Author Topic: Help me evaluate a (potential) first rental property  (Read 5261 times)

Frs1661

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Help me evaluate a (potential) first rental property
« on: February 14, 2016, 06:32:21 PM »
After reading this forum, John Schaub's book (Building Wealth One House at a Time), biggerpockets.com, affordanything.com, and listening to various podcasts, I have decided to include buy and hold rental properties in my FI plan. I like the diversification away from equities, and the potential for higher returns. My wife and I plan to move to a particular rural LCOL area once we FIRE, so I am concentrating on properties there (about 4 hours from my current HCOL location). I would plan to take over management of the properties once I am actually FIRED in the area. I am currently evaluating what would be my first offer on a rental.

Property: Triplex in a small-med rural town. Property values and employment have been stable thanks to a large university in a neighboring town. Built in 1900. Listing only has one exterior photo, so interior conditions are unknown. I assume significant updating will be required.

Asking price: 115k, down from 125k. Has been on the market for 250+ days. Listing describes the seller as 'motivated' but the long time on the market seems to be at odds with that...

Rents: All three units are currently rented for a total of $1500/month. One unit has had the same tenant for 15 years.

Property taxes: $504/yr (low tax area)

Other expenses: Unknown, will assume 50% rule for now. Is it reasonable to ask for a year or two of the books when evaluating a property? We will be using a property manager, yet to be picked out, Does the 50% rule include management? I've not included it below.

Financing: I plan to float the possibility of seller financing w/10% down @ 4-5% interest for 30 years. 5% interest would lead to $560 mortgage payments. As Schaub says, this could be win-win for the right seller.

Cash flow: At asking price, $175/mo. This is a little low for me. If i can get it for 100K this goes up to $252, or $300 for 90k.

Thoughts; worth pursuing? I think the ask is a little steep (not much in the way of triplex comps though, with it being a rural town), but could be a good property it i can get at lower price. If it needs major work, the price would have to drop enough to compensate for me to be interested.


iamlindoro

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Re: Help me evaluate a (potential) first rental property
« Reply #1 on: February 14, 2016, 08:12:31 PM »
It *could* be a good one, but you surely need a lot more information to know for sure.  Everything will depend on the condition of the property (especially the major expenses like roof, mechanicals, etc), purchase price and cost to get rent-ready the next time you turn a tenant.  No internal photos and long time on market are at least notes of concern, but they're not necessarily dealbreakers.

First, YES, it's reasonable to request Schedule E filings for the past several years.  Some sellers may not divulge these until they have an offer.  Sellers who won't divulge them ever should set off alarm bells.

50% rule doesn't explicitly include or not include management, but my places include management and have managed to sit around 40-60% expenses so far.

I have to ask:  Are you floating the idea of seller financing because you hope to get advantageous financing, or because you don't currently have the capital to make the 25% down payment that you will need to make to get traditional financing?  If you don't have the 25% + closing costs + cash to perform updates, I would give serious thought to whether you are ready.  A duplex is more expensive than a SFH to run.  That's why we hope for 2% returns per month on multifamily, rather than 1%+ being okay.  You have three sets of most mechanicals and generally higher vacancy than average with multifamily.  $500 per unit would be in the "danger zone" for me in per-unit rent.  I try to stick to properties $650+ in rents (for multifamily) and $800+ (for SFH).

Rural *can* mean higher vacancy and vulnerability to local downturns, because rural economies aren't as diversified.  It can also mean being stuck with a very limited set of PMs, contractors, and other local tradespeople.  How many PMs can you fire if they don't do a good job without exhausting the local supply?  I like mid-sized cities or larger, personally, but that's just my preference, it doesn't mean this property is or isn't a good idea.

My verdict?  Worth sending in an agent to evaluate condition critically and asking for further numbers, but certainly not enough info to say it's worth an offer at this time.

Frs1661

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Re: Help me evaluate a (potential) first rental property
« Reply #2 on: February 15, 2016, 12:05:24 PM »
Thanks for the detailed reply! We do have enough to use conventional financing, but I'd prefer to hang onto a larger cash reserve as we get started in case of expenses I haven't anticipated. I agree that it seems very borderline at list (with a lot of unknowns), but if it happens to be in good condition and the seller will work with us on price and financing terms a bit it may be worth pursuing.



