Best Class for Rentals - A, B, C, or D

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Best Class for Rentals - A, B, C, or D

Riley F.
New York City, NY · Member since 2013 · 136 posts · 76 votes

I was listening to Brie's podcast this morning and I started thinking about which class, over the long run, is the best for rental income (and headaches) : A, B, C, or D. I don't want to quibble about definitions, so in your response you can just explain what you mean by the class that you prefer to invest in., and what class you would consider that in your area.

I currently own B-/C+ properties, which are largely blue collar rural neighborhoods, the buildings are about 40 years old, are duplexes, suitable size, but certainly not where I would live given the choice. One of the things I am noticing is that repairs are generally required each month, at least for the first 3 months. Though I don't expect it to persist, I suspect that they will certainly exceed that of a Class A fresh rehab or new construction. It would seem to me that the caliber of renter is slightly lower than what I'd like or what Brie is seeing in Chicago, but the numbers, at least on paper are very good, approximately 30% CoC in KCMO, depending on variables. Also, I am certain there is an eviction somewhere on the horizon if I keep up with the class, not sure when.

I know that real estate is local, and that this is going to vary greatly from market to market, but I'd like to hear your opinions.

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James Wise
Real Estate Broker · Cleveland Dayton Cincinnati Toledo Columbus & Akron, OH · Member since 2013 · 30k+ posts · 20k+ votes
12y

B-C. 

D is a hassle

A is to expensive

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  • Richard Redding
    Investor · Round Rock, TX · Member since 2013 · 42 posts · 34 votes
    12y

    In my experience, when it comes to rentals and profitability it comes down to attracting good, trainable tenants that believe one should pay their debts. I think you're on the wrong track by focusing on the condition of the property.

    So in that sense, I'd say avoid C and D property, even if they appear to have better cash flow, as they will only attract the wrong type of people. The wrong people are late on rent, make unreasonable repair requests, damage the property, and frankly can rationalize any type of behavior they want.

    For definition C and D would be in average to poor condition, on busy streets, on 'rental' streets (cars parked in yard, sofas in yard, etc), poor schools, grocery store too far away so primary food source in convenience mart.

    I'm in Austin, FYI

    3Reply
  • James Wise
    Real Estate Broker · Cleveland Dayton Cincinnati Toledo Columbus & Akron, OH · Member since 2013 · 30k+ posts · 20k+ votes
    12y

    B-C. 

    D is a hassle

    A is to expensive

    6Reply
  • Riley F.
    OP
    New York City, NY · Member since 2013 · 136 posts · 76 votes
    12y

    @Richard Redding 

    I didn't intend to focus on the building, just trying to give pertinent information. A new construction with granite and stainless in the ghetto isn't an A prop - this I certainly understand. School district for me is a 6/10 good schools.

    0Reply
  • Curtis BidwellPro Member
    Rental Property Investor · Olympia, WA · Member since 2014 · 781 posts · 744 votes
    12y

    This is a great question and I look forward to the input. I have 'A' SFR and 'C' apartments.

    • My 'per door' income is comparable even though I have far more invested per door in SFR.
    • As a percentage, we are also very similar in equity position -this being a factor of how and when we purchased.  

    I would like to think my SFR folks were better tenants, but reality is it's all about interacting with people. Yes, they make more $, but I still have to send notices to mow the lawn, put the boat in storage, etc... I have higher turnover costs on the SFR because it is larger - painting more sq ft, lawn/yard prep, etc...

    I find I can attract a quality tenant regardless of the type of property if it is maintained to an appropriate standard, is clean and I am professional in my dealings. That sets the standard for what I can charge (vs my neighbor), how my tenants behave and whether they want to rent from me.

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    4Reply
  • Steve B.
    Engineer · Portland, OR · Member since 2014 · 1k+ posts · 1k+ votes
    12y

    First of all I disagree with most of what Curtis just said.

    Class A and B+ rentals don't make a lot of sense as they don't cash flow.  Rather then revisit the appreciation(SF clique) " vs. cashflow (midwest 2% clubbers).  I'm going to assume you want income rather than hanging about with negative cash-flow properties for appreciation potential.

