Should You Ever Pay Above Market For A Cash Flowing Property?

32 Replies

I'm conflicted BP. There's a legal triplex I'm looking at that would cash flow with my financing, market rents and expenses, BUT it's priced at or above market with at least $25K in renovations conservatively. I just can't find the comps to support the price in its current condition or even ARV. Considering my strategy is buy & hold, is there ever a time you would pay above market if other markers (cash flow per unit, cash ROI, ROI) are met?

P.S. - I'm already certain there will be the HELL NO crowd, but I'd like to ask anyway.

My first thought is: what is your primary goal?

If the income covers expenses, debt service, etc. and still leaves a profit, and cash flow is your goal, that would be a fit in my book.

If you're seeking equity, and have cash to put down on it, it could still work.

Sorry to be non-committal, but these are questions you need to ask yourself: what are your goals for his property and does the overall situation meet those goals?

Absolutely, IF you can get seller financing on your terms.

I have started making asking price/ above asking price offers but with terms that still allow me to cash flow and to have 4-5 REAL exit strategies. 

@David Dachtera , my main goal is cash flow, which the property does fine on. I won't get any equity, but (speculating) the area is currently undergoing gentrification and should be considered a "great" neighborhood in another 3 - 4 years. My main hang up is that as I look at potential comps, it's at the higher end of things. I slightly feel like I'm not being a good investor, if that makes any sense. Like there are all these rules, and I'm not adhering to them.

@Tom Myers , it would be financed through a FHA 203K loan which I'm preapproved for. So I believe my interest rate would be lower than most seller financing. What sorts of exit strategies would you consider? My current strategy is to simply buy & hold. Should I be concerned with other exit strategies?

Nope. Im a buy and hold only kinda guy, and I wont buy anything that i dont have equity on it.

The biggest bet you are taking there is that the cash flow will remain the same, and that the market wont turn on you.

One of those risks is a bit much for my taste, but two is simply too much.

Take your extra 25k, and put that into an additional property. The two properties cash flowing together will probably match your profits on the current in question, plus you are diversified.

If the area is truly increasing in value, homes will have to start going for at least a little over what the comps might suggest.

I would really check into the rental market and try to decide how easy it will be to maintain that level of cash flow.

Are you talking about 5% over market or 50% over market?

Who cares where it is priced? Offer the number that makes sense for your investing goals and valuation. They will either accept or not but you don't have to offer near asking price.

Thanks for your reply @Logan Hicks . That's the thing as I'm looking for other duplex in the area and they all cost more even including rehab costs and cash flow less. The main issue is equity. I'd potentially be buying a deal where I may be a couple thousand upside down on a cash flowing, buy & hold deal.

P.S. - I try to stick to multifamily since I'm ultimately aiming for apartment investing in the not to distant future.

@Derek Caffe

Simple answer here then. Change area.

Remember this saying, and keep it close to heart.

No deal is better than a bad deal. A bust deal worst of all.

Its a saying I made to help me always remember when Im in the rush of the heat of the moment (we all know that feeling, especially at auction :D ).

Sometimes you just need to saddle up and ride off into the sunset onto a different region with better returns.


Ultimately, its about making a profit, not about convenience, about simplicity, or about "ease of access".

We didnt work W-2s because it was "convenient" we did it because rent was due on the 1st, late by the 5th, and evictions occur 35 days after lol.

Investing requires a high amount of discipline, and the consequences are high.

@Account Closed , I feel bad for saying this, but it makes sense at listing price. It's a triplex, bought by an electrician and partially rehabbed. He's asking $95K with around $25K left in rehab costs and rents around $1890 being conservative.

If I add in property management 10%, vacancy of 10%, and capital reserves of 10% of gross income, it should cash flow at $125 per door. This is me being conservative. 

I expect the real cash flow to be around $200 per door, which is fine with me.

@Derek Caffe , if the comps are mainly duplexes, then they are NOT comps.

If your numbers are valid, why would you be "a couple thousand upside down"?

Looks to me like you might have found a little niche that the local market hasn't woken up to yet! (Normally you might not expect to find such positive numbers at full asking price).

Remember, what the market pays for it now IS its market value! Cheers...

If the area is starting to increase in value you should expect prices to be 5%-10% above comps.  The gentrification might have already started.  If you plan on investing heavily in the area, I would focus on getting properties on the same block.  Then you would get the most benefit from the bleed over from any improvements you make.

Also make sure you are pushing rents up not down.

Good luck @Derek Caffe

Personally if at the end of the month the numbers are green after taking in every expense you can think of realistically, then the total sale price is not that important (In my opinion of course).

I would take and figure in how long before you "could" sell at break even and think about that number for a minute.

If your putting conventional financing on it then know that you could end up coming out of pocket if the appraisal doesn't meet the price.

Present the seller with two offers. One that is at your ideal price that is in line with market comps, and the second at the listed price but with seller financing.

@Derek Caffe with real estate we all know, you make your money on the BUY!! That being said, if it checks all the boxes for your current situation and you are a buy and hold investor it could make sense. 

Definitely try to get creative with the owner and maybe you can work out some terms which makes it more attractive for you.

