Am I being too conservative in my analyses?

Buying & Selling Real Estate
8yFollow

Am I being too conservative in my analyses?

Heather R.
Investor · Seattle, WA · Member since 2014 · 58 posts · 15 votes

Hello,

I am currently evaluating a few markets, Indianapolis and Tacoma WA to purchase a small multi-family in the next few months. I live in Seattle so Tacoma has been on my radar due to its proximity. Appreciation in the Tacoma market will likely outpace Indianapolis and the properties are much more expensive. In Tacoma, competition has skyrocketed and everything is going for asking price or above. 

I went to look at a fourplex yesterday in a good area, the building needs some work but nothing major I can see. I have been running the numbers and it just doesn't make any sense to buy based on them - am I missing something? Am I being too conservative? Or is this truly not a good deal?

Building - 4-plex

1-bedrooms, 750ft

Laundry in basement (not coin op)

Storage in basement

Parking

Asking price: $389950

25% down: $97487.50

Amount financed: $292,462.50

At 4.5% interest rate, mortgage payment would be: $1481/mo

Current rents: $650/unit

Based on market, could potentially move to $750-800/unit with some updating

Using $750 (to be optimistic) - $3000/mo in income

Property management @10%: $300

Leasing fees: 1 mos rent: $3000/yr or $250/mo (if all the units needed to be leased during a year @ 1 mos rent per)

Capex reserve @10%: $300/mo

Maintenance/repairs @5%: 150/mo

Vacancy @5%: $150/mo

Property taxes: $452.83/mo

Electricity (for basement, laundry): estimating $100/mo

WSG (currently landlords responsibility): $320/mo (estimated based on Tacoma's pricing)

Insurance: $70/mo

Total monthly expenses: $2092.83

$3000 (income) - $1481 (mortgage) - $2092.83 (expenses) = -572.83/mo

Am I being too conservative in my numbers? There are things that could be done to reduce some of the expenses/increase income, like putting coin-op in and implementing RUBS. But I am also not considering the updating that would need to be done to the building which would be thousands.... I don't think I am going to move forward on this place unless I am just really screwing up some portion of this analysis. 

Any feedback is appreciated! Thank you!

Heather

1Reply
120 views

Most Popular Reply

Matt Lefebvre
Real Estate Broker · Manchester, NH · Member since 2014 · 630 posts · 420 votes
8y

@Heather R. Here's the very quick way that I use to analyze a deal without investing too much time budgeting expenses:

$650/mo x 4 units = $2600/mo = $31,200 (don't buy a property for a higher price based on future rent projections... always use the current numbers unless you're treating the deal as a flip).

$31,200 GAI x 50% operating expenses = $15,600 NOI (operating expenses usually run 50% with separate utilities, and I add on 5% if electric is included and 5% if heat is included)

$15,600 NOI / 8% Cap Rate = $195,000 purchase price (this is the number you should purchase the property for if you're looking to attain roughly an 8% ROI. An 8% return on your investment translates to approximately 12 years to pay yourself back for your initial investment in the property. I certainly wouldn't want it any less than that).

Now if the purchase price based on the quick formula I run is somewhat close to what the asking price is, I'd probably do a little bit more digging and run some more in-depth numbers.  But when I'm seeing a $195K purchase price versus a $390K asking price... that's a pretty big gap.

This is all based around cash flow and what you can do to maximize your dollars that you put in.  I never recommend people purchase based on projected future appreciation or projected rent growth.  If there is forced appreciation that can be made to increase the value of the property well over the purchase price and the cash flow can support it, then I might suggest a slightly higher price with the understanding that this needs to be treated less like a rental property and more like a flip.  

6Reply
See this reply in the discussion

37 Replies

Jump to latestLatest
  • Antoine Martel
    Rental Property Investor · Miami, FL · Member since 2017 · 2k+ posts · 911 votes
    8y

    I dont think you're being to conservative. I think that your numbers are current. Its just that the income for the property is not sufficient. 

    3Reply
  • Steve DellaPelle
    Rental Property Investor · Salem, NH · Member since 2016 · 460 posts · 276 votes
    8y

    @Heather R. Your numbers look accurate...one thing I would change is the insurance per month. Your number is very low for a 4-plex. I would assume around $600-750/door so maybe $200-$250/month vs $70/month

    Either way this is just a flat out bad deal...keep looking but good job analyzing!

