I need advice on my first Real estate investement.

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I need advice on my first Real estate investement.

Michael Ndjondo makadi
Investor · San Diego, CA · Member since 2017 · 107 posts · 35 votes

Good afternoon to all investors on here. I need a good advice on my first deals in REI. I live in San Diego, a very expensive market and I am just about to get started to invest in RE. The decision that I made is to invest in Wichita, KS since I know the city and I already have an agent and a friend contractor for possible renovation. I need to decide how to start off. By the end of his year, my wife and I want to buy a house here in SD and will have 120k saved for that by December. I also have some other money that I put aside for REI but it's only around 40K at this moment. we have bee looking on new constructions in Chula Vista and one in particular that has 5-7 BD from which 3 of them are on the third floor. But it has this Melo Roos tax of 1%. I have been wondering what will be the better approach between: 1. Put 20% down on our house here, rent out 3 BD on the third floor and start investing only with 40k in Wichita, KS. 2. Put 10% down, still rent out the third floor and add the remaining in the investiment money. 3. Keep renting and paying 1600$ a month and use the entire dowpayement toward the investement. FYI the rent for the three BD will be arounf 2400$ minimum.

Also I was wondering between flipping and just buying and holding in Wichita, KS. From I have seen so far ROI on rentals in Wichita, KS have been not so great unless you uncover a really great deal. Thus my consideration for flipping. But then again we already pay way too much tax and flipping would only make it worse. As for the flipping, my friend contractor is the one who'll be handling the work. We have been dsicussing the possiblity to form a partnership in which I will bring the $$ and he will provide his time and work on reonvations. That discussion is still open as I am stil not sure how to structure the partenership so I benefit from teh tax perspective.

Your advices will be much appreciated.

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Dan H.Pro Member
Investor · Poway, CA · Member since 2015 · 7k+ posts · 8k+ votes
8y
Originally posted by @Michael Ndjondo makadi:

Thanks for your replies and advices.  @Henri Meli, my goal is long term and I want to build a stream of passive income. The only reason I'm looking for flipping at the moment is that it would add more to my fund that I can use to scale on my rentals faster.  @Dan H., That's a very good point, because every time, I'm ready to pull the trigger on that house, I think about having to share it with strangers. If I can't find better alternatives I can always swallow my concerns and live with it at least for the first 3-5 years. The reason I cannot start investing here is the cost and poor ROI on rentals. @Thomas S. I think about this option, but the only reason about us wanting to buy a house is to rent some BD, hence to reduce our mortgage expenses to rent levels. That way, we are building equity while benefiting from tax reliefs from renting. I can always leverage that equity for future investments.

There are statistics on RE ROI by major cities. I do not know if Wichita is large enough to be on those lists. However, for any duration more than a few years San Diego beats every Midwestern city for RE ROI for any duration. 100% verifiable.

So of your two concerns one is historically inaccurate.  That leaves one concern, the cost or RE. 

I agree it is high but assuming you are house hacking a detached duplex you can qualify with a 5% FHA loan (95% LTV). Versus OOS maybe a 20% investor loan (80% LTV); note my last investor loan was at 75% LTV so required even more capital to purchase than the scenario I present to you. This implies you can purchase a property in San Diego for ~4 times the cost of the OOS property for about the same purchase capital. To put example numbers to these values, if you purchase a $500K owner occupied detached duplex in San Diego at 95% LTV the purchase cost not including closing and purchasing costs (inspections, etc.) is $25K. This same $25k at 80% LV will purchase a $125K property (a fine property in a fine area) in the Midwest (again not including closing costs and purchasing costs).

Now why do you think the property in the Midwest is able to be purchased at $125K?  Do you think it has experienced appreciation significantly faster than inflation?  Do you think it has a historical appreciation like San Diego?  If there has not been significant property appreciation what sort of rent appreciation do you think the Midwest properties have had? 

Historically San Diego is almost a sure thing at producing outstanding ROI. If you purchased via financing 5 years ago, 15 years ago, 20 years ago, 30 years ago, 40 years ago, 50 years ago one of the worst over priced San Diego RE you still would have netted a very good ROI. Again not opinion, you can verify this statement.

Good luck.

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  • Henri Meli
    Investor · Morrisville, NC · Member since 2012 · 1k+ posts · 673 votes
    8y

    @Michael Ndjondo makadi I think you really need to first understand what your short and long term goals are. If your long term goal is to build wealth as fast as possible, I would consider house hacking as a way to start. It allows you to learn land lording as well by renting part of your house and bringing in income. Secondly, investing out of state is something that lots of people from California do because the CA market doesn't cashflow well. So, if you are looking to build a cash flowing portfolio, then investing in a cashflow market is not a bad thing, You just need to make sure the numbers are right. How comfortable are you building a team remotely and investing out of state? 