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Frs1661

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Re: Help me evaluate a (potential) first rental property
« Reply #3 on: February 20, 2016, 10:40:22 AM »
Heard back from my agent, the interior is very rough and it needs a new roof. Passing on this one.

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arebelspy

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Re: Help me evaluate a (potential) first rental property
« Reply #4 on: February 20, 2016, 10:51:51 AM »
Heard back from my agent, the interior is very rough and it needs a new roof. Passing on this one.

Sometimes taking on those things are where you can get the best deals.  On the market for 250 days could be a stubborn seller, or just no interested buyers.  It could give you a lot of leverage in negotiations.
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Another Reader

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Re: Help me evaluate a (potential) first rental property
« Reply #5 on: February 20, 2016, 11:27:41 AM »
The property likely cannot be financed in the current condition.  Offers will probably only come from low ball cash investors.  Either they aren't interested in this one because of condition, or the seller is unrealistic.

Frs1661

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Re: Help me evaluate a (potential) first rental property
« Reply #6 on: February 20, 2016, 11:29:18 AM »
Intellectually, I know you're right, arebelspy, but I'm scared of buying something that needs too much work as a first property. Perhaps I should get over this fear.  My agent, who apparently invests herself, pooh-poohed this property and tried to upsell us to a 150k property that rents for $1290+$110/mo hoa (no thanks).

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Frs1661

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Re: Help me evaluate a (potential) first rental property
« Reply #7 on: February 20, 2016, 11:31:17 AM »
The property likely cannot be financed in the current condition.  Offers will probably only come from low ball cash investors.  Either they aren't interested in this one because of condition, or the seller is unrealistic.
Getting financing could also be an issue, depending on how bad the roof/other issues are. I haven't even seen photos of the interior to evaluate it's shape for myself. It's fully rented, so how bad could it be...?

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Another Reader

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Re: Help me evaluate a (potential) first rental property
« Reply #8 on: February 20, 2016, 11:33:59 AM »
Your agent might be picking up the good ones for her portfolio...  Perhaps she would be willing to share the details of her most recent purchases with you.  If she's buying properties where the numbers don't work or skimming off the cream, then she is not the agent you want.

Frs1661

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Re: Help me evaluate a (potential) first rental property
« Reply #9 on: February 20, 2016, 11:46:15 AM »
Your agent might be picking up the good ones for her portfolio...  Perhaps she would be willing to share the details of her most recent purchases with you.  If she's buying properties where the numbers don't work or skimming off the cream, then she is not the agent you want.
Agreed, this at least bears further discussion with her. She was highly recommended by an investor we trust so I'd be surprised if she was being outright dishonest. Her buying criteria may not be in agreement with mine though.

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clarkfan1979

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Re: Help me evaluate a (potential) first rental property
« Reply #10 on: February 20, 2016, 05:22:15 PM »
Some agents specialize in rental properties and some do not. I think it helps if you and the agent on are the same page. If you are looking for a rental with good numbers and your agent keeps on showing you fancy turn-key houses with horrible rental numbers it's going to be a waste of time for both parties.

clarkfan1979

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Re: Help me evaluate a (potential) first rental property
« Reply #11 on: February 20, 2016, 05:26:50 PM »
One more thing. Before I bought my first rental, it was November and I told my real estate agent that I would like to start looking in March. I had a lot of personal health issues that I was taking care of that was more important. He asked me in late November if I wanted to look at a property. I simply stated that I already explained to him that I wasn't ready until March and if he asked me again before then I was going to drop him as an agent. He learned and waited until March. Tell you agent that if she shows you one more fancy turn key house with horrible rental numbers that you are going to drop her. 

Frs1661

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Re: Help me evaluate a (potential) first rental property
« Reply #12 on: March 14, 2016, 01:08:29 PM »
An update; the seller finally got me his Sched E and leases for the property. Two of the leases are two-year term, ending in March 2017, and one is a 3-year term, ending in March 2018. The sched E revealed that he is paying ~$3400/yr in electric/water/sewer/recycling on the property. The listing says it has electric heat and heat is paid by the tenants, so this confuses me (agent is checking on this). The leases do not say anything about tenant paying heat. ~$2800 of this appears to be water/electric usage that could be passed on to the tenants if I get it metered separately before new leases start. I'll have to get a quote to do that, but I'm betting it won't be easy/cheap since it's was built in 1895 as a SFR.

