Hi All, the properties are actually in Saugatuck/Douglas area which explicitly allow STRs. I suspect this greatly improves the situation versus Holland? There is an insane amount of STR in this area and large STR management companies that I suspect have a lot of weight, unlikely they change the ordinance anytime soon... 6% was my super conservative estimate based on a cost of construction (house alone) @ 400k (probably high for a 2,000 sqft 3bd 2ba house) + 20k furnishings, a cheaper house and likely higher rents gets me closer to 8.5% CoC. I really have no idea what it costs to build a house in MI these days...I may be way high on that number. We have to remove a lot of trees because of how wooded these lots are, I suspect that will quite expensive. My estimates are done with about 65k in revenue (one property), 10k in property taxes, 2.5k cleaning/supplies, 3k utility, and 2k insurance. Property will be self-managed. I know there will be other small things that will likely add up.
Thank you both! This is the Lake Michigan, lots are behind lake shore drive. I was also looking into manufactured originally as a quick option, the building restrictions could come into play. It is 1 house per parcel unfortunately. Huge lots but still R3 residential zoning. Local laws currently allow STR because it is tourist town, I don't know how long it will stay that way...a risk I suppose, especially if we build two houses.
The niche I was focusing on for the STR marketing was beach access, secluded forest (good offseason appeal), cozy log cabin. Based on my numbers, the land was < 200k, house ~300-350k, taxes etc.. With no leverage I'm at ~ 6% CoC return. Leveraged I can grab a couple more points. For me, that's an OK low-risk return?
I got a deal on 2 (3 acre) lots (on lake Michigan) it is a few hundred feet from the lake, there isn't a direct line-of-sight with the lake, but the property does have deeded access to stairs that access a private beach about a 2 minute walk from the property. I've already purchased the land and another lot next to it (closing soon), it is 100% wooded, and was planning to build a log cabin in the middle of the first lot for complete privacy (not real logs, half logs). About 2,000 sqft 3 bedroom 2 bath. The nice thing about this property is in the off season, its a winter wonderland and I think it has great appeal that way - very secluded yet close to water. You can't even seen another house from the middle of this lot. In the summer, it has obvious appeal of being close to the lake, yet still secluded etc... It's a very short drive to downtown as well. I am very familiar with the area, its a popular tourist town near the lake (been going there for decades), no location risk there.
I have not purchased real estate as an investment yet, but it has been my goal for the last year as I diversify out of the stock market. I was initially looking at commercial instead of residential LTR to avoid the hassle of time commitment, long term tenant problems, evictions, etc. I know these are all still possible in STR, but I like the flexibility of simply not renting it when I don't want to deal with rents. I've been educating a lot and can't get over how bid up commercial properties are at this time. I feel like a vacation rental is bit safer, as even if its not renting, we could get some personal use out of it. At the same time it doesn't have some of the problems that I've experienced in past with LTRs. The thing that seems odd to me is building a brand new house for the sole purpose of vacation rental.... I know the market is hot there, big tourist area (country allows STR), I've looked at houses literally on the same street that have great homeaway/airbnb bookings. With the housing prices high it does seem like an OK time to build versus buy, but man something about building a brand new house for the purpose of STR still bugs me...
On the plus side I figure I don't have the time to deal with all the things that require maintenance on older houses and I figured if we build new on this lot we get a decade of little to no maintenance. The last I want to do is buy a 30 year old house for a STR and be constantly dealing with repairs. If in 20 years this property is looking like its about to fall apart we'll unload it. Is there anything wrong with that logic? I don't want to build a large home, I would rather build a small-medium size home and keep the costs down (3 bed, 2 bath) - I figure I can squeeze at least 8 people in there.
I don't know if it makes sense to build on the second lot, but if I did I figure being right next to each, large families could rent both. They could both share wells/septic and a few other things to keep the cost down. I don't have the cash to build both at once (which I assume would save money). Instead, I plan to build the first one with cash, mortgage it, and use the cash to then build the other and eventually mortgage it.
What are the thoughts on:
1) Building a brand new house for STR
2) Having two STR right next to each other, but on large lots (you wouldn't be able to see the other house) - would they compete with each other? Perhaps we build two different kinds of houses? I figure being so close they would be even easier to manage - is it a luxury to have two STRs right next to each other?
3) Building the house with cash to avoid construction loan and mortgaging afterwards
4) Potentially not building a garage to save money
5) Trying to build the house ASAP after closing to start cash flow
6) What is the risk of county changing ordnance that allows STR? I feel I'd be screwed and have to sell the house for a loss if that happens < 5 years. Is there any other ordinances I need to verify?
