All Forum Posts by: Scott Scribner

"Solid Returns" makes a good point that's worth developing: One is typcially faced with a choice - in varying degrees- between appreciation and income. In my own investing, I started-off in strong middle income areas and found myself cash-poor. I have now gravitated towards lower income areas to increase cash-flow. And it really helps. But you'd be surprised, or, rather, I suprised myself: even in some very rough areas there is suprising rental demand. People want to live in areas they are familiar with. In my instance, I would describe these school districts as terrible.

Looking for help with a creative deal.

12unit apartment for sale for 250K. 7units occupied. 5 need rehab. Needs new roof (20k) and electrical upgrades, etc.. Building currently grosses 4k/mos and would gross 7k when at 100% occupancy. Biggest operating expense is oil heat at 6k/yr. My central question is financing. Owner is willing to take back 100k note and I have thought of going hard-money route for 150K balance. (I have limited liquidity (10-20K) and although I can do work cheaply, I want to save most of ny cash for materials costs) Owner wants 150k to pay off mtge and other real estate expenses - like agent commission. I've asked agent about possibility of master lease until I can fix issues and finance in a year when its financially stronger. Owner mortgage is likely not assumable. Any other ideas or insight how to structure this? If I took ownership a refi would be easy, but with master lease I'm sure LTV even in a year would simply be purchase price - right? Any ideas? help!

First, I'd like to say that I find the language of "blatantly wrong" hyperbolic and not especially helpful to the spirit of community discussion.

It's not that I don't understand operating expenses. The original question was could one find a property that would shoulder 50% operating expenses AND pay a 100% financed mortgage? My answer was - not in CT. Could one find one that would produce enough that would pay for its own expenses IF one paid cash. Well, of course.

Take this hypothetic example based, in part, on actual figures. My 3 family brings-in 3k/month, or 36k/yr. 50% of 36k=18k/yr.

My taxes are 4k, my insurance is just over 1k. That's 5k/yr, taxes and insurance. Snow and lawn average 1k as well. 6k total.

Let's imagine 4 disasterous years in a row - with an eviction every single year at 5K and one major mechanical failure. This, on top of the 6k off the top for taxes, ins/lawn, etc.. We will simply state these as minus 11k listed every single year.

YR 1: -11k,new roof (-12k - just did one) -11k+-12K =-23k. -23K+18k=-5k

Yr 2. -11k + (2 of 3)failed boilers (4k each =8k). (-11k +-8k=-19k)

-19K+18K=-1k

Yr 3: -11k+ 3rd boiler fails (-4K). -15K+18K=+3k

Yr 4: -11k + 3 failed water heaters (3X600=-1800). -12,800+18K+=+5200

My four year total of -5k, -1k, +3k, +5200 = +2200. And this was with an eviction every single year and with a new roof, all 3 new boilers, and all 3 new water heaters. I have never had four years in a row in which a major mechanical system went every single year. And an eviction every year - that's a 33% eviction rate for this little 3 family every year. Even so, I come in under 50%. I didn't do the math, but I'm guessing even in these disasterous years its closer to 30-40%.

I'm sure you'll tell me I have smaller repairs I'm not calculating, as well as water/sewer, etc. And for this example you are right. But I think you'll also agree, with most major mechanical systems repaired, years 5,6,7 are looking very bright.

In reality, most all of my tenants are long-term, professionals. I had one near eviction with 3k lost rent, yet few turn-over costs in 7yrs. Repaints 2x at 1k. In these years I have replaced two water heaters ($1000 total, installed), no boilers and no roof. They are in excellent areas. Short of a meteor striking the earth, I'm imagining this predicted expense rate will drop even further.

Mike;

Would your 50% rule apply the same to a 3 family built in 2008 as it would to one built in 1908? I'm willing to bet no newly built property would conform to your rule. Given that A class commercial tends to be upscale and newly built and C class tends to be older stock, I do see a correlation here. Does it therefore follow that no one should ever buy a newer building? Yet, people do. Why?

You seem to affirm and deny the very same set of data. You say there is no meaningful cap-rate for residental multis (and I agree), yet you attempt to justify the 50% rule for residental-sized mulitis by reference to the very same set of commercial data which you claimed was meaningless for them. So which is it?

I do understand operating expenses, it's just that there are many many variables involved. Including the kind of investing one does. If I paid cash, I would have no problem meeting your 50% rule -ever. Does that then make it a good deal? Yes, we began with the question of the 50% rule and 100% financing. It's just not tenable in CT. All of us CT real estate investors can't be wrong - are we?

