Which Deal Would You Pursue? Or Not.

I been saved on this website before and greatly appreciate it.

Looking to learn and get a better understanding of the two deals listed below including non-financial factors. Both deals will take into account any repairs/etc that needs to be addressed and reduce the offering price. Tried to explain this in another posting but was not successful. Hopefully, I did a better job here.

I been trying to gather information on rentals but that hasn’t come easy, at least not for me. Not a website that provides how long a rental is on the market and what they usually get if its other than the listing price and if anytihng was thrown in to rent it, like a big screen TV…

DEAL 1
Townhouse: 4/3; asking $200k; taxes $2904;insurance $35; HOA $87 - I understand the delimma with HOA’s but can’t purchase a TH without one. SFH more expensive.

$160k mortgage is $823 + $100 profit=$923. Based on 50% rule, rent needs to be $1846.
Operating expenses is $243 tax + $35 insur + $87 HOA + $264 equity loan for downpayment = $629. Leaves $294 for vacancy, maintenance, etc.

Supporting Information: very desirable; great school district; 40 3+/2+ rentals on the market in the two zip codes supported by this school district; rents $1700 and up for 4/3(only five 4+/3+ rentals on the market); area known to rent places within two-four weeks; close to shopping; know this area better than the area in Deal 2 below; $200k cheapest can get a TH and only a couple available in this price range; only condos are less, by $30k, but am not interested in a condo.

DEAL 2
Townhouse: 3/2; asking $85k; taxes $2833; insurance $35; HOA $65

$68k mort is $349 + $100 profit = $439. Based on the 50% rule, rent needs to be $878.
Operating expenses is $234 tax + $35 insur + $55 HOA + $105 equity loan for downpayment = $429. Leaves $6 for vacancy, maintenance, etc, which means I need to increase the rent.

Supporting Information: 140 rentals on the market in two zipcodes; 76 rentals in this one zipcode; rents $1100 and up for 3/2; also close to shopping; a couple of TH available at $85k then jumps to $105k and up; many rentals available on the market.

Looking for some insight. Currently leaning towards Deal 1. Thanks…

Go for number 2.

One thing you want to manage is cash flow and what happens when a vacancy occurs, the cost’s and expenses of #2 are much easier to swallow when you are the one picking up the tab.

Returns are probable similar in relation to size!

Be smart about your portfolio and the investments you make and you will do well.

Good Luck!!

sebringo4,

Yes to Door Number Two!

We are in a depressed economy and many more people can afford an $800+ rent payment than an $1800+ payment. That expensive townhouse might have a higher rate of vacancy. $1800 is in a “house payment” range where most people become home buyers, not renters.

But there could be special local conditions that make Number 1 very attractive.

Furnishedowner

Furnishowner,

I think this is slightly different market from the norm. Could be wrong but doubt it. I live in Northern Virginia. The Federal Government and the military play a very large role in our economy here. We’re not immune to everything, but some areas seems to hold its own.

With the military, the enlisted serve a three year term and then cycle out to their next destination. Military supplements part of their housing and the higher ranks look for a nice area to live with good schools. The three year term, at times, is too short to purchase a house. I believe this is a factor for Deal 1 and why homes rent within 2 - 4 weeks. Number of rentals on the market, even within two zipcodes, is significantly lower than Deal 2 so I expect vancany to be low.

From a financial commitment perspective, I love Deal 2 but my concerns with Deal 2 is the numbers adding up to be competitive and renting it out timely. With approximately 70 rentals on the market in this one zipcode alone, I face stiff competition for Deal 2. So to make this work, I will need to be on the low end of the rental price range and offer a higher quality of house, whether upgraded bath, etc.

Based on the information learned regarding income and expenses, Deal 1 seems to fit better regarding the rules to investing but I may be missing something. I appreciate the feedback from you and Gold River, and am taking a closer look at Deal 2 to see how I could be more confident in addressing my concern about renting it.

With regards…

Neither of these is a good deal in my opinion. You can’t make money on SFH as rentals.

How come? I know most don’t love the SFHs, but if the numbers work out that way, why couldn’t it be profitable? Not challenging, just don’t understand why not.