6) I was going to put both in an LLC and claim as full time rentals (we live in Indiana). I understand that some folks like to play the game around getting a "Second home" mortgage versus an investment property rate, but I'd rather stay on the safe side liability/tax wise.
7) If you had the opportunity to build a brand new house purpose built for STR, what are some of the features it would/should have? I figured the log cabin look would be helpful for marketing purposes and the wooded lot / cottage feel.
Thank You
I am currently looking in the 5-6% cap rate range. I'm looking for a place to park some cash that will diversify an equity portfolio. I have an existing business and don't want to deal with all the headaches that I assume come with a 10% cap rate property. I'm not looking to get rich from this property, but have some downside protection from other assets. I also do not intend on highly leveraging it, therefore, it will be very cashflow positive.
I'm looking to diversify from a pure equity portfolio and go into real estate. I don't have much time to hands-on manage due to an existing consulting business. This has prevented me from getting into residential and drawn me more towards commercial, maybe that is a false assumption. I have about 700k to invest either as a cash offer or down payment.
The following are a few different strategies/perceptions I have and I am curious what everyone's thoughts are. I am interested in cash flow as a way to support my consulting business during a downturn and help diversify my overall retirement portfolio that very large in equities. Long-term appreciation is big because I wouldn't intend to sell anything until retirement (30+ years from now) I am also in a very high tax bracket and hopeful that real estate investments may enable more deductions.
Commercial:
1) I've shied away from retail strips due to feedback from banks desire to not lend there and overall amazon impact
2) Looking primarily at small office complexes (2-4 unit) with service businesses - anything to look at for with office buildings?
3) The few banks I spoke to informally appear to be uninterested in writing a loan unless the tenants in the property have long leases that practically exceeded the loan term. I get the feeling that current tenant leases will have a huge impact on any commercial loan and as a result, there are not a lot of good deals on properties that have solid tenants. Why would anyone sell in that situation? The properties I feel that have some value-add are the ones that a bank wouldn't lend on, such as a property where leases are coming up and I have opportunity to increase, etc. I feel trapped a it as purchasing a commercial property that would underwrite with a bank doesn't appear to be great value-add potential and it typically just super expensive. Thoughts?
4) As a result, this has made me rethink my price point and finance strategy. If I were looking to finance a property I could play in the 2.5M price point which is a much larger 10k sq/ft office building. Otherwise, I can look at cash offer properties that would get me a better deal in the 800-900k price point (5k sq/ft). My idea here would be to offer and purchase a smaller property (2-3 office) with cash and attempt delayed financing down the road. I feel that this may avoid a lot of the sticking points that banks have with first-time commercial real estate owners. I could also get a better deal with an initial cash offer. Any experiences here? For a newbie is it safer to deal with a cash offer on the first property, seems to be a bit of downside protection to not having loan payments at the start. I could buy a property with less than ideal tenants and hopefully improve that situation as a value-add. The obvious downside to investing in a small commercial office building (2-3 tenants) is the lack of large value-add, there just isn't space.
5) If I purchase office space I could lease-back some of it to my consulting business and draw a little tax free money out of the company.
Residential:
Let's get this out of the way, I'm familiar with BRRR and I know folks doing it.
1) If I go residential I would be purchasing 2 or 3 properties in the 300k price range. These are local to me and in most cases, in a nice suburb Chicago area, a 300k house is typically 2k sq/ft and rents around 2k/month. Property taxes are high in IL and therefore returns (without a mortgage) are only about 5% after property taxes. With a mortgage, I'm not sure what that would look, not good.
2) I get the feeling that long-term appreciation of residential homes seems to exceed commercial in these areas. My understanding is that commercial properties tend to depreciate over time, only to be propped up with cashflow, and if you lose a tenant resale value tanks. That is obviously not the case with residential homes in good areas. As a result, residential is probably a safer investment, but I would rather take some risks and pickup some tax efficiencies with my current business that may be enabled through commercial investments. Thoughts?
3) Is residential a better long-term appreciation strategy whereas commercial's cashflow benefits are better for post-retirement? Is there a situation where commercial properties may cashflow well and appreciate due to other factors?
Thank you for any replies.