    Class D properties offer the best cashflow but they simply don't suit the  lifestyle and aptitudes of most investors who don't want to deal with constant drama, theft,  and repairs and collecting rent checks physically, on some fraction of your properties that pay accompanied by armed security guards.  I do think these investments offer great opportunities but only for those who are the type to operate liquor stores in the inner city.

    Class C properties can offer decent cash flow 1-1.5% GRM while also offering appreciation in markets with good systematic demographics. Also they attract a stable blue collar rental crowd that are usually just below the ability to buy their own houses but above the income level of defaulting on payments.

    3Reply
  • Steve B.
    Engineer · Portland, OR · Member since 2014 · 1k+ posts · 1k+ votes
    12y
    Originally posted by @James Wise:

    B-C. 

    D is a hassle

    A is to expensive

     this is probably a more succinct way of stating it correctly

    0Reply
  • Kimberly T.
    Investor · Colorado Springs CO · Member since 2014 · 535 posts · 253 votes
    12y

    I think I agree with some others here that 'A' is too expensive (thus low or no cash flow), and 'D' is too troublesome.

    Our goal is to get pretty good cash flow without a lot of headaches (just like everyone else, I'm sure).  We own small multifamily in B-C areas (which, for me, means I can get a tenant who's pretty clean, has at least 600 credit score, and makes at least 3x rent).  We're not looking to rent to high-maintenance snobs, nor are we looking to rent to ghetto druggies.  We want clean, decent people who pay the rent on time, don't damage my property, and don't bother the neighbors - and that's generally what we get.

    1Reply
  • Justin Scarborough
    Contractor · Marengo, OH · Member since 2014 · 13 posts · 6 votes
    12y

    I learned in Ds, cash flow was great but required to much of my time. Im trying to convert to Cs. Cs to me rural housing in high demand areas. 

    0Reply
  • James Park
    Real Estate Broker · Johns Creek, GA · Member since 2009 · 870 posts · 664 votes
    12y

    I think the key is to find B- SFRs in A neighborboods, fix them up, rehab, rent them out, and hold them into retirement. In the past three years, I have only bought in the B+/A neighborhoods. My best purchase was a 4bed / 2.5 2450 sq/ft SFR new construction in a A neighborhood in 2012 for $170k and trading at $270 today. The net cash on cash return is 30% and appreciation is around 58%. Obviously I can't duplicate this model in 2014.

    I have been debating whether i should 1) look at buying new houses in a B-/C+ neighborhood in top 50% ranking schools or 2) buy a fixer upper B- SFR in an A neighborhood in top 3% ranking schools to target atleast 10% cash on cash return. Today, I am convinced to take the path of option #2.  Finding the deals is the toughest part of this business and I love the challenge.

    My goal as an investor is not to own and manage 100 SFRs, but to build a Six figure retirement with the least amount of A/B class SFRs as possible.  

    5Reply
  • Engelo RumoraBusiness Member
    Investor · Toledo, OH · Member since 2013 · 4k+ posts · 2k+ votes
    12y

    Hey guys,

    Just wrote a blog for Bigger Pockets on this exact topic where I share my perception on the different classes:

    http://www.biggerpockets.com/renewsblog/2014/06/28/abcs-real-estate-asset-classes/

    Thanks and have a great day.

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    3Reply
  • Walt Payne
    Real Estate Investor · Sebastian, FL · Member since 2014 · 812 posts · 432 votes
    12y

    I guess it depends on your perspective. There are a ton of A+ properties in my farm area, then dropping to B+, not really much in the typical A range. Those A+ properties are high enough that I couldn't trade my total net worth as a down payment. Like the one my brother is painting right now. The guest house is 40,000 sq ft. Yeah, hotel size. So I shoot for the C+ and B- properties in B+ neighborhoods. Solid value with forced appreciation. I prefer fix and hold to get the best property for the money.

    0Reply
  • William Robison
    Real Estate Consultant · Kansas City, MO · Member since 2013 · 388 posts · 200 votes
    12y

    Defining a property by class, such as A, B C or D is nearly impossible.  Each person will have their own definition of the differences between the properties.  To someone that buys brand new fourplexes, that is considered an A prop, but that same person will think that a 10 year old building may be a B prop in the same area.  

