56 units + office building in prime location, adjacent to air force base and expecting 8000 new soldiers here in near future. offered below appraisal, rea says just reduced 250,000. cap rate 9.05, cash on cash return 13.81%. Free 100% Leased 4032 sf office building . Those are the highlights, ne never mentioned the lowlights:} Their asking 2,500.000 and I know its too high but where would I start to negotiate w/ him to see how low they would go? If they’re all rented and bring in 225,000 mth rent. What would be the most you would go on this property?? You guys have saved my butt twice already. I have been studying day and nite but panic when time to negotiate. I might get a negotiater to speak for me. Thankss
It looks to me like you’re flailing around. First an big residential, now commercial and residential. Do you have any experience? If not, then I would strongly suggest starting smaller. The very fact that you don’t know how much to offer means that you are not ready to buy something like this.
Mike
I am weighing my options. Some rental experience, nothing big time like apts. I can figure the rents by .02 but do you ever not use that method if it has other circumstances to interest you like location and growth in town, wouldn’t you be willing to give a little more for these? and if they are in good shape like just been remodeled? Just asking?
Some rental experience, nothing big time like apts. I can figure the rents by .02 but do you ever not use that method if it has other circumstances to interest you like location and growth in town, wouldn't you be willing to give a little more for these? and if they are in good shape like just been remodeled? Just asking?
I tried to eat location and growth, but found it wouldn’t buy as many groceries as cash! This is strictly business for me. The only thing that matters is how much cash is left at the end of the month.
Mike
Thanks, I am really am trying to soak up as much info as I can learn. I did the Trump institute study course and I really have learned more on these forums than all my courses I took. :bobble
Ruready,
Dividing the rents by .02, or any other number, is an extremely simplistic technique that is marginally useful for screening deals – period. At best it’s a go/no-go tool which suggests little about the total profit potential for a property.
Yes, you’re flailing, but I like your approach to thinking big. I hope it fits your lifestyle. The deal you presented is a multi-use residential/office property which requires a considerable amount of due diligence and will require a tremendous amount of work. This information you provided doesn’t come close to allowing any kind of financial evaluation (though I must say I like the 9+ cap). I have a few bigger picture questions to think about:
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At closing will there be any equity in the deal other than your down payment. That is, is the seller leaving anything on the table? Is the cap rate high for the area? Are the market rents low enough for you to force some equity by raising rents to market level? Are there improvements you can make to enable rent increases and force equity? Buying mismanaged buildings with below market rents are one of the simplest ways to force equity and create wealth. (Notice that low asking rents might not initially meet your .02 criteria and you’ll perhaps overlook deals.)
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Is the property in an area with high appreciation? If so, buying at the market and simply waiting is another way to make money. For example, those who bought SFRs in southwest Florida in 2003-2005 could pay market price, wait a short while, and flip their deals at the closing table. This was extreme but, as you know, commercial real estate is valued on income so rising rents naturally cause appreciation. Areas with high foreclosure rates are currently undergoing increases in rents. Are you in one? What are the office and multi-unit rental markets like in your area (really two separate questions). What would cause them to rise (influx of military)? Or fall? How’s the business climate, including office vacancy rates? What’s the local economy like. Who might rent your office?
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Depreciation on relatively high value buildings can create substantial tax benefits. If you do this full time, perhaps manage your own properties, or can somehow call yourself a “real estate professional” in the eyes of the IRS, you can often eliminate any tax liability at the end of the year by taking a depreciation expense beyond the $25k passive income limits allowed by Uncle Sam. Sorry this is not cash at the end of the month, but it also allows you to build wealth by leveraging the additional cash. Allowing you to keep your own money in and of itself is not really wealth building, so most wouldn’t recommend using tax savings as an investment strategy alone, but it does add to the deal and must be considered. This is one reason why asking a question like “what should I offer” is superficial at best. Part of the decision is based on your combined marginal tax rate.
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How much income does the deal throw off? Or, from an efficiency point of view, what’s the cash-on-cash return? You astutely answered this above. As importantly, what cash-on-on cash return to you require? If you have substantial income, and are perhaps in a high tax bracket, it’s entirely possible that monthly income is not your highest priority. Consider land banking as an example. Here you receive no cash flow, no equity, no depreciation, but hope for appreciation. Property development is another obvious way to make money that has no immediate income. Can part of your property be developed? Lastly, you often don’t want any income if you invest through an IRA. Thus, while cash is always king, depending upon your circumstances, it might not meet all your long term goals.
These are generally accepted as the four parameters (equity, income, tax benefits, and appreciation) for making money in real estate. Commercial deals are so competitive, it’s important to understand and evaluate all the parameters and squeeze profit from each. Unless commercial deals are so plentiful in your area (as SFRs might be) you really have to look beyond the surface of rent/.02.
Lastly, I strongly suggest that before you buy anything, you spend some time developing a set of personal goals. What do you want and when do you need it? I don’t just mean money. Volumes have been written on this. The last thing you want is to get into a multi-million real estate deal and realize it doesn’t meet your goals. Assuming it does however; develop a set of investment criteria to match and provide these to the commercial brokers. After that, come back to this board with your investment criteria, a deal, all the relevant numbers, a market analysis, and then ask if it fits for you. At this point of course, you really won’t have to – you’ll know.
Equity,
If you knew anything about residential real estate, you would know that the monthly gross rents need to be about 2% of the acquisition cost (purchase price + repairs) for the property to generate a reasonable cash flow. This is just simple math and is highly effective as a screening tool. Please note that this certainly is NOT the only thing you should do to evaluate a property. Obviously, you should also consider the equity (I won’t buy without at least 30% equity at closing) and I won’t buy unless I will have at least $100 per unit per month in positive cash flow.
I do NOT consider appreciation. I am in business to make money, not speculate. I only do deals that are a sure thing. Do people make money speculating on appreciation? Yes, and they also make money going to Las Vegas and putting it all on RED. I don’t do either. Additionally, you talked about people making money in Florida with appreciation in 2003-2005 and that’s certainly true. However, you didn’t mention all the people who lost their butt after that by speculating in Florida, California, Las Vegas and all the other “Hot” areas.
I also agree with you that there are tax benefits to rental properties - very nice tax benefits, but I can’t eat tax benefits - certainly not if you’re a real estate professional. If you are a real estate professional, all that really means is that you’re not paying taxes at the end of the year. You get to keep the money you earn, but you don’t get extra. If you are in a high tax bracket from a job, then you are not normally going to be a real estate professional from an IRS standpoint.
So, while I agree with you that equity, appreciation, and tax benefits are good things, they are just icing on the cake. For most people, what really matters is CASH. Bleeding cash at the end of the month is what causes the majority of newbies to fail.
Mike
I completely agree. If the 2% rull is all you know about cash flowing a property, then you will have a better cash flowing tool then 90% of the investors out there. If you fail and use the 2% rule, it will be because of other reasons then cash flow.
Iron Range,
Out of curiosity. If you came across a property (specifically a multifamily in the 6-12 unit range) that cash flowed at $100-125/month/unit, but it didn’t meet the .02 rule - would you still be interested? (i.e. what if that % came in at ~.015?)
This would logically require a larger down payment, therefore hurting the cash on cash return.
Just curious about your thoughts.
Thanks.
hart,
If you could find a deal that cash flowed $100-125 a month using 1.5%, then yes. But there would have to be unique circumstances for this to be true. An example “might” be if the building was 2 years old then it would obviously have new flooring, new roof, new boiler, new etc. Then I might entertain the idea of 1.5%.
I would focus more on finding properties that are close to 2%, and focus less on finding ways around the 2% rule.