@Joel Owens - I completely agree with you. I'm shopping for a kia at the BMW dealership. When you say broker are you referring to the listing agent / advisor on the property? I don't have a broker I am using to identify properties, I am doing that myself with the intention of bringing in some expertise once I have zoned in on something and need to do some due diligence / put an offer in. I've purchased homes without agents and I don't want to waste their time during this process, I know how new buyers can abuse them when they don't know what they want yet. If you understand you correctly, STNL properties (NNN tenants) are not favorable for a bank and terms would be less favorable from an amortization perspective. I assume this is because of the single tenant issue and the potential that it could be hard to re-purpose the property? At least in this case, its just a basic box property with nothing special going on, it actually used to be a Blockbuster before the auto retailer. I've started debating internally the future of an auto retail in light of Amazon selling auto parts, but that is likely a problem that will surface 5-10 years from now. I'm thinking I may just need to put more cash down in this price range. Originally, I thought I could still benefit from some leverage, but it does appear that in the < 2MM range it is mostly a cash business. A solid 6% CoC return on 1.8M isn't bad, but once you throw financing in that becomes questionable.
@Spencer Hilligoss - This is true I am strapped, but I don't like the amount of risk in the equities space and I want to take some of my, relatively large earnings over the last 8 years (i.e., I owned a lot of Amazon stock, which is ironic looking at commercial retail properties) and pile it into a safer investment. The consulting business is a cash cow but it is purely active income that you must do something with to obtain a passive component. The idea of having a commercial property appeals to me because it affords me some options in 5-10 years to explore operating my own business out of it, it's something I've always wanted to do and if I had the financial freedom I would do it. This is part of a much larger picture that may developed 10+ years down the line. My motivation now is that I think (perhaps I am wrong), that the market is still on the rebound a bit and I should take advantage of still historically low interest rates. If I wait 10 years I may have even less options. Instead of jumping right in and opening something up, I recently became interested in the idea of owning a property now that gives me the potential to do that down the road with less risk (i.e., free rent potentially subsidies by other tenants).
Thanks all for your comments. I have a learned a lot. Unfortunately, the property I was looking at sold. It sold for even less than the 1.5M, around 1.34M. Apparently there were 3 owners involved. The owner of the entire property, the owner of the bank, and the owner of the remaining units in this small strip mall. I learned some things from the agent. It was apparently condo'ed out which is how the bank retained ownership of it's unit and why there is a management fee to whoever owns the complex. This was the property LoopNet. I'm already off to look at what else is out there, but I learned quite a bit from this experience. I am looking in the 1.5-2M range and I've been calling around to agents on properties to get a feel for how they negotiate and how these commercial deals differ. There appears to be a lot more room than I ever though in purchase price negotiation.
My thinking is that, based on a Debt Coverage Ratio of about 1.3 (which I assume is what most banks want to see), I'm always shooting for a minimum CAP rate of around 7.5% for a property to cash-flow well enough with my debt cost @ a 6% 5/25, 75% LTV . Moving forward I am basically using that 7.5% CAP rate to back into what I believe a properties actual purchase price should be (obviously excluding all the other factors like rent roll, lease lengths, macro economics of the area, etc). I'm not sure if this is the best way to hunt for properties or make offers but it has helped me adjust some property prices into what would be an acceptable place to even start negotiating.
Questions
1) What do you think about me working back from a ~1.3 DCR, into a CAP, and then using that to compare properties and arrive at sensible purchase price?
2) I am most comfortable with a property that has a couple retail shops and leased residential tenants on the 2nd floor. This seems to me to be even safer hedge against losing one of 2 or 3 retail tenants that may be in the unit.
3) At a 1.5M-2M purchase price I could put more than 25% down, but I read somewhere that its not smart to "buy more cash-flow". I can understand that and how powerful leverage is. In some cases I do feel a bit more comfortable having more equity in the property (maybe 30%) in the event a tenant leaves and I have to start paying part of the monthly loan myself. At least, at that point, it won't be as large of a monthly payment. Thoughts?
4) I was looking at another close property in an area I am very familiar with. It is standalone building for one of the major autoparts retailers. It is corporate guarantee NNN and the lease has another 7 years on it. Oddly the current CAP rate on it is only in the low 6s. The agent said they wouldn't sell for much higher of a CAP. When I do my calculations on that property with the 1.3 DCR - I cash-flow hardly anything and it becomes a pure play on appreciation due to the location being very prime at a busy intersection. What kind of buyer are they holding out for, a cash only buyer who is fine with a 6% return? Curious to hear thoughts on buying properties that have a single, large, corporate tenant. I assume the low-risk tenant may also factor into why the CAP is lower, perhaps they can negotiate lower rents being such a large company.
5) I also looked into a standalone restaurant property, been around for 10 years and has two locations. CAP rate of around 8%, I don't understand why the restaurant owner wouldn't buy the property themselves. I assume those types of deals are big risks for a newbie.