I would further add that the very idea of insurance points at the folly of our attempt to predict true operating costs. It's called tragedy. What if all of my tenants lose their jobs in this economic downturn? What if all three of my boilers go at once? Even the 50% rule won't help then.

I know, I know. You are just minimizing risk. And I do appreciate that.

I actually agree with you more than I am letting on, but I am opposed to dogmatically clinging to what I perceive to be an arbitrary figure. Afterall, 50% seems mighty high for 2008 construction.

As for the percentage of operating expenses, my experience has been different. As has been those of several friends with 20+yrs CT investing experience.

But perhaps we'll have to agree to disagree on that one.

Mike;

I'd appreciate if you read the development of this post more carefully. Otherwise, you mis-characterize both my position and my advice.
And that's simply unfair.

Moreover, you speak with a mastery that betrays an attempt at over-reaching in far too many places.

I am not a newbie investor. I have had over 20 buildings, have been investing for 7 years, and am a licensed Realtor. What I do works in CT. And it work for the hundreds of others I have counseled and are now active investors. All of them successful. I do not follow the 50% rule and I have never had a building with an unprofitable year. I have never suggested that newbies buy buildings with negative cash-flows. To do so would be even more irresponsible than your misrepresentation of my view.

I have several issues. Among them:

1) You elide quotes from different members in a way that suggests they come from the same mouth. They do not.

2) You snip a quote that is Not my position, but merely my reiteration of another's, and attribute it me. That's a mis-charaterization. The 50% rule explanation was not mine, but a reiteration phrased as an interrogative. As in, "is this what you mean?". Perhaps THEIR account of it was wrong.

3) I have never suggested that anyone ignore numbers. I'm merely disagreeing with the one size fits all view. That, to me, seems naive. Some make money from cash-flow, some from flips, some from appreciation. As long as you go in with eyes wide-open you'll be OK.

4) I agree that poor math can destroy many newbies. What I also know is that different areas have different expected cap-rates. Do you disagree? You seem to be suggesting that price/earning ratios should be equivalent across the country. That's non-sense. You say the math doesn't change, but if you ask any seasoned commercial investor or broker, I think they will tell you it does. The math does change. "A" class NNN buildings likely sell at a far lower cap rates than C class. In CT, R/E tends to be more expensive. Your suggestion then is that people stay out of the game in CT or go to another state. (You'll note that I am speaking of CT only rather than MA. or OH, because rather than over-reaching, I'd prefer to speak to the local area I know best). I would say out-of-state investing is even more risky for newbies. My suggestion is that the 50% rule, while ideal, is not realistic in certain parts of the country. Rather than never invest, I'm suggesting one be more flexible on the 50% rule. One can get by with less, still profit handsomely, and be reasonably safe. You also seem to suggest that the 50% rule is in stone. Is it then a non-negotiable, magical-absolute that can protect you from every eventuality? It cannot.

Yes, better safe than sorry. And prudence always. But whatever ratio one choses, one should do so with a little humility. The future is always a wild-card . . . and the 50% rule is as arbitrary as any other.

I'll begin my New Year with a confession.

Although I am not a newbie and have been investing for 5+years, I did something stupid last year and paid for it dearly. I bought a 2 family in rough shape and let its low-price and my ego-over-confidence get in the way of a more thorough due-diligence. I'll spare you the details, but in the end I lost about 35k! Yes, expensive education.

I hope to buy a 20u commercial apt. building by the end of this year. I hope to raise about 200K for my 10% down. My plan for this year is to raise money through refinancing two 3units I own - say about (30K +30K) 60K and sell another 3 unit I have for about 60K profit.

I will re-invest the 120K in more 3-4 units. What I have learned about myself is that I am most comfortable not as a flipper, but as a slow-roller. Buy, fix-up, re-rent at market rate and sell - over the course of 1-2yrs. I'm sensing that is who I am. Its good to know oneself. But it is good to grow as well. And that's why I am headed towards my 20unit commercial. Wish me luck and fortitude. What's your plan?

General rules of thumb can stand as precisely that: general guides.

I think what can be gleaned is that . . .

A) All real estate is local. Yes, truism are often true. A rule of thumb that works in one area may not work in another. Such ratios may work in the Midwest, but they are unlikely to work in New England. But that does not mean you cannot still make money. So what then is your strategy?