    The last part of your question regarding building a JV with a friend ... just make sure you structure the JV properly and have ways to clearly protect yourself.

    Good Luck !!!

    1Reply
  • Dan H.Pro Member
    Investor · Poway, CA · Member since 2015 · 7k+ posts · 8k+ votes
    8y

    I like your thought about house hacking but I recommend a detached duplex rather than house hack with people living in your home (3rd floor).  having others live in your home gets old fast.

    Flipping is a job whether local or OOS.  This means you complete the flip the income stops until the next flip is completed.  It is definitely not a passive income stream or even close to passive.  There is also a lot of skill involved that are challenging to get correct until experience is obtained.  For example, I have rehabbed quite a few units and my rehab cost is always over my estimate.  Something always pop up.  My last rehab the only thing that popped up is one of my contractors took on more work than they could handle and therefore were too slow pushing things back and increasing the rehab duration.

    I am not a fan of newbie RE investors not investing local.  At least you have some ties to Wichita which is better than a lot of OOS investors have.  It requires a trusted good team to have success.

    Good luck

    0Reply
  • Thomas S.
    Member since 2016 · 13k+ posts · 12k+ votes
    8y

    I would not buy a personal home. Take all your money and invest in flipping, if that is your preferred route, while you continue renting.

    Build your personal wealth and buy a personal home when you have money to waste. Renting is less expensive and less responsibility.

    0Reply
  • Michael Ndjondo makadi
    OP
    Investor · San Diego, CA · Member since 2017 · 107 posts · 35 votes
    8y

    Thanks for your replies and advices.  @Henri Meli, my goal is long term and I want to build a stream of passive income. The only reason I'm looking for flipping at the moment is that it would add more to my fund that I can use to scale on my rentals faster.  @Dan H., That's a very good point, because every time, I'm ready to pull the trigger on that house, I think about having to share it with strangers. If I can't find better alternatives I can always swallow my concerns and live with it at least for the first 3-5 years. The reason I cannot start investing here is the cost and poor ROI on rentals. @Thomas S. I think about this option, but the only reason about us wanting to buy a house is to rent some BD, hence to reduce our mortgage expenses to rent levels. That way, we are building equity while benefiting from tax reliefs from renting. I can always leverage that equity for future investments.

    0Reply
  • Dan H.Pro Member
    Investor · Poway, CA · Member since 2015 · 7k+ posts · 8k+ votes
    8y
    Originally posted by @Michael Ndjondo makadi:

    Thanks for your replies and advices.  @Henri Meli, my goal is long term and I want to build a stream of passive income. The only reason I'm looking for flipping at the moment is that it would add more to my fund that I can use to scale on my rentals faster.  @Dan H., That's a very good point, because every time, I'm ready to pull the trigger on that house, I think about having to share it with strangers. If I can't find better alternatives I can always swallow my concerns and live with it at least for the first 3-5 years. The reason I cannot start investing here is the cost and poor ROI on rentals. @Thomas S. I think about this option, but the only reason about us wanting to buy a house is to rent some BD, hence to reduce our mortgage expenses to rent levels. That way, we are building equity while benefiting from tax reliefs from renting. I can always leverage that equity for future investments.

    There are statistics on RE ROI by major cities. I do not know if Wichita is large enough to be on those lists. However, for any duration more than a few years San Diego beats every Midwestern city for RE ROI for any duration. 100% verifiable.

    So of your two concerns one is historically inaccurate.  That leaves one concern, the cost or RE. 

    I agree it is high but assuming you are house hacking a detached duplex you can qualify with a 5% FHA loan (95% LTV). Versus OOS maybe a 20% investor loan (80% LTV); note my last investor loan was at 75% LTV so required even more capital to purchase than the scenario I present to you. This implies you can purchase a property in San Diego for ~4 times the cost of the OOS property for about the same purchase capital. To put example numbers to these values, if you purchase a $500K owner occupied detached duplex in San Diego at 95% LTV the purchase cost not including closing and purchasing costs (inspections, etc.) is $25K. This same $25k at 80% LV will purchase a $125K property (a fine property in a fine area) in the Midwest (again not including closing costs and purchasing costs).

    Now why do you think the property in the Midwest is able to be purchased at $125K?  Do you think it has experienced appreciation significantly faster than inflation?  Do you think it has a historical appreciation like San Diego?  If there has not been significant property appreciation what sort of rent appreciation do you think the Midwest properties have had? 

    Historically San Diego is almost a sure thing at producing outstanding ROI. If you purchased via financing 5 years ago, 15 years ago, 20 years ago, 30 years ago, 40 years ago, 50 years ago one of the worst over priced San Diego RE you still would have netted a very good ROI. Again not opinion, you can verify this statement.

    Good luck.