    2Reply
  • Daria B.
    Rental Property Investor · Gainesville, FL · Member since 2015 · 1k+ posts · 432 votes
    8y
    Originally posted by @Heather R.:

    Hello,

    I am currently evaluating a few markets, Indianapolis and Tacoma WA to purchase a small multi-family in the next few months. I live in Seattle so Tacoma has been on my radar due to its proximity. Appreciation in the Tacoma market will likely outpace Indianapolis and the properties are much more expensive. In Tacoma, competition has skyrocketed and everything is going for asking price or above. 

    I went to look at a fourplex yesterday in a good area, the building needs some work but nothing major I can see. I have been running the numbers and it just doesn't make any sense to buy based on them - am I missing something? Am I being too conservative? Or is this truly not a good deal?

    Building - 4-plex

    1-bedrooms, 750ft

    Laundry in basement (not coin op)

    Storage in basement

    Parking

    Asking price: $389950

    25% down: $97487.50

    Amount financed: $292,462.50

    At 4.5% interest rate, mortgage payment would be: $1481/mo

    Current rents: $650/unit

    Based on market, could potentially move to $750-800/unit with some updating

    Using $750 (to be optimistic) - $3000/mo in income

    Property management @10%: $300

    Leasing fees: 1 mos rent: $3000/yr or $250/mo (if all the units needed to be leased during a year @ 1 mos rent per)

    Capex reserve @10%: $300/mo

    Maintenance/repairs @5%: 150/mo

    Vacancy @5%: $150/mo

    Property taxes: $452.83/mo

    Electricity (for basement, laundry): estimating $100/mo

    WSG (currently landlords responsibility): $320/mo (estimated based on Tacoma's pricing)

    Insurance: $70/mo

    Total monthly expenses: $2092.83

    $3000 (income) - $1481 (mortgage) - $2092.83 (expenses) = -572.83/mo

    Am I being too conservative in my numbers? There are things that could be done to reduce some of the expenses/increase income, like putting coin-op in and implementing RUBS. But I am also not considering the updating that would need to be done to the building which would be thousands.... I don't think I am going to move forward on this place unless I am just really screwing up some portion of this analysis. 

    Any feedback is appreciated! Thank you!

    Heather

     Looks like you have accounted for all expenses. Multi are difficult to buy in my opinion. I've seen quite a few in my area that are grossly overpriced and need immediate repairs or only have a couple of year before needing replacing.

    2Reply
  • Heather R.
    OP
    Investor · Seattle, WA · Member since 2014 · 58 posts · 15 votes
    8y

    @Antoine Martel - Thank you! Good to get some confirmation!

    @Steve DellaPelle - Perfect - I will adjust that assumption and increase the insurance premium. Thanks!

    @Daria B. - Thank you! Yeah - they are few and far between in the Seattle area, and usually when they do come on market they are terribly run down and need a lot of work. It's hard to find any that make sense out here.

    0Reply
  • Christian Wathne
    Investor · San Jose, CA, Bellevue, WA · Member since 2016 · 327 posts · 257 votes
    8y

    @Heather R., we're in the same boat. You're numbers look good; its just an issue that prices have gone up more than rents in this area. 

    1Reply
  • Nicole Hoss
    Johnston, IA · Member since 2016 · 129 posts · 50 votes
    8y

    This is another reason I love BP: I learn so much about the prices of properties in other parts of the country! Almost fell out of my chair when I saw how much that 4-plex was. And property taxes there...whew! But what I love to see is that you are taking CapEx into consideration. Seems to be an overlooked expense by many people. I'm super conservative as well and always figure in CapEx (until my 6 months of reserves have been met). You're doing a great job! If you're not feeling right about this property, there will certainly be another one (or more) come along. I have found there is no reason to rush things in real estate investing.

    2Reply
  • Brian Garrett
    Real Estate Investor · Palm Beach County, FL · Member since 2017 · 3k+ posts · 2k+ votes
    8y

    Right on point with the analysis just keep hunting for a better deal.

    1Reply
  • Ike Hobbs
    Investor · Wichita, KS · Member since 2016 · 133 posts · 63 votes
    8y

    Welcome to the Tacoma market Heather. As you mentioned it's very hot in this area. Most investors are buying for appreciation or for tax writeoffs. Or in some cases in Seattle, just so they can get their money into the US and out of their original country. For cashflow opportunities you're going to need to look to the Midwest. 

    That being said, you can still find some positive cash flow properties in the area, just probably not North Tacoma which I think this one is at. 

