Normally, I’m not a huge fan of condos. For one, the HOAs usually eat up your cash flow. Secondly, they generally don’t have as much liquidity as houses (at least in sprawled out cities containing mostly houses like Kansas City), and that’s especially true if the market takes a turn for the worse. And finally, you don’t have much control over the complex or the HOA, so if it goes south, you and your equity are just along for the ride.
And that was the thought that ran through my head when I first saw a package of 17 condos come across my desk (OK, my email). Well, actually, the first thought was, “What in the hell is this?”
The portfolio wasn’t just 17 condos spread throughout town or even throughout a large complex. Instead, it was 17 condos in a 35-unit complex. We were basically being offered half of an apartment complex.
On the plus side, the units were all rented and in good shape and it was a very nice complex in a very nice part of Kansas City. But it was still one of the strangest offers I’ve seen put in front of me.
How the Deal Got to Me
The reason this deal got so weird is that the seller bought the property right before the financial crisis of 2007-2008. Back then, buying apartments and turning them into condos for resale was all the rage. And while it was very profitable before the crash, it was somewhat less profitable afterwards.
After the market collapsed, the seller retrenched and simply rented the units out. Around 2016, he started selling them again, but shortly thereafter got tired of the slow process (you can’t list all of them at once or you would flood the market and sink the sales prices) and so he decided to list his remaining condos as a package.
When I first saw the deal, the total price of the package was, more or less, the value of each individual condo combined, about $125,000 each. Given the oddities of this deal and my distaste for condos, I passed almost immediately.
They Made Me Do It
But then the deal got a whole lot more interesting. You see, this deal fell in what I call “The Goldilocks Zone.” It was too small for large scale and institutional buyers, but it was also too big for onesie-twosie buyers. We were one of very few buyers that would actually be interested in such a property.
So the price fell—a lot! The original list price was $2.2 million, and there were no takers. The next time I saw it, it was $1.6 million!
As you can expect, I set up an appointment to view it.
After reviewing the financials (they were good) and the one recently vacated unit (it was in good shape), we made our offer of $1.4 million. After a little back and forth, we settled at $1.45 million. This was only a little more than $85,000/unit, and no condo in that complex had ever sold for less than $100,000! I didn’t want to buy it, but how could I possibly say no?
The Due Diligence
No matter how good a property looks on paper, you always have to do your due diligence. In this case, I walked every unit and made an estimate of repairs. The estimate didn’t come to much, but this was still important to know. I talked to the HOA manager and maintenance supervisor, spent an incredibly monotonous hour carefully reading the HOA bylaws, and reviewed the financials and every lease. I also reviewed the seller’s Phase 1 and lead/asbestos inspections from when he purchased the property. The size of a property that justifies ordering a Phase 1 is a bit of a grey area, but if we were buying the entire apartment, I believe it would have been worth ordering a new one. In this case, while the materials were somewhat outdated, we believed they were sufficient for our due diligence.
We also had an electrician come out to inspect the electrical panels and a roofer look at the roof. It may not seem immediately obvious that we would need to do a roof inspection for the roof of a condominium complex, but given that we would own almost half the units, it was important to make sure the roof was in good shape. If the roof needed to be repaired, the HOA would have needed to demand a special assessment from each condo owner. And given we would own 17 of them, that would be quite a large price tag.
Because there was so much built-in equity, we felt comfortable using private lenders to finance the majority of the purchase and only use a little bit of our own cash. Indeed, we probably could have had them finance the whole thing and be fine. This is the same strategy we used on the portfolio of nine and 41 properties noted above. But if you use this strategy, you need to make sure that you have sufficient equity to refinance. Otherwise, you will have to bring money to the table when you go to a bank.
Related: The Ultimate Guide to Investing in Condos and Townhomes
The key takeaways from this odd, but very profitable deal are:
1. Keep your eyes open for that odd deal.
Sometimes deals that don’t fit the normal model can be the best because most other investors will simply pass on them. Much of this business is problem solving. And while we are well situated for larger acquisitions that you may not be, there are many other situations this could come into play. For example, I heard of an investor who only buys 1-bedroom houses and rents them out predominately to the elderly. Most investors shy away from 1-bedroom houses, but this one had found a very profitable niche.
2. In that same vein, you can create these types of situations yourself.
For example, my dad has a partner in Oregon who buys the redemption rights for foreclosures. In judicial foreclosure states (which Oregon isn’t, but whom many lenders use the judicial process because of the MERS debacle), the owner getting foreclosed on has a certain period to buy back their home after the foreclosure. This is called the Right of Redemption. And you can sell your Right of Redemption. By buying these rights from homeowners who have no way to rebuy their house, it creates a sort of monopoly on purchasing the property at the foreclosure auction. And that’s only if he can’t buy the home through a short sale before the auction. There are all sorts of different ideas like this lying around.
3. Finally, the more you grow and establish yourself, the more deals come to you.
Yes, it’s not fair, but it’s the way life goes. What’s important to remember is that your growth and success can become exponential. Even if it feels like a grind that isn’t going anywhere now, that’s often just because you’re in the tough, early stages. Keep with it, and it will become easier and easier. (Although that comes with it’s own set of challenges, like becoming overconfident or complacent.) But it’s those early stages of slogging through the mud when most people quit. Those that get through it will have even more opportunities awaiting them.
What deals have you seen come across your desk lately?