Chapter 5: Working The Property
Recall that we were able to buy a tax lien on a 3-bedroom plus den house as a result of our inquiry at the Tax Assessor’s Office. As it turns out, the former owner did not redeem the tax lien within the time limit allowed by law. Oh-oh! What do we do now? We’re stuck with a house and our money is tied-up and now we’re on the hook for annual property taxes and, and, and. Cheer-up! The best result you could have hoped-for has just happened. Yes, you say, but just look at this dump. It’s vacant. It has 15 doorways and only three (3) actual doors. Windows are broken. Ceiling light fixtures are missing and bare wires are hanging down. Door moldings are missing. The carpet is filthy. One partition wall was never finished and bare studs are showing. Holes have been kicked through the drywall in other rooms. The drain from the bathroom sink goes through the outside wall and just pours out into the back yard. The back yard is piled high with trash. What’s a mother to do?
Well, the first thing we do is we don’t panic. We review our numbers and remember that we now own a house free-and-clear of all encumbrances and at a price tag of only $14,698.00. Sure, it will take some work to clean-up and make repairs, but the market value in fixed-up shape is somewhere around $60,000 to $75,000. We have lots of wiggle room.
We make an assessment of what is needed to put the house back into livable shape. We determine that only seven doors need replacing because we can leave five of the doorways open. We will need to do some serious electrical repairs since even the main electrical breaker box has been destroyed and all the ceiling light fixtures need to be replaced. While we’re at it, we decided to replace all the wall outlets and light switches just to upgrade the electrical for safety reasons. We note there is a standard drainpipe in the bathroom but that it has been bypassed with the drainpipe going through the outside wall into the back yard. We surmise that the standard drain line is simply clogged and the former owner was too cheap to hire a roto-rooter to cleanout the pipe. The washbasin is an old Pullman style steel version that was popular in the late 1950s and early 1960s. The overflow has rusted through so it will need to be replaced along with a new faucet and drain assembly. The tub/shower and toilet seem serviceable but the shower wall covering needs to be replaced. We will need to drywall that portion of the partition wall that was never finished as well as repair the other walls that have had holes kicked in them. The inside and outside will need complete repainting. Someone has ripped off some of the outside wood shiplap siding on the rear of the house which will need to be replaced. The junk dumped primarily in the backyard will need to be removed. Oh my, it’s all so over-whelming. I’ll bet it will cost $15,000 to $20,000 too, right? Wrong! Our actual bill to make all these repairs totaled just under $4000. If you understand how we accomplish this, you will spot deals that less knowledgeable investors miss.
First, we could have just wholesaled this junker to a rehabber who would then make the necessary repairs. Since we have such a low purchase price, we could afford to sell at a very low price and still make a sizable profit for ourselves. However, this is really our first project and perhaps worth the do-it-yourself learning experience to find out just what is really involved in this kind of project. That way, when we spot future projects similar to this one, we will have firsthand knowledge of what’s involved and how easy it is to fix. This is not rocket science.
We start by hiring Philip, a handyman, to clean up the trash that has been dumped in the backyard. Philip charges us $10/hour and finishes the job in ten (10) hours. We’ve spent $100. Meanwhile, we clean out the few items left inside the house and which have no real value. Philip agrees to take these items to the dump along with the trash from the yard. However, before Philip can dispose of these items, neighbors and passers-by take several pieces. Just that much less to haul-off.
We make a list of all the materials we will need to complete the repairs. We note the number of light switches, wall outlets, ceiling lights, doors and door hardware, window glass and other miscellaneous items needed. Then we go to the local Home Depot to price/purchase these items. Most of the items seem reasonably priced and we purchase them at Home Depot. The ceiling light fixtures seem priced on the high side, however, with even the cheapest fixture costing $20. We pass on the light fixtures at Home Depot and go across the street to WalMart where we find ceiling light fixtures complete with 4-blade fans for $14.88 each. We purchase a total of four combination lights with fans to be used in the three bedrooms and one in the living room. We select white blades for the bedrooms and wood-grained blades for the living room, all at the same price. We also note that WalMart paint is significantly less expensive than at Home Depot and we purchase 5-gallon pails of the paint we will need for both the inside and outside.
As an aside, you can purchase “Oops” paint at a fraction of the retail cost from most home improvement centers. This is paint that was not accepted by the original buyer for whatever reason such as color mis-match. If you purchase all the available light colored paint and then mix together in a large tub or clean garbage can, you can “mix” your own color and save a bundle in the process.
Back at Home Depot, we obtain all the electrical switches and outlets we will need including a 125 amp main breaker box. We also purchase 5 hollow-core inside doors and one pre-hung solid-core outside door since the back door to the house was completely missing. We also buy one pre-hung inside door assembly because the doorway through the partition wall into the master bedroom is only 24 inches wide and we want a 32-inch wide door to match the doorway sizes throughout the house. We will use the 24-inch door assembly we removed from the master bedroom at the entryway to the den, instead. We also buy the new style ceramic Pullman washbasin, faucet and drain assembly.