Three words. Vacancy, Maintenance, Cashflow If a SFH is vacant you have zero income coming in. If it is vacant one month out of the year, your vacancy is 8.5%. In a double, you can have two months where one is empty and your vacancy rate is still 8.5%. Most novice investors don’t account for vacancy and they fail. Across 26 units I routinely maintain a vacancy rate of just 3%. I could not maintain this vacancy rate for SFH. Right now I can have one unit empty nearly 10 months out of the year. I’m not even a big fan of doubles as a long term hold, although I am in the process of buying one right now for purely synergistic reasons with the adjoining 5 unit property I own next door. I love SFH for flips, but I will not buy one to keep it for a long term hold. As a new investor it is great to buy a double and live in one side while renting out the other. In that scenario you can live nearly free as long as the other side is rented. I would rather own 2 four unit buildings instead of 8 SFH. Maintenance, insurance, & taxes will all be lower in the two building scenario and I can generate a lot more income. It would be impossible for me to rent one SFH out for $2000 in my neck of the woods. But I routinely get $2000 of rental income a month from a 4 unit building. Still one property but scenario number two is much more lucrative. Period. Trust me, I’ve done them both. I encourage the purchase of single family homes to flip, just not to keep. Multis the buying pool is smaller so you rarely get market value out of them when selling but once the debt is paid off they are cashflow cows.

Don’t let Propertymanager see that :biggrin

If you are using the 50% rule to assess this deal, then you need to start out by determining what your overhead will be if you purchased with all cash and own this property free and clear. Your overhead will be property taxes, hazard insurance, liability insurance, HOA, advertising, property management, leasing fees, legal fees, utilities included in the rent, utilities during vacancies, vacancy factor, maintenance and upkeep, repairs, trash removal, and a reserve fund contribution for major systems replacements plus whatever other costs are unique to this property.

If all this can be covered by half of the market rent, then look at the financing to see if there will be any cash flow. Financing includes all loan payments (you have a first and second in your example) and PMI if applicable. If all your debt service can be covered by half the rent and you have enough left over for an acceptable cash flow, then you have a candidate property worth considering.

From your numbers, you have $823 debt service on a first mortgage and $264 payment on an equity loan, which gives you a total debt service of $1087. If you still want $100 cash flow, then based on 50% rule, rent needs to be $2374.

If your market rents are $1700 - $2000, you probably won’t see any cash flow in this deal.

Suggest you pass on Deal 1. Deal 2 has potential

Great response. Appreciate it tremendously.

My mistake, or one of them, is that I considered my downpayment(equity loan) as an operating expense and not as part of the P&I.

Regarding the overhead that was listed above:

ADDRESSED IN EXPENSES
Property taxes - included in expenses.
Hazard insurance - included in expenses.
HOA - included in expenses.
Advertising - planned to have a real estate firm handle this and would be address in their fee, which is one month’s rent for finding a renter.
Leasing fees - same as advertising and part of the same fee.
Utilities included in the rent - not included in rent. Renter pays this separately.
Trash Removal - included in the HOA fee.

CLARIFICATION
Maintenance and upkeep - estimate 10%.
Repairs - I included this as part of maintenance and upkeep 10%.
Reserve Fund - I included this in the maintenance also. If its separate, what’s the percentage?

QUESTIONS
Property management - didn’t include it. Plan to do it myself. If I need to include it, the going rate around here is 10% of the rent? Would you include it if you’re planning to manage your property?
Liability insurance - did not address. Is this an umbrella insurance or something else? Umbrella insurance is approximately $240/yr.
Utilities during vacancy - didn’t think of this. Is $120 for activation fee and low usage for electric and water reasonable?
Vacancy factor - do you estimate 5%, 10% or 1 month’s rent? Do you factor the lower percentage because you normally don’t have a yearly turnover for renters?
Legal fees - what do I estimate for this? Originally from “Nu Yawk”, have some family members who could address the issue, if ya know whatdya mean. But they come with a cost too! :slight_smile:

So if I replay this out on Deal 2, it should look like this.
DEAL 2
Townhouse: 3/2; asking $85k; taxes $2833; insurance $35; HOA $65

$68k mort is $349 P&I + $105 Eq Loan + $100 profit = $544. Based on the 50% rule, rent needs to be $1088.
Operating expenses is $234 tax + $35 insur + $65 HOA + $108 maint/repair/res fund + $108 prop mgmt + $20 liab insur + $10 util during vac + $54 vac@5% = $634 not counting legal fees. I’m short -$90 which means I need to increase the rent by $90 to $1168 or using the 50% rule - $1268.

If I just add the $90 shortage to make it $1168, this is still a viable deal.

If I stick with the 50% rule, which is what I’m striving for, I need to find a way to reduce the $1268 to about $1150 to be on the low end of the rents and competitive with the many rentals on the market.

To pursue this, I would need to either:
a. get the property $25k less. Not likely but an option to pursue.
b. reduce expenses, such as property mgt since I’m doing it myself and as long as I accounted my expenses properly.
c. some combination of a & b.

I would like to hear what you would do before deciding to move on if it didn’t work.

Thanks…

Had a typo when I replayed Deal 2 when I added up the P&I line in my response above. I also checked further and have some updated info.