B) You need to decide what is the best way for YOU to make money. Just because the R/E bubble showed people that the price-to-earnings ratio were out of whack in some areas, does not mean that the phenomena is universal. For instance, the one area near me where I always thought the houses were too expensive is the one area where they continue to climb - even with the bubble-pop. Yes, even now. In other words, appreciation may be a real strategy if you do indeed know your market. But are your pcokets deep enough? Its my understanding the NYC continues to have strong appreciation in the area of 5% even as many other cities go negative. Can you afford appreciation? Can you afford lower P/E ratios? Or, if you are after cash-flow only (say with the 50% rule), do you have the stomach for economically depressed areas in NE? Or even out-of-state investing?

Maybe I am imprudent or too aggressive, but I feel that planning for every possible eventuality and saving for it limits my growth.

Yes, I understand, if you have a 100unit complex and you need a new roof or boiler you are talking big $$$. Maybe 200k for a roof. With residential multis I funnel my cash into new projects to build my total net worth. I have some saved, but I usually approach problems as they happen. I typically spend 2k/yr on unexpected expenses per building. If a roof or boiler is going, I'm not surprised. I can tell you already that I will need a new roof on one of my building in the next 2-5 yrs. I'm already planning for it. I had an eviction this summer that cost me 5k in rents/legal. Again, these are, on the whole, small figures. I roll with it. Are these real expenses, yes. How often do they happen? That was my first eviction across 14 units in 5 yrs.

I don't think it would be easy to find a 3-family in a reasonable neighborhood that fits the stats you've offered this guy. I say this not only as an active investor, but as a licensed Realtor. It would be near impossible to find a good 3-family in my area for under 250K. And that's one that need some serious fixin'. Most sell for closer to 325-350K. A mortgage on 250K is easily 2k. With an expected 3k a month income you are paying 2k to mortgage and only 1k left for other expenses. Again, there is not your suggested 50% remainder. By your own formula, you could NEVER EVER buy mulifamilies in Connecticut, unless of course you are willing to suffer gun-shot wounds as another uncalculated expense ;).
And even in the ghetto, I'm not sure your number would work.

My experience in investing in 3-4units (over the past 5 yrs) is quite different. Most gross about 3k/month per building. That's 36k/yr. My insurance is typically $1700. Taxes about 4k. That's $5700/yr. You gents are suggesting 50% of my 36k gross to expenses? That's 18k/yr. 18k-5700=$12,300 remaining. That seems mighty high for management, lawncare, water/sewer, and a new water-heater. Heck with that, I could buy a boiler every year and get a new roof every other year with the remaining $$$. ! I think your 50% mark is way off - at least for 3-4 units. At least that's my experience of owning 4 buildings simultaneously over the past 5yrs. Or perhaps I've misunderstood something.

I also think its crazy to assume no appreciation. Yes, you cannot predict the future, but we are not talking strip-malls here! Cash-flow is typically small in residential multis. While one cannot predict the rate of appreciation, I'm willing to bet the whole farm that over 10yrs there will be substantial appreciation. In fact, when that tenant does trash your apartment, it may be the one thought that get you through! I know it is for me.

Just bought another 4unit in July for 230k. Dumped 20k into it, just appraised at 325k. Now that's what gets me through.

By the way, I mean roughly $500 PER MONTH beyond basic operating costs.

I don't want to under-estimate the value of doing your math. However, if we could really predict the future with Excel, we'd all be ridiculously wealthy. Remember, even a brand-new roof has only 25 years. One might pay 20k for a roof! That's 1k a year over 20 yrs. That said, I think 10% of NOI is a reasonable figure. The truth is though, you'll take some un-expected hits BUT you'll win out overall with huge equity gains over the long-haul.

Since you seem very grounded in numbers, I feel comfortable saying to you that I think what you are not calculating is the cost of INACTION. Did you miss a great 3 family at $250K that had 75K instant equity in it because you were waiting for the market to settle out anther 3% (read: 7K)? Will you wait another year trying to figure-out the perfect calculation for estimated repairs?
I'm teasing, of course. Sure, do your math. BUT, get out there and do it!

As for section 8, I'm a bit new to it. Only about 1 yr. But its fairly pain-free. Tenant decides they like your building. You fill out sec 8 paper-work, they inspect (just basic safety stuff and livibility). Gov. sends you some ratio of rent - like 75% of it in the mail. Tenant pays the rest. What is great though is there is motivation for tenant to pay her 25% on-time. If not, she'll be ejected from the program. Hope this helps.