    2Reply
  • Account Closed
    Rental Property Investor · Everett, WA · Member since 2013 · 389 posts · 222 votes
    8y

    @Heather R. Yes, you are being too conservative. No offense to everyone who has responded thus far but they are all from the midwest or CA or wherever....I own 35 units across 9 buildings in North Everett. Six of them are fourplexes and insurance is about $1500-$1800/yr on the fourplexes. You can find quality PM services for 6-8% that charge 25-75% / mo rent for placement. You will not need placement every year so your leasing fee is way too conservative. A flat 10% will more than cover PM services. 8% will actually do the trick with the right firm. Your rents are too low. As-is those units will rent for $750 easy. With updates I would use minimum of $900/mo depending on level of updates (other folks are analyzing them with $1,000/unit I bet).

    Finally, CAPEX is a tough one because it varies greatly from property to property. We are looking at late 80's built 8 unit with updated windows and newer roof and are using 4% Capex. Then we have early 1900's built buildings with old plumbing, wiring and original windows were 10% is much more warranted.

    My brother lives in North Tacoma and I love that neighborhood. But as @Ike Hobbs mentioned, most folks are buying for appreciation in that neighborhood. You may have to move to the south end of town to make much cash flow. Check out North Everett too. Deals pop up up there every so often as well.

    5Reply
  • Wendy Carpenter
    Yelm, WA · Member since 2017 · 120 posts · 84 votes
    8y

    Unfortunately, the low cashflow numbers and high prices have infiltrated south Tacoma, as well! I wish that was a north Tacoma situation she was speaking of! 

    2Reply
  • Matt Lefebvre
    Real Estate Broker · Manchester, NH · Member since 2014 · 630 posts · 420 votes
    8y

    @Heather R. Here's the very quick way that I use to analyze a deal without investing too much time budgeting expenses:

    $650/mo x 4 units = $2600/mo = $31,200 (don't buy a property for a higher price based on future rent projections... always use the current numbers unless you're treating the deal as a flip).

    $31,200 GAI x 50% operating expenses = $15,600 NOI (operating expenses usually run 50% with separate utilities, and I add on 5% if electric is included and 5% if heat is included)

    $15,600 NOI / 8% Cap Rate = $195,000 purchase price (this is the number you should purchase the property for if you're looking to attain roughly an 8% ROI. An 8% return on your investment translates to approximately 12 years to pay yourself back for your initial investment in the property. I certainly wouldn't want it any less than that).

    Now if the purchase price based on the quick formula I run is somewhat close to what the asking price is, I'd probably do a little bit more digging and run some more in-depth numbers.  But when I'm seeing a $195K purchase price versus a $390K asking price... that's a pretty big gap.

    This is all based around cash flow and what you can do to maximize your dollars that you put in.  I never recommend people purchase based on projected future appreciation or projected rent growth.  If there is forced appreciation that can be made to increase the value of the property well over the purchase price and the cash flow can support it, then I might suggest a slightly higher price with the understanding that this needs to be treated less like a rental property and more like a flip.  

    6Reply
  • Patrick Britton
    Ann Arbor, MI · Member since 2014 · 1k+ posts · 997 votes
    8y

    I've found it bizarre why people base maintenance and cap-ex based from gross rent.  They are not functions of rent, they are functions of a property's value.

    @Heather R. I wouldnt compare Indy to Tacoma for MFR investing though. Those are two vastly different markets in multiple ways. Have you thought about anywhere else east of the miss? Memphis, Little Rock, Cleveland, Ann Arbor/Ypsilanti, etc.?

    4Reply
  • Aaron Lee
    Puyallup, WA · Member since 2017 · 31 posts · 17 votes
    8y

    @Heather R. in line with what @Matt Lefebvre is saying multi family properties should be priced off of return not local single family values.  An option is always try to take these numbers back to the seller and negotiate what the real value should be or much closer.  It seems like the seller is trying to capitalize on the increased property value of local single family homes and not what the actual value of the property is.  I will say I am new to all this but it never hurts to ask especially if you have math and sold reasoning to back it up.  The worst is they will say no and at that point you know its not a good deal for you.

    0Reply
  • James Wise
    Real Estate Broker · Cleveland Dayton Cincinnati Toledo Columbus & Akron, OH · Member since 2013 · 30k+ posts · 20k+ votes
    8y

    Guys to be clear I am not saying that numbers do not matter but we cannot get so lost in the spreadsheet analysis that we loose focus on what's going on. Moving a 8% here or a 6% there & changing this from 10% to 9% to get the property to pencil out or not for us is pure madness.

    The 1st thing we need to look at is the comparable prices. Is the property priced at above or below comparable properties? 

    Next we need to determine if the asset is a quality one or not. Is it in a neighborhood were reasonable people will want to live? Will they want to stay there? Is this property something that will be an asset to it's owner for generations to come?

