For the real estate investors - check out these numbers

[Greebo]

You may recall - some time back I asked some general advice about starting a business with the goal of becoming a landlord in mind.

Since then we have:
- Retained an attorney (thanks, Adam, for the referral, he's GREAT)
- Founded an LLC
- Begun the search for a CPA
- Opened separate checking accounts
- Developed tools for analyzing prospective properties to buy

Time to find a place!

So after much shopping around, we think we've found a property we want to move on.

Here are the fundamentals:
Asking price: 175,000
Tax appraisal: 91,040
Zillow estimate: 252,000 ->> rediculously high
HomeValue estimate: 141,000
Estimated total monthly expenses: $1,173.18 (tax, mortgage, insurance, water)
Gross rent (after min 5% increase on takeover): $1,620
Rent multiplier: 108.02
Gross Income Multiplier: 9.00

Two units, tenants both there > 1 year and want to stay. Owner indicates *NO* issues with lates or complaints about tenants. (Owner selling due to divorce, I gather).

The units are in great condition. The upstairs is rented by a single man, kept very neat. The downstairs has an older mom, her 2 daughters, and their two infant daughters, but again, kept very neat and seemed very nice at first meeting.

There's a lot more #'s, but the above is what we think is our most reasonable estimate. Naturally, we'll try to haggle on the list price - probably by about 10,000.

So - landlords - based on just the numbers, are we making the right call, are we absolutely foolish, or somewhere in the middle?

Call me wishy washy - I like the unbiased outside opinion.

 

[Dave Siciliano]

Looks good Chuck, but I can't tell how much equity you will invest. Take the numbers you have above, add some yearly maintenance number for normal wear and tear stuff and a reserve number for things that could arise like painting the exterior, wood trim replacement, sewer line stopped up etc. Then, you will have cash flow.

Then consider any tax benefit you might derive and compute the cash value of that. That leaves yield on equity invested. If you really want to do a business pro forma, compute sales price in five years (or your expected life) take aways sales expenses and closing costs; tax consequence and you will have a turn key projection.

Best,

Dave

 

[Greebo]

We don't have much real equity to start. By that, I mean we are leveraging equity in our own home to get started, and the plan is to leverage to buy, refi, then repeat. All of my profit potentials are based on 100% financing.

I've looked at some of the other numbers mentioned - and while the property is sort of on the bottom edge of what I'd like to see as profit margin both immediate and long term, its within acceptable ranges, and the selection of properties out there that are already occupied with *good* tenants is, of course, much scarcer than the unoccupieds or the occupieds with crappy tenants.

Oh yeah - my brother in law may also go in with us on this, but what we'll do there is sell him an unsecured promissory note on whatever he puts in with a kicker clause that when the property is sold, he'll get a % of the profits based on his % of the original downpayment. (figure 20k down, 5k his, so he'll get 5% on 5k ($250/yr) after the first year plus 25% of capital gains after the sale in future). It works for him, because - well - he's really not much of an investor and 5% is WAY better than the 0.75% he gets on his 5k now, and for us because its a lot easier to "borrow" his money than it is to add him as a partial partner, etc.

 

[woodstock]

Some random brainstorming/things to consider:

Are you guaranteeing your BIL 5% per year on his money regardless if the house depreciates and you sell at a loss? If you take a loss - is he taking a proportional loss (I assume he is).

It sounds like you net around 450 a month unless there are other costs you will cover for the tenants - the things that I would think of "blowing up" and taking all of one year's profits would be the furnace or maybe appliances. Do you have a comfort level that those are sound for a few years - especially the furnace, was it serviced regularly, etc.

Check to make sure the insurance you were quoted is adequate for the property/with tenants. If you haven't gotten your own quote, not a bad idea to check it out in case the current landlord is cheaping out on it. My parents have had two properties go up in flames in the 35 years they've been landlords - luckily they were fully covered and there were no adverse effects to them.

Any surprises in store regarding taxes? Have they gotten their most recent assessment?

 

[AdamZ]

Chuck the attorney should be able to direct you to a qualified CPA

 

[Greebo]

Are you guaranteeing your BIL 5% per year on his money regardless if the house depreciates and you sell at a loss? If you take a loss - is he taking a proportional loss (I assume he is).

The original idea was to partner but that's more complicated than he (or we) wants. The 5% will be after the first year, and yes, *IF* we sold at a loss (and I know the market's suffering, but we intend this to be long term, and long term real estate rarely loses) then yes he would lose too.

It sounds like you net around 450 a month unless there are other costs you will cover for the tenants - the things that I would think of "blowing up" and taking all of one year's profits would be the furnace or maybe appliances. Do you have a comfort level that those are sound for a few years - especially the furnace, was it serviced regularly, etc.

Good question on the furnace - I will ask. I have given a cursory inspection to the major's myself and they *look* alright. However, you're right, a year's profit might be wiped out by something like that.