    We label houses in terms of 4/3/2 meaning a property with 4 bedrooms, 3 bathrooms and a 2 car garage.  I believe that our industry should coin a new metric of similar distinction.  Rather than simply an arbitrary property class based upon a single individuals perspective, I think there should certain elements placed into this new metric.

    For example:

    The first number could be a reflection of greatschools.org number for the school rating.  In Riley's example, he has a property in a 6/10, so the first number would be a 6.

    The second number could be a reflection of the age of a property, since this will have a impact on repairs into the future.  A new building would be a 0, and 100 year old build would be a 10.  At 40 years old, a 4.

    The third number should be a reflection of the economics of the immediate area.  Zip code based or even narrower if possible.  Say a community has an avg household income of 50998 and the overall greater market area has an avg of 41877.  50998/41877 gives a property a 1.2 rating in economics.  

    A fourth number could be the rent rate versus to community average.  Say a property brings in $695 rent and the market area average for a 2 bedroom from rentometer.com has an average of $577, that would mean that the subject must have some superiority to the average in that community.  In this example, 695/577 is 1.2.

    So, given these examples, this property would be rated a 6/4/1.2/1.2 as reflected by schools/age/economics/rent.

    Certainly this metric could include a lot more data, but simplicity is the key.  This metric could also be adjusted to better suited analysis and is just what my mind could come up with at 6am this morning.

    All the best with everyones investments.

    4Reply
  • William Robison
    Real Estate Consultant · Kansas City, MO · Member since 2013 · 388 posts · 200 votes
    12y

    Already another idea....the metric needs to include a number for crime statistics.  City-data gives a number annually for an area.  They also report a US avg., which for 2012 was 291 per 100,000 population.  Say a town has a number of 246, that could be reported as 246/291 of .85...

    So the metric could be a 6/4/1.2/1.2/.85

    Again, all the best.

    0Reply
  • Riley F.
    OP
    New York City, NY · Member since 2013 · 136 posts · 76 votes
    12y

    I'd love to hear some more folks opinions on this one.

    To piggyback on Will's idea, I think it makes sense, though it might be better converting all metrics into 1 to 10 scores using percentiles or using a +  or from -1 to 1 score being the best for a given stat, thereby making it easier to understand. To convert: 

    Schools / age / economy / rent / crime

    6/10; 6/10; +.2; +.2; +.15

    The flip side of this is, I think that schools tend to be a very good proxy for the quality of the neighborhood overall because it takes so much of the other information into consideration at the outset. Rarely do I see 10 schools in areas that are poorly developed economically with very high crime.

    I'd be interested to hear everyone else ideas on this. I think a 6/10 Great Schools rating roughly equates to a C+ property.

    0Reply
  • Corey Demuth
    Real Estate Agent · Tampa, FL · Member since 2009 · 456 posts · 123 votes
    12y

    As I was reading this thread, I was thinking how A/B/C/D is meaningless by itself for our purposes. You could have an "A" property but it's on the corner of Get Shot st & Get Raped ave. This is actually somewhat common in NYC; there are blocks in medium to bad neighborhoods that are literally a checkerboard of nice new houses mixed with run down dumps that look like they could be crack houses. I doubt you are going to get "A" rent in that situation but you will be paying "A" maintenance and the seller will no doubt try to get an "A" price for such properties.

    @William Robison touched on this when he mentioned that a crime statistic should be included. I have found over the last few years in trying to get into investing around the NYC area, that the only areas around here that could cash flow well, are in what I would consider to be rough neighborhoods. This was a much bigger factor than the condition of the buildings. The numbers never worked on any places in areas where I would feel safe to walk around with my girlfriend at night. Thus, investing in the five boroughs is out for me.

    As an aside, on one of my property research expeditions in the Bronx, I remember as I was getting off the bus the bus driver stopped me. She gave me a grave look of concern and said "Honey, you do me a favor and make sure you get yourself back on this bus before the sun goes down, you hear me?" Her statement turned out to be very sound advice indeed. I think I checked out about 2 out of the 10 properties I had planned to see before getting the hell out of dodge. One does occasionally need to temper their desire for cash flow against their will to live.