If you feel you have covered every contingency, and it is still as cash positive as you say, but that you believe you would be upside down by a couple thousand on what it's worth, easy solution is to roll all of the cash flow directly into the loan until you are on the upside, then you have the advantage of having equity and cash flow. If you can't afford to do this (i.e., you need this money to live from), it sounds like quite a risky proposition.

Anyway, at the end of the day, there really aren't any rules, only general guidelines and suggestions. Anything structured the right way can be profitable, and anything structured the wrong way can bankrupt you. If this area appreciates 50% in 3-5 years, you will have "stolen" the property; if prices collapse, or the gentrification never comes, you will have overpaid based solely on the value of the property as property. If you can (more or less) guarantee positive cash flow on the property, it really doesn't matter which side of things you are on unless you need/want to sell. 

If you want a property badly enough, sometimes you have to pay above market value for it.  I recently paid between $10k and $15k above market value on a property because I wanted it.  The illiquidity of real estate means that sometimes properties will trade above market value and sometimes below market value and sometimes at market value.

If you plan on holding the property for a long time, then over paying is less of a concern.  If you are only planning on having it for a couple years, then it is more of a concern.

Thank you all for your responses. 

@Brent Coombs , I couldn't find any nearby triplex comps so I used duplexes/SFH's instead. I sent my real estate agent a request for comps. But the numbers do most certainly cash flow.

@Account Closed , appreciate your feedback. Yeah it's less of a concern, but I'd still like equity to use towards additional deals. I'm going to speak with the seller further to seek a win-win deal. Thanks again.

If your contract price is truly above market value, it won't appraise anyway and you won't get the loan.  Sometimes the bank protects us from ourselves!  

Derek,

The larger multi-family buildings don't comp well because most people don't sell them and there are less of them available in the market. I would ask a broker to pull comps going back 24 months and up to 3 miles on radius along with 24 months sales history in same zip code for similar buildings. This is what I do to see what other people paid in the area to see if the building is really over priced. You may be suprised either way 

Originally posted by @Justin Ericsson :

Derek,

The larger multi-family buildings don't comp well because most people don't sell them and there are less of them available in the market. I would ask a broker to pull comps going back 24 months and up to 3 miles on radius along with 24 months sales history in same zip code for similar buildings. This is what I do to see what other people paid in the area to see if the building is really over priced. You may be suprised either way 

Why would you bother trying to pull comparable sales on a multi-unit building? Such property is most frequently valued based upon the income it produces. The price at which the multi-unit building down the street sold 12 months ago is irrelevant. The amount the buyer paid for the income it produced (CAP) can be a useful comparison - provided the net income and CAP is calculated using the same methodology in all properties being compared.

Smaller, 2-4 unit buildings, are residential properties, not truely multi-unit, and are valued using comparable sales.

Roy... I appreciate your opinion and yes the income approach is extremely important. My advice is related to market conditions. What is someone else willing to pay for this building if I bought it and decided to sell it next month? The exit strategy worst case scenario determines how far under water this building really is in today's market. If 10 other people more than 1 mile but less than 2 miles away bought the same building for more than im paying it's likely I do in fact have equity. Residential appraisers prefer to only go 1 mile and six months back in time to appraise the building. If the same exact building sold 9 months ago 1.2 miles away and three more just like it sold for more this this property I can assume the value is there. In chicago there are 100 more sfr sales to one 3-flat so when I buy them to hold as cash flow I go outside residential appraisal guidelines to see what's happening near my property. 

In summary if you look around and nobody is selling them or the sales prices are significantly less than what I'm paying I pass on the building. If however I see comparable sales and more than three sales in last 12 to 18 months I may decide to buy with little or no equity solely based on the cash flow knowing I never want to sell it. Here in chicago for 2-flats I absolutely make sure I have equity in the building because there are more sales meaning more of them in the market to unquestionably tell me the real value.

Every market is different so these assumptions may not hold true for 3-unit buildings in other markets but I know they are extremely popular here in chicago and easily sold even if they have some negative equity. I wish I could buy more of them but personally I need to see more comps in the surrounding area to justify the prices therefore I buy 1 (3-flat) out of 50 (2-flats). Also note here in chicago many of the 4+ units are purchased and rehabbed in cash and never hit the mls. Buyers are hedge funds snatching up everything sold via commercial brokers or bank direct. Take care!

@Justin Ericsson

I read your most recent response and it appears you are talking about residential properties (1 - 4 units) in which case, I understand your comp strategy.   Your earlier post started out

"The larger multi-family buildings don't comp well because most people don't sell them and there are less of them available in the market..."

My point was, comps are irrelevant for multiunit buildings. When you underwrite an apartment building, you do not care about comparative sales because that is not how the asset is valued. You may care about the market CAP rate - though we really do not care about that either - to see what others have paid for net income in the vicinity.

You could have two {say 30-unit) buildings at similar prices, but which yield substantially different (say less) income.   Comparable sales would indicate the second purchaser paid an reasonable price.  A value approach would indicate since the second building produces less net income than the first, is should be priced lower.

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