quit claiming my interest to my wife?  We live in Georgia which is *not* a community property state.

Can i remove the principle residence from the count by our moving it to one kind of trust or another?  If so, are there any restrictions on who is/are the trustee(s), trustor(s), or beneficiary(ies)?  (The "trustor" question relates to whether or not a quit claim need precede the gift to the trust.)

Regarding the "trust" question, I've searched and searched before with no success.  But I *may* have just found an answer.  But then different folks have different opinions on things, so I'm continuing to post the question.  The other possible answer is found if you search for "trust" on the page at https://www.biggerpockets.com/forums/49/topics/184876-the-ultimate-guide-to-using-conventional-mortgages-to-expand-your-portfolio . My reading of this suggests that a revocable trust won't do the job, but for me an irrevocable trust will do the job.  That is, with an irrevocable trust, the primary residence will still count for my wife, who has personally guaranteed the loan.  However, it won't count for me who has not personally guaranteed the loan.  What do you think?  I've been looking at irrevocable trusts anyway, but am still nervous about the irrevocable part.  Of course, let's please not let this post digress into a discussion about that.