We were considering remodeling the entire kitchen and we priced the cost of the materials at Home Depot. Brand new cabinets and sink countertop plus sink and drain would cost $1000, installed. Remember this is a modest house and the sink and cabinets only occupy one wall. However, the existing cabinets are made from knotty pine and add an unusual and interesting look to the existing kitchen, so we defer this expense for the moment.
While we are just starting on the needed repairs, we also run a classified ad in the Houses For Sale section of the local newspaper. We really don’t want to be a landlord of this property, but we recognize that a quick way to market the property would be to offer it on a rent-to-own basis. The ad we place reads as follows:
Rent to own. No bank needed. 3-bedroom plus den on large lot near Courthouse Square. 555-5555
Our first phone call came from a woman the night before the ad was scheduled to appear in the paper. We surmised she must have had an inside source tip her as to the property availability. She was looking for just such a place for her daughter and son-in-law so they could live nearby. We told her the property address, that the property was just in the process of being remodeled, but that it would be ready for occupancy by the middle of the following month. We also recorded her name and phone number.
The day that the ad appeared and for the following several days, the phone seemed to ring off the hook. Some 50 interested parties responded to that single ad. We told each caller the status of the property and got their name and phone number. The ad came out on a Wednesday. By Friday, we had sold the property. Since the phone continued to ring, we had to tell the callers that the property had been sold. However, we continued the conversations by asking if they were in a hurry to find a place or if they were just in the market for the right place when it came along. We explained that we frequently have houses like this for sale and although this one has been sold, we’d be happy to contact them when we got another house that might be of interest to them. Almost without exception, the callers said they would indeed like to be notified when we had another similar house for sale. What we are doing is building a Buyer’s List. Why reinvent the wheel each time you have a place for sale? Doesn’t it make much more sense to already have a list of interested buyers? That way, when you get the next property, the chances are you already have a buyer for that property before your escrow closes. Many times, you’ll elect to simply flip a property from the person you’re buying it from directly to the person you will be selling it to. As you gain experience doing this, you will gain confidence that you can, indeed, make an offer on a property and be able to market that property in a timely manner.
Well, now we’re under a deadline. We’ve accepted a tenant/buyer for the property and we’ve barely started on the remodeling. What to do? Our tenant /-buyer is a husband and wife with two early-teen daughters. They’ve been renting a smaller house just 3 blocks away. They really like the larger house and the fact that each daughter can now have her own bedroom. Additionally, the separate den offers the daughters a place to relax while the parents entertain in the living room. Their problem has been that they have poor credit due to mistakes they made in the past. They both have good jobs now and both have been at their respective employment for over a year. Still, they can’t yet qualify for a regular bank loan. Not a problem for us. We simply structure a lease with an option to purchase at the end of that lease.
We have two basic prices to negotiate. First is the monthly rent and second is the purchase price if they elect to buy at the end of the lease. We’ve surveyed the neighborhood and find that $550 to $700 per month is the rental range for similar accommodations. We’d already determined that the market price ranged from $60,000 to $75,000. We point this out to our tenant/buyer as a point from which to start negotiating. We also note what needs to be done to make the house a comfortable place to live. The husband and wife tell us that they would be willing to do some of the work in exchange for a lower rent. We agree to rent to them for $500 per month which is somewhat below the current market in exchange for their willingness to help with the remodeling. In exchange, they agree to paint the inside of the house. They further offer to replace the flooring in the kitchen and replace the kitchen sink countertop, both at their own expense. They also agree to replace the shower wall covering and bathroom floor at their own expense. Any time you get a tenant willing to spend their own money on your property, you know they will take care of that property. Furthermore, it is an excellent indication that they are serious about purchasing the home at the end of the lease. Finally, we negotiate the purchase price at the end of the first year to be $49,900 with a minimum of 5% down payment in addition to a $1000 non-refundable option payment up-front. If they elect to not exercise their option to purchase, they have the option to continue to rent but at a higher monthly figure. They can also renegotiate the option to purchase, but again at a higher figure. We agree to complete the rest of the repairs and we make a list of all the repairs to be done by each party. We both sign that agreement so that we will both know when we have each completed our agreed part of the contract.
As for the lease-option itself, we used our own forms for this agreement. However, as a Newbie, you would be well advised to have your attorney (one who specializes in real estate transactions) handle this for you. The reason is that the tenant cannot later come back to you and claim you didn’t explain all the details at the time they signed the papers. If the attorney presents the documents, the tenant has no defense. This would be especially true if the tenant elected not to exercise the purchase option and then wanted their non-refundable option payment back. It’s just a cleaner way to avoid any misunderstandings if events do not work out as expected.
NOTE: Stay tuned for Part 5B because this Chapter exceeds the REI limit per posting