Check to make sure the insurance you were quoted is adequate for the property/with tenants. If you haven't gotten your own quote, not a bad idea to check it out in case the current landlord is cheaping out on it. My parents have had two properties go up in flames in the 35 years they've been landlords - luckily they were fully covered and there were no adverse effects to them.

Way ahead of you. The quote is my estimate but its based on quotes I've gotten on other properties with a fudge factor built in.

Any surprises in store regarding taxes? Have they gotten their most recent assessment?

It's actually an assessment for 2008.

Chuck the attorney should be able to direct you to a qualified CPA

Adam - no doubt of it, but as it happens, our banker's son is a CPA and he's supposed to get back to me soon with a referral.

If that doesn't pan out, we'll go to Kirk.

----------------------------

For the first year, we don't expect the property to be a cash cow, by any means. However, I don't *do* adjustable mortgages, and property values in this area are well established (1944 is the average construction time for these places), so tax increases are historically predictable. The rents will go up over time faster than costs, and its the long term return we're thinking about here.

 

[KennyFlys]

Just a thought but do the leases in effect require the tenants to carry renter's insurance? I carry it for both contents, shell damage and loss of use/dislocation; all at a very low rate.

If tenants do not carry it, I wonder if it would be worth a small financial incentive. It seems a claim for potential tenant damages could be more cost effective on their policy than on the landlord's policy. On the same side, I wonder if such a requirement and proof of the tenant's policy would be a means to reduce premiums on the landlord's policy.

I'm just brainstorming here. It's less painful than reading a PTS.

 

[gprellwitz]

I'm just brainstorming here. It's less painful than reading a PTS.

PTS = Putrid Treadmill Site?

 

[Greebo]

Just a thought but do the leases in effect require the tenants to carry renter's insurance? I carry it for both contents, shell damage and loss of use/dislocation; all at a very low rate.

If tenants do not carry it, I wonder if it would be worth a small financial incentive. It seems a claim for potential tenant damages could be more cost effective on their policy than on the landlord's policy. On the same side, I wonder if such a requirement and proof of the tenant's policy would be a means to reduce premiums on the landlord's policy.

I'm just brainstorming here. It's less painful than reading a PTS.

Current leases are month to month but tenants are > year long tenants. M2m is because of pending sale. FUTURE lease will require renters insurance

Good question about whether proof of renters insurance can lower owners...

 

[astanley]

Chuck,

What's your cash reserve, or, what percentage of yearly gross do you plan on retaining as your maintenance reserve? Year one always has a way of costing more than even the most conservative planner can anticipate (especially since you are tapping your equity reserves), and $445 (cash flow alone) doesn't leave you a great deal of room if two appliances pop in the same month.

What's your tolerance for a no-occupancy situation? Half occupancy?

All in all your reasoning is sound, but I'm focusing on how you are personally hedging the investment (or, mitigating risk through a credit line or cash on hand).

Cheers,

-Andrew

 

[Greebo]

Intention is to put all proceeds into the bank until we have 4+ months expenses in reserve. That means for the first year, we bank just about everything.

We can afford a little personal mitigation, so we're willing to accept that risk.

 

[mikea]

Current leases are month to month but tenants are > year long tenants. M2m is because of pending sale. FUTURE lease will require renters insurance

Good question about whether proof of renters insurance can lower owners...

When I looked at it the most glaring problem was what happens to your revenues, much less your profit picture if you miss only ONE month's rent? Do you think those wunnerful tenants will never move to a house of their own?

 

[Greebo]

When I looked at it the most glaring problem was what happens to your revenues, much less your profit picture if you miss only ONE month's rent? Do you think those wunnerful tenants will never move to a house of their own?

Another fair question.

The neighborhood in question has a very large renter population, and so finding replacement renters will not be terribly difficult (and yes, we do intend to screen them carefully).

Financially, we are fortunate enough at this point to be in a situation where we could cover the mortgage on the property even were it to be FULLY unoccupied. While it wouldn't be *fun* to cover said mortgage on our own, we could do so without going into debt, for long enough to fill the vacancy.

And of course, in due time the intention is to have enough profit from additional properties coming in that across the properties we could handle a 15% vacancy factor.

In the *short* term, however, (as in, 1 year), no I don't see at least one of the tenants moving anytime soon. Looking around their place, I think they're the permanent renter types. The upstairs guy, otoh, probably will someday, but for now, the tenants have expressed a desire to stay.

 

[kevin47881]

Money aside, here's something you need to come to terms with:

Can you evict a mother and child for non-payment of rent? How long do you float them before pulling the trigger? How long does the eviction process take in your state? It can be a tough question to answer but you need to me mentally prepared for the task.

 

[Greebo]

Money aside, here's something you need to come to terms with:

Can you evict a mother and child for non-payment of rent?

Oh, I'm pretty sure I can.

How long do you float them before pulling the trigger?

I don't.

How long does the eviction process take in your state?

Failure to pay can go to court 15 days after the due date. By the start of the following month, they can be out.

I've done my research. I'm not unsympathetic, but I'm also not a charity.