@Ryan Zaninovich First off, I love your approach to measuring cash flow. That’s exactly the way we evaluate deals. And 12% net is exactly the minimum we’re looking for if we pay cash (and we’re getting it consistently). We’re seeking (and getting) 20% to 30% cash on cash returns if we use a loan (or refi). I agree with you that when you truly factor in ALL the expenses (which many investors don’t), you’ll have your net income equal to 50% of rents on lower price point homes. We invest in what we classify as C and B neighborhoods (it seems everyone measures that a little different). We don’t do D (war zone) neighborhoods.
Yeah, we invest in low income neighborhoods, but it’s working class people. We definitely aren’t slumlords, but I know a lot of investors don’t like to buy in the neighborhoods we invest in. That’s fine with me—less competition. The quality of the neighborhood and the cash flow you can get are connected. If you want good cash flow, you have to be willing to go to neighborhoods you might not want to live in yourself, but they aren’t that bad either.
We only invest in markets that have growing population, growing jobs, and a growing economy. We also look for great rent to price ratios. We live in Utah, but we invest remote, so we can cherry pick the best markets. Detroit is too rough for us (and doesn’t meet the criteria above). Most of Ohio is too rough for us, especially Cleveland (and doesn’t meet the criteria above). My favorite market for rentals right now is Kansas City.
For example, two days ago I closed on an off market house for $33,000. Closing costs were $258 (the seller covered the rest). Recently renovated, but still needs some work. About $5000 in various repairs. C+ neighborhood. Our property manager listed it for rent yesterday morning at $775 and had 4 showings immediately scheduled for the same day. One lady filled out an application and put down a deposit. We have strict screening, and she’ll likely qualify. Several more people called after wanting showings. We probably should have listed it for $800, but that’s okay.
We budget 10% for vacancy (although we won’t be that low). Our property manager (who specializes in these exact type of rentals and has been for many years) charges us 8% because we bring them so much business (the right property manager is EVERYTHING on low income neighborhood rentals). Taxes are $487 a year. Insurance is $451 a year. The landlord has to pay for storm water of $240 a year. The tenant cover all other utilities. No hoa. That leaves us with $1930 a year for maintanence, repairs, and miscellaneous (and it won’t be that high).
With those numbers, it's a 12% net ROI (and expenses are 51% of rents). We'll end up above 12% in all likelihood. After we refinance (which we can do in one month with one of our lenders if we don't mind a higher interest rate, worst LTV, and higher closing cost, or we can wait a year and get the very best terms), the cash on cash return will crank up to 25% or higher, especially if it appraises for more than we put into it, which is likely since comps are around $50k to $60k.
This isn’t a big rehab. Not a crazy project. You don’t have to rehab a foreclosure to get these returns. I have two more houses I’m closing on next week that are currently rented with long term tenants, and the numbers are even better. I honestly have more deals than I can buy.
I’ve seen plenty of articles and comments saying that the 2% rules needs to die and that this rule gets investors into trouble in bad neighborhoods. I agree you have to be careful and do it right, but it’s totally possible. And you don’t have to live in the market or manage the properties yourself to make it work. This property has rents equal to 2.02% of the purchase price (including closing costs and repairs), so it’s a perfect example of how this rule can work.
Yeah, we’ll have security doors on the house and a cage over the AC unit, but this definitely isn’t in the slums. It a good enough neighborhood to attract a good tenant that can pass a credit check and background check, have stable income, and will pay their bills and take care of the home.
We might do a few more evictions and deal with a little more drama than the guy investing in a top-notch neighborhood getting 5-8% returns, but that's okay. We'll make way more money in the end. I'm not selling anything. I'm just a guy that believes in good cash flow on rentals. I didn't get into real estate to make 7%. Don't give up on good cash flow. Long live the 2% rule! Or more accurately, long live 12% net ROI! (with 25%+ cash on cash returns when using a loan!).