6) I was thinking about holding the property and titling it in my LLC/S-Corp that my consulting business resides in. This would be a LOT easier from an admin overhead and tax perspective than starting up another LLC to only purchase the property. The bank seems to always require a personal guarantee regardless, I would qualify personally and could put it in a brand new LLC. If I use my existing business LLC/S-corp to title then (apparently) they will also evaluate its financials - also not a problem. I know risks of co-mingling an asset like this with another business, if the business is ever sued and I bankrupt the company, they could go after my commercial property. On the bright side, the consulting has no real assets, all the funds pass-through to me almost immediately - I'm not afraid of a lawsuit stemming from the property resulting in much seizure of any assets at all related to the consulting business. I'd like to put them both in the existing LLC, but I know many attorney's out there likely hate that idea. Is there any other benefit I'm missing here? One that I can think of is that if I did buy the property through another LLC I could potentially lease a portion of it back to my business (for storage ,etc) and use that as a way to pull money out of the business.
Thanks all. I am learning a lot. I really want to stay away from residential buy, rehab, etc (popular in my friend circle).
Thank you, Ronald. Macro economics, the neighborhood is good and I'm familiar with it. The only question mark is some undeveloped land across the street from the property that is for sale, obvious risk there is someone buying and building more business space. I don't know why they would sell with full occupancy that will run for another few years. The best I can think of is that they have maximized the value and are trying to sell it at the peak.
I'm looking at a deal that is relatively close to home. I run a consulting business that makes my money but by nature has no passive to residual income component - thats a whole other discussion ;). I'm interested in investing in commercial as a way to diversify a large tech-heavy equity portfolio and hedge against some market risk. I don't have a lot of time (due to my main business) which has kept me away from residential real estate for a long time until I started looking at commercial properties. This opportunity strikes me as a bit more hands off due to existing long-term tenant and a neighboring bank that appears to control the property, but it has a potential downside.
I am very interested in your opinion on this unique situation. I would be putting down around 400k on a property in the 1.5M price range which should easily get me to around 70-75% LTV.
It's a small stand alone strip mall-ish like building that has 5 units (1,400sq/ft a piece) which are attached to a 2,700 sq/ft bank on the end. The bank portion is not for the sale, everything else is for sale as a whole (the only other 5 units). Currently, 3 of the units were combined and occupied by a franchise gym and the other two were combined as a doctors office. So it's currently fully occupied. The purchase price is about $1,500,000, cap rate 8.40%, NOI $127,000. The building is very close to a large retailer that is a big draw to the area.
The property technically brings in about $180,000 in gross income. Both tenant leases appear to be NNN as ~55k of that $180,000 gross is CAM, (26k), Insurance (1k), Taxes (24k), and Management (5k). Therefore, the 55k is reimbursed (paid) by the two tenants (unless I understand that wrong). What is news to me is that the CAM fee (26k) is stated as paid to the bank that occupies the end of this building. It appears that there is an association that the bank owns over the property and required (when the place was built) that it forever be responsible for maintaining CAM and that the remaining for-sale property is responsible for reimbursement of CAM to the bank. This is likely because the bank needs to control the appearance heavily, snow removal, etc. This makes sense to me as a necessary precaution for any bank to avoid a connected property from turning into a dump. It is also my understanding that the bank may have built the entire building initially and used the other units to subsidies the cost before eventually selling them as a whole. Although, the CAM of 26k/year seems high to me, but I really don't have experience - I also don't see anywhere that excess is returned.
So while the CAM situation is odd, I do think there is large benefit to having the bank on the property as its a big draw, as is the gym. The lease on the gym runs through 2026 and appears to increase each year about 2k with 2 options for 5 year extensions. The lease on the doctor office runs through 2021 with an increase of about 1k each year. Ideally, I would replace the doctor office with my own business TBD in its place and leverage the other tenants to pay the loan. I like the fact that it is fully occupied (hands off for me), but I know it limits the appreciation due to lack of value-add. Ironically, I've also thought about opening up a gym (of the same franchise) so this is a double bonus for me to house the exact one.
My strategy for this property would be to acquire a 5 yr fixed 20 year amort loan, ride it hands-off until the first lease expires on the doctor office, potentially kick them out and put my own deal in, or if they stay (after I crank up the rent) - I could wait however long until the bank leaves and likely sells the remaining share of the building to me. At that point, I would purchase it and have a nice value-add units 5-10 years down the line. If the bank leaves, the drive-thru and everything else is already setup as part of the building and likely re-purposed for fast food or whatever else could go in there.
Thoughts?