The normal starting price for 3/2 rentals is $1300. I found only one 3/2 at $1200 and another at $1250. I found six between $1300 to $1400 and obviously, the rest were higher.

So if I replay this out on Deal 2, it should look like this.
DEAL 2
Townhouse: 3/2; asking $85k; taxes $2833; insurance $35; HOA $65

$68k mort is $349 P&I + $105 Eq Loan + $100 profit = $554(has $544 on my previous response). Based on the 50% rule, rent needs to be $1108.
Operating expenses is $234 tax + $35 insur + $65 HOA + $108 maint/repair/res fund + $108 prop mgmt + $20 liab insur + $10 util during vac + $54 vac@5% = $634 not counting legal fees. I’m short -$80 which means I need to increase the rent by $80 to $1158 or using the 50% rule - $1268.

This seems to be a very viable opportunity. My rental price with be on the low end for the area and close to amenities, such as shopping, transportation and major roads. If repairs/updates are needed, I need to negotiate this off the asking price to have it still be viable.

Any additional info on the questions in my above response this one, would be greatly appreciated.

Trying to be a newbie that’s in the 2%, rather than the 98% who fail.

With regards,
Sebringc4

Mike buys SFH but he buys them so cheap I know he can get them to cash flow.

Sebringc4,

You are getting excellent advice from everyone. Your analysis will help you make the right decision.

Brockovich has a good point about SFH being more costly because you can’t split the utilities or maintenance between 2 or more units. We have only 1 SFH left because of the higher expenses.

I like especially SFH with a small additional unit, like a mother-in-law quarters. Here they are priced just like single families, many of these guest cottages need rehab. Those small units then turn into real money makers because the acquisition cost was so low.

Only you are an expert on your local area. I understand that the Wash. DC metro area might have a much higher than normal need for upper end rentals.

Good luck on your venture and keep us informed.

Furnishedowner

Vacancy factor of 5% means that you expect your unit to be vacant no more than 18 days per year. When you have tenant turnover, will you be able to do all the cosmetic fixups you always need to do and put a new tenant in place within 18 days? I think this is a bit unrealistic. Renters who are previous renters have to give their landlord 30 days notice. This means that they will move out of their unit near the end of the month in order to move into yours near the beginning of the next month. Expect at least one month vacancy per year so use one month rent as your vacancy allowance. Professional property managers in your area can tell you what their vacancy experience is with similar properties in the same neighborhood. If their experience is three months, then use three months rent for your vacancy allowance.

Repairs fix things that break. When things break is always unplanned and unscheduled. The things that break are almost always plumbing, electrical, or an appliance. You just have to guess how much it may cost to replace a garbage disposal, repair a shorted light fixture, or fix a leaky faucet. A ten percent repair allowance may be too conservative, but you have no history with other properties to project a more accurate number.

Maintenance, upkeep, and cleaning are planned events and their cost can be readily predicted. If you have tenant turnover every year, expect to do touchup painting every year, and completely repaint the interior every five to seven years (maybe sooner if your tenants are smokers). Exterior painting with a good weather resistant paint should last five years. Expect to do a thorough house cleaning every time a tenant vacates. I plan about $200 per year for touchup painting, $1200 - $1800 for a complete interior painting. House cleaning runs me about $150 per year.

Things you need to do regularly that the tenants will never handle on their own are changing furnace filters and replacing smoke detector batteries. Just plan to have a semi-annual HVAC checkup and let the maintenance technicians change filters (I pay about $175 per year for this). Plan to have a professional fire protection service check and tag fire extinguishers every year and replace all smoke detector batteries (I pay about $60 per year for this).

Since your property is a townhouse, expect to need routine pest control treatment. You may have the cleanest tenants in the world, but you have no control over your neighbors and the bug infestation that they may spread. I pay about $60 per quarter for a pest control treatment.

So, adding up all the numbers, I would allow $200 for touchup painting, $150 for cleaning, $175 for HVAC service. $360 for complete interior painting, $60 for fire prevention, and $240 for pest control, giving me $1185 in annual maintenance costs or about $99 per month rounded up. If your HOA does not take care of the exterior painting, then add something more for periodic exterior painting.

Replacement reserve is what you need to tap when you have a major replacement. Roof replacement could be $10K, new HVAC about $6000, carpet replacement about $3000. Expect a new roof to last 25 years, a new HVAC should last 12 years, carpet replacement is a function of wear and tear but will probably need to be done every seven years or sooner. If these numbers are reasonably accurate for your area, and if all your major systems are brand new, then allow $111 per month as a maintenace reserve contribution. If your systems have some age and will need replacement sooner, you need to increase your monthly contribution to ensure that you have the money on hand to handle the major system replacements as they come up.