    Frankly I don't think a brand new renovated rental (a so-called "A") is going to produce a better return on your investment than a "C," provided they are in the same class of neighborhood - you will just spend more to acquire and maintain them. (And the people who rent those types of places will expect you to go crazy bringing it back to near-new condition in between tenants.)

    I think the real trick is finding an area that isn't super gentrified - I hope I am using the term correctly - but yet isn't a horribly dangerous, sketchy neighborhood. Based on months of preliminary research, it seems like the sweet spot for me is going to be B/C properties in terms of the building condition overall. For neighborhoods, I use a numeric scale from 1-10 where 10 is Mr. Roger's Neighborhood and 1 is Mos Eisley Cantina. 5 is about as low as I am willing to even consider. So basically, I am looking for properties between C5 - B7. Anything above B7 is overpriced and not going to cash flow much if at all.

    Live in an A10, but rent out B5's.

    0Reply
  • Jay HinrichsBusiness Member
    Real Estate Consultant · Summerlin, NV · Member since 2014 · 45k+ posts · 66k+ votes
    12y

    @Corey Demuth   the A B C D definition is directly related to the Hood and those issues you rasie so if the asset is in a high crime area and is brand new its still not A or B.

    or it could be like our properties here in Oregon that are 70 years old just OK but are A's as they are rented by Hipsters paying top end rents and they pay on time everytime and do not trash the units

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  • William P.
    Real Estate Investor · CA · Member since 2011 · 47 posts · 14 votes
    12y
    Originally posted by @Jay Hinrichs:

    .

    or it could be like our properties here in Oregon that are 70 years old just OK but are A's as they are rented by Hipsters paying top end rents and they pay on time everytime and do not trash the units

    Exactly, here in the SF Bay area there are not a lot of new properties in the good areas.  Its all been built up years ago.  The stuff is exurban and quite a drive from the employment centers.

    Out here, I think location frequently trumps condition.  After all, its location that makes a 3/2 1500 square foot house in Palo Alto go for 1.8M

    1Reply
  • Bryan N.
    Investor · Hampton Roads, VA · Member since 2014 · 1k+ posts · 418 votes
    12y

    @Riley F. 

    To directly answer your question:

    If it cash flows and you can find "low maintenace" tenants its the best class for a rental.

    0Reply
  • William P.
    Real Estate Investor · CA · Member since 2011 · 47 posts · 14 votes
    12y

    Originally posted by @Riley F.:

    I was listening to Brie's podcast this morning and I started thinking about which class, over the long run, is the best for rental income (and headaches) : A, B, C, or D. I don't want to quibble about definitions, so in your response you can just explain what you mean by the class that you prefer to invest in., and what class you would consider that in your area.

    • I think this is a bit like saying, what is better vanilla or chocolate ice cream.  Different people have different skills, amounts of capital, amounts of time, opportunity costs of their time, tolerance for risk, etc  That drives what type of investing makes sense for them.
    • For instance, I have no interest in the lower end SFH.  I'd have to buy a fair amount of them for it to be a meaningful investment for me, I am not terribly interested in near term income, as my marginal tax rate is quite high here in CA.  So I'd like to find  higher end properties bought well, find good tenants, and hope for appreciation and income down the road when my earned income is lower, Some might call that speculation, but that's where I am.   I dont need another job, I just want to diversify my investments a bit,
    • Alternatively, someone else might find D properties a way to get in cheaply, or a way to earn a full time living investing in them for immediate cash flow.  Hi involvement may be OK for them.   
    2Reply
  • Jay HinrichsBusiness Member
    Real Estate Consultant · Summerlin, NV · Member since 2014 · 45k+ posts · 66k+ votes
    12y

    @William P. 

      William please don't remind me of the 1.8  3 and 2 in Pa.. I sold mine in 92 for 450K I would a  should a kept it as a rental even though it would have been a negavite % rule by 100 to 300 a month for a few years.. But I thought no way it could go up much further I would be spend 3k a year to keep it.... that is concundrum of the top end markets... and the timing of them.