    3Reply
  • Henri Meli
    Investor · Morrisville, NC · Member since 2012 · 1k+ posts · 673 votes
    8y

    @Michael Ndjondo makadi 

    I think I agree with @Dan H. logic here, if you want to generate more capital to invest in higher value assets. 

    You can run the numbers yourself, but below are some other points to add to his argument.

    Option 1. If you decide to use flips via a JV to generate revenues: After each flip, you need to split the profits with your JV partner(s), then you need to pay taxes on the profits based on your tax bracket and income. Which will lower your capital available for investments.

    Option 2. If you decide to invest in an appreciation market (such as San Diego), then 3-5 years down the road, you can "take your profit" tax-free in the 3 following scenarios. 

    A. You live 2 out of 5 years in a property as your primary, then sell the asset. 

    B. You perform a 1031 exchange from the current asset into a bigger asset of the same type within the allocated window allowed by law. (45 days to identify replacement + 180 days to close)

    C. If your asset has appreciated well enough, you can take a line of credit or perform a cash out refinance. Each of these two operation is tax free, therefore maximizing your gains.

    From personal experience, I have used all the approaches described in Option 2. above to fast track my base capital for investments. Combining house hacking with appreciation would be even more powerful, if you were to pull if off properly. 

    Good Luck !!!

    2Reply
  • Michael Ndjondo makadi
    OP
    Investor · San Diego, CA · Member since 2017 · 107 posts · 35 votes
    8y

    @Dan H. and @Henri Meli, thanks for your perspectives. I have never looked at it from this angle. A couple of questions that still bother me though: isn't the mortgage monthly payment gonna eat all income here in SD considering putting down only 5 - 10 % down? Isn't too risky to rely so much on appreciation? What if the market goes downhill while you still holding the property? Also I am not quite familiar with this 2 out 5 year living and selling strategy, does one have to sell within the 5 years to not pay taxes on gain? How will the commission and all expenses related to the selling affect the gain?

    1Reply
  • Dan H.Pro Member
    Investor · Poway, CA · Member since 2015 · 7k+ posts · 8k+ votes
    8y
    Originally posted by @Michael Ndjondo makadi:

    @Dan H. and @Henri Meli, thanks for your perspectives. I have never looked at it from this angle. A couple of questions that still bother me though: isn't the mortgage monthly payment gonna eat all income here in SD considering putting down only 5 - 10 % down? Isn't too risky to rely so much on appreciation? What if the market goes downhill while you still holding the property? Also I am not quite familiar with this 2 out 5 year living and selling strategy, does one have to sell within the 5 years to not pay taxes on gain? How will the commission and all expenses related to the selling affect the gain?

    You are correct that the initial cash flow will not be good but 1) you will be living there.  If your payment after collecting one unit of rent is less than renting the equivalent unit then all is good because see item 2.  2) You get to write off the interest related to your living unit.  3) Markets fluctuate in value but San Diego historically has always risen over enough time.  However, there are short durations of depreciation.  I do not make a strong argument on the property not being top of market but I do make strong arguments on the rents having further appreciation: a) rents lag property values, property values have gone up a lot more than the significant increase to the rents.  b) cost to build additional units is outrageous.  c) Not much room for further construction.  We are constrained on the West, South and North and East quickly becomes harsh.  d) related to building cost and lack of land is supply and demand: vacancies are very low.  All studies are forecasting increasing rents.  e) rising minimum wage and wages in general.  CA already has a minimum wage scale increase in place guaranteeing a continuing increase in minimum wage.   The rising rents will make a cash neutral property positive in a couple of years or a cash flowing property more cash flowing.   4) Historically San Diego RE has always increased over any significant duration.  This implies even if there is a short cycle of depreciation the property will recover and appreciate faster than inflation and faster than most other areas.  How do I know?  Because it has for over 60 years.  Look at the San Diego RE prices.   You will see that there are short periods of depreciation (typically less than 5 years) but in general the chart will show ever increasing RE prices.  5) Do not fully discount equity pay down.  It is not as easy to access as cash flow but it does increase net worth and can be accessed via refinance, etc.  6) Local presents an opportunity for forced appreciation where you can do some of the work (versus out of state (OOS) forced appreciation often is more limited due to requiring the use of contractors because OOS).

    2 of 5 years occupancy is required to not owe taxes on the gain from selling the property.  So house hacking works for this but OOS does not (must be owner occupied). 

    Non owner occupied you pay taxes on the profit of a sale unless you 1031 exchange.  1031 has some challenges but there are experts that can help.

    2Reply
  • Henri Meli
    Investor · Morrisville, NC · Member since 2012 · 1k+ posts · 673 votes
    8y

    @Michael Ndjondo makadi Here is the link to the IRS rule about the sale of your primary. Hope that helps. 

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