One other weird point on the Schedule E was $3700 in 'supplies'. No idea what this could be. I thought 'supplies' meant cleaning supplies and the like?

The seller'a agent describes the property as needing:"Roof, gutters, flooring, paint, updates to some of the baths and kitchens. Electric should be solid, no foundation or structural issues to my knowledge. Just needs some TLC". The roof is not leaking, just at the end of its life. Not sure how to estimate these costs prior to putting a bid in and getting contractors in there. $5k for the roof+ $5k/unit for flooring/updates ($20k total)?

I've also contacted several PM firms in the area and built their costs in iamlindoro's helpful google sheet. I have included $5k for a roof, but nothing for the updates (since it is rented without them...) or that inexplicable $3700 'supplies' charge. It cash flows at ~$50/mo at asking price (116k) with 10% vacancy (2% cash ROI, no thanks). At $76k it cash flows ~$220/month for 12% cash ROI. Rents are probably slightly below market once the units are updated a bit.

My agent is going to grab a couple interior photos so I can get an idea what it needs update-wise on the inside. Once I receive the photos and get an answer about the $3700 in 'supplies' I will probably offer around $76k and expect to be rejected. For reference the seller paid $86k in 2006. This area was not hit hard by the housing crisis, valuations have been relatively flat.

Thoughts?

Frs1661

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Re: Help me evaluate a (potential) first rental property
« Reply #13 on: March 14, 2016, 01:09:35 PM »
Some agents specialize in rental properties and some do not. I think it helps if you and the agent on are the same page. If you are looking for a rental with good numbers and your agent keeps on showing you fancy turn-key houses with horrible rental numbers it's going to be a waste of time for both parties.

Agreed; I thought this agent would be good, as she has 22 rental units in the area of her own. Seems her idea of good investment and mine differ.

zephyr911

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Re: Help me evaluate a (potential) first rental property
« Reply #14 on: March 15, 2016, 06:34:31 AM »
Your agent might be picking up the good ones for her portfolio...  Perhaps she would be willing to share the details of her most recent purchases with you.  If she's buying properties where the numbers don't work or skimming off the cream, then she is not the agent you want.
Agreed, this at least bears further discussion with her. She was highly recommended by an investor we trust so I'd be surprised if she was being outright dishonest. Her buying criteria may not be in agreement with mine though.

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Frs1661

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Re: Help me evaluate a (potential) first rental property
« Reply #15 on: April 18, 2016, 04:31:15 AM »
We finally got a look at this place and, wow is it a nightmare. 8 people had to be emptied out of the barely 1800 sq ft building so we could have the tour. The building is chopped up into a horribly cramped warren of tiny rooms. It has been smoked in probably since smoking was invented. It has every possible bit of deferred maintenance you could think of; roof, appliances, plumbing, electrical, kitchens. The laundry area is uninsulated and unheated, so the pipes freeze with regularity. One of the tenants was smoking while using oxygen. Each tenant has multiple pets that apparently use the floor as their bathroom. These tenants are all signed to multi-year leases, so they would be tough to get out. With a ton of cash on hand, rehab experience, and a low enough price I'm sure this could be turned around- but not by me. A D- property.  Hard pass from us.

We saw two other similarly priced properties that are in close to rental-ready, that will give similar gross rents. I may do a separate post on those when I have some time. Thanks for your thoughts and opinions!

arebelspy

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Re: Help me evaluate a (potential) first rental property
« Reply #16 on: April 18, 2016, 06:03:49 AM »
Passing on this one.

I thought you passed two months ago?  What made you take another look now?

Like I said, this can be where opportunity happens.  Maybe not this one, but keep in mind asking prices should have nothing to do with your offer price.
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Frs1661

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Re: Help me evaluate a (potential) first rental property
« Reply #17 on: April 18, 2016, 08:21:38 AM »
Passing on this one.

I thought you passed two months ago?  What made you take another look now?

Like I said, this can be where opportunity happens.  Maybe not this one, but keep in mind asking prices should have nothing to do with your offer price.
I was in the area to look at two other properties and figured I may as well look in on this one. It was a good learning experience if nothing else. :)