Property management. Even though you plan to start out managing the property yourself, you will still have costs. It costs you time and money to show the property to every prospective tenant, advertise the property for rent, run a credit check, a landlord check, a reference check, and verify employment. If the tenants are late on rent, there are court costs for filing and serving an eviction notice. If this property is owned by your LLC, then you will have legal fees every time your tenant appears in court or skips on rent and you want a judgment. At some point in time, you will probably want to turn this over to a professional property manager. During your holding period, you will have to conduct maintenance inspections and have to schedule and supervise contractors doing work in your property/. Suggest you allow 10% for management costs even if you self-manage.

Alright noW! If you don’t want me to join your club, just say so! :slight_smile:

This information is great and it amazing how much I’ve learned in the last 72 hours.

I am taking the information provide and replaying Deal 2. It looks like this.

DEAL 2
Townhouse: 3/2; asking $85k; taxes $2833; insurance $35; HOA $65

$68k mort is $349 P&I + $105 Eq Loan + $100 profit = $554. Based on the 50% rule, rent needs to be $1108.

Operating expenses is $234 tax + $35 insur + $65 HOA + $108 repair + $99 maint + $111 res fund + $108 prop mgmt + $20 liab insur + $104 one month vac = $884 not counting legal fees. I’m short -$330 from $544 which is 50% of the rent. I need to increase the rent by $330 to $1438 to cover the higher expenses or using the 50% rule, doubling the $884 to $1788.

Using the 50% rule, this deal doesn’t work. Can’t get $1788 to $1300 inorder to make it competitive to rent. $488 too much to carve. They would have to pay me $15k to take the property! :slight_smile:

Going with the other option by adding the additional expense on top, the deal still has possibilities. I just need to get $1438 to $1300. Here are my thoughts on doing this:

i. reduce the asking price by $28k from $85k to $57k. A slim possibility but not likely.
ii. reduce expenses. Since I’m doing the property management, I should address some of the work.
a. save $150 for interior painting. $360 - $210 for supplies.
b. save $55 for extinguisher and smoke detector. $60 - $5 for batteries.
c. save $180 for pest control. I can learn to spray the insecticide. $240 - $60 for supplies.
d. save $360 from repairs. Still leaves $840 and I’m pretty handy in normal home repairs.
Not keen on doing this and not planning to cut anywhere else.

Save a total $745 or $62/month. Balance is $76 ($138-$62).

iii. combination of i & ii. Keep the $62 savings from ii. and offer $15k less the asking price. This will get the rent to $1300.

Now, I need to ask. Do I have my bases covered? Is this plan sound?

Keep in mind, I’m not married to the property if it doesn’t make sense. I can walk away. But with all the great information provided, I want to pursue this to the end, whether it becomes obvious it not going to work or the plan is sound and I’m ready to take the next step in this process.

I have much appreciation for everyone who took the time to respond, especially the detailed responses. From where I started 72 hours ago to where I’m at now, its night and day. I plan to use the information provided in this deal and have updated my spreadsheet in order to evaluate other properties more efficiently.

With regards,
Sebringc4

I disagree with brocovich, sounds like maybe they did a bad deal and have a sour outlook on it.

Than why don’t you?

Because you still can’t get the return I’m looking for. I can buy a SFH for 25K in my neck of the woods(needs work) but I still will only get about $600/month per rent. I can buy a double for 45K and get $1200. Three unit for 60K and get $1800. Why mess with the SFH when I can rehab it for resale and get immediate return. It takes way to long to get your return and pay off debt on a SFH. I can buy them and I do but I just don’t keep them. Expenses, maintenance and taxes end up being MUCH higher on a per unit basis then triple and quads which are in my wheelhouse. I look for cashflow only. I just bought a 3 unit for $5,000. I will be reducing it to a two unit because it was never designed to be a three. I bought the five unit building next door for 22K a year ago. I have no problem finding deals if that is what you are asking. I would venture to say Mike has more Multis than SFH and I bet he would agree with me that cashflow is better on multis than SFH. Mike do you care to chime in?

You have a lot of rental inventory competing with you. You say rents start at $1100. Suggest you start with a market rent that you are sure you can get, then work your numbers from there.

Dave T, I was mistaken. The $1100 was TH 2/2. The TH 3/2, as of today which is pretty much the same when I clarified it in an earlier posting, currently has 73 rentals on the market. Three 3/2 at $1250, eight between $1300-$1400, ten between $1400-$1500, twenty between $1500-$1600 and the rest go higher. That’s why I feel I need to get the rent close to $1300.

I’m planning to move forward with my updated plan that I posted in my April 3rd - 11:00pm posting. Will keep you posted and many many thanks.

With regards,
Sebringc4