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  • William P.
    Real Estate Investor · CA · Member since 2011 · 47 posts · 14 votes
    12y

    @JayHinrichs --  the Peninsula is absolutely on fire right now.  Its not just housing prices, its rents as well.  I live in a mid range suburb a few miles north of PA.  4/3 2500 just up the street just sold for 2M.  Immediately went on rental market at 7K per.  Rents  really, really high compared to just 4-5 years ago.  Social Media is all between MtnView and SF.  This tech boom is a centered farther north than the 1997-2001 boom

    Yeah, 1992 was a good time to be buying in PA, as was just about ever other year since.  I suppose it is now as well.  They say trees cant grow to the sky, but other than a earthquake, I think the Peninsula is pretty well positioned.  Talented people from all over the country and the world come here every day.

    1Reply
  • Account Closed
    Investor · Singapore · Member since 2013 · 1k+ posts · 3k+ votes
    12y

    I don't think classification is that hard. You can simply look at the rent for a basic 3 br SFR. If its an A property your rent will be over $1200/month. If its a B property it will be 900-1100/month and for a C it may be 700-850 per month and a D would be in the 500-700/month. Less than that I don't even want to think of a letter class!

    If you buy a "A" property, there has to be some appreciation potential to make it work. Otherwise there are easier and lower risk ways to make 5% on your money. The B/C types seem to be the balance of risk and reward. You need to pay attention to them though and manage the expenses because they could eat you alive. I own several C properties and the real numbers are of course not as good as the pro formas but still good enough. Vacancy is the key cost driver, far more than maintenance. We will soon have two A+ rentals in the Bay Area since we bought a new home and will put up two current Bay Area homes as rentals. Since we have owned them for a while, the actual cash flows will be positive by about $500 per month and with the long term appreciation trends here, its a good idea to keep them. But if I had to put in cash every month I'm not sure if I would do it.

    0Reply
  • J. MartinPro Member
    Rental Property Investor · Oakland, CA · Member since 2011 · 3k+ posts · 2k+ votes
    12y
    Originally posted by @Account Closed:

    I don't think classification is that hard. You can simply look at the rent for a basic 3 br SFR. If its an A property your rent will be over $1200/month. If its a B property it will be 900-1100/month and for a C it may be 700-850 per month and a D would be in the 500-700/month. Less than that I don't even want to think of a letter class! ...

    I guess this is all out of state neighborhood classification?...

    I have 2br apartments in E Oakland renting for $1,400.. But not quite A... lol

    1Reply
  • Corey Demuth
    Real Estate Agent · Tampa, FL · Member since 2009 · 456 posts · 123 votes
    12y
    Originally posted by @J. Martin:
    Originally posted by @Account Closed:

    I don't think classification is that hard. You can simply look at the rent for a basic 3 br SFR. If its an A property your rent will be over $1200/month. If its a B property it will be 900-1100/month and for a C it may be 700-850 per month and a D would be in the 500-700/month. Less than that I don't even want to think of a letter class! ...

    I guess this is all out of state neighborhood classification?...

    I have 2br apartments in E Oakland renting for $1,400.. But not quite A... lol

    LMAO. Yeah, in NYC $1200 won't even get you a 1bdrm in a decent neighborhood, never mind a 3bdrm SFR!

    I still think neighborhood and property need to both be assessed, and not combined into one rating. Which is better - an old badly outdated unit in need of major repairs, that is located in a great area, or a brand new modern unit in a seedy area?

    0Reply
  • David C.
    Investor · Bay Area, CA · Member since 2014 · 207 posts · 190 votes
    12y

    @William P. bought up a good point. If you are already high in ordinary earn income, do you really care about immediate cash flow? A better strategy would be buying properties with high appreciation potential, take more tax write off to push down your tax rate, let the property seasoned, once cash flow catches up/equity increases, draw from HELOC or cash out refi to invest more. I know this goes against some conventional investment rules and won't work in other areas, but people in the bay area seems to benefit from this strategy.\

    @Jay Hinrichs mentioned how cheap houses were in the bay area many years ago. Barrier of entry is always high in the Peninsula, but once you get on the train, it is pretty much automatic and crash resistance. Look at the period between 2008 to 2010, home prices in PA were pretty stable relative to rest of California, property owners from area like PA had the ability to draw from their home equity via HELOC/Cash out Refi to buy distress properties in nearby cities at great discount. Where do you think all those cash offers come from? :)

    Peninsula properties are expensive for a reason, not just from a desirability stand point, but a very powerful asset during down turn, at least the last one :)

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