    Now that we have those two points covered. Does the rent cover the FIXED expenses? Will the property support it's mortgage payment, taxes & insurance. If the answer is yes we are onto something here. 

    Will the property cash flow every month? Probably not but if it will during the majority of the time barring any major issues & it's a quality asset in a place that reasonable people would want to live it's probably a pretty good idea to buy it.

    5Reply
  • Heather R.
    OP
    Investor · Seattle, WA · Member since 2014 · 58 posts · 15 votes
    8y

    @Nicole Hoss Thank you! Yes... prices out here are pretty crazy. I originally wanted to invest where I live, but it is just not reasonable. Thank you for the encouragement! 

    0Reply
  • Heather R.
    OP
    Investor · Seattle, WA · Member since 2014 · 58 posts · 15 votes
    8y

    @Ike Hobbs Thank you! Yes, it took me a while to come to that conclusion - it feels somehow riskier to go out of state, but if I stay here, all my money would go into a single property banking on appreciation, which is also risky.

    0Reply
  • Heather R.
    OP
    Investor · Seattle, WA · Member since 2014 · 58 posts · 15 votes
    8y

    @Account Closed Thank you for the feedback - is the $1500-1800/yr for insurance for all 6 fourplexes? And the 10% management fee would cover both management + leasing fees? Your answer highlights the need for me to ask a knowledgeable PM company or broker what the units would rent for... I went off craigslist, but should have used more sources. I will keep an eye on N. Everett - thank you!

    0Reply
  • Heather R.
    OP
    Investor · Seattle, WA · Member since 2014 · 58 posts · 15 votes
    8y

    @Matt Lefebvre Wow! Thank you! This is really helpful. I have been struggling with how to determine the price that should be offered on a property based on income. Do you not consider raising rents to market 'forced appreciation'? Or a 'value add'? Or are you saying that the offer itself should not be based on these projected numbers? Thanks!

    0Reply
  • Heather R.
    OP
    Investor · Seattle, WA · Member since 2014 · 58 posts · 15 votes
    8y

    @Patrick Britton Good point about using percentage of gross rents as a way to estimate expenses... Do you know of a good resource to learn how to estimate these expenses based on... size/type of property/age?

    I have been investigating Kansas City, Columbia OH, Indianapolis, and Cleveland. I have not looked into any on your list... I am still in the info gathering phase (talking to local PMs, online research, etc) and it is hard to decide where to focus my attention. Indianapolis seems to be reasonably priced with decent debt service to income ratios. It also is bringing in a lot of tech jobs. But so are a lot of other midwestern cities. I will look into those markets! Thank you!

    0Reply
  • Heather R.
    OP
    Investor · Seattle, WA · Member since 2014 · 58 posts · 15 votes
    8y

    @Aaron Lee All the multifamily buildings in Tacoma are getting snatched up and attain 'hot home' status which is crazy. Yes - it definitely makes sense to price multifamily based on income... 1-4 units seems to draw competition from homeowners as well as investors, which I think drives up price too. I will be interested to see what this goes for! I went to see the unit a few hours after it posted online and they already had 2 offers in hand...

    0Reply
  • Heather R.
    OP
    Investor · Seattle, WA · Member since 2014 · 58 posts · 15 votes
    8y

    @James Wise Thank you for the feedback! Point well taken - I am new so spreadsheets give me a bit of insight into the realities of what a property brings in. But I can see what you are saying. My goal is to find cash flow so that I can roll that up into more properties. I could also produce return by riding appreciation and refinancing I suppose... but I am not confident enough to bank on that.... 

    0Reply
  • Matt Lefebvre
    Real Estate Broker · Manchester, NH · Member since 2014 · 630 posts · 420 votes
    8y

    @Heather R. I use that quick calculation because I analyze a lot of properties and need to weed out what's good and what's bad fairly quickly.  Unfortunately, 95% of the properties I see that pop up online do not meet that basic criteria and I stop looking at that property.  The reality of my market (and probably yours) is that most potential rental properties are overpriced and not producing enough income.  As disheartening as it is to see properties listed day after day that don't meet your criteria, if you really are looking to grow in real estate at a rapid pace, you can't do that by investing in mediocre deals... you have to find the great ones.  

    Raising rents to market rate is forcing appreciation.  I'm just saying that you shouldn't buy a property based on projected market rents.  Unless your numbers involve a potential vacancy factor of 100% for the period of turning over your units and includes carrying costs of the property, I would never recommend purchasing something even a little overpriced.  

    1Reply
  • Patrick Britton
    Ann Arbor, MI · Member since 2014 · 1k+ posts · 997 votes
    8y

    @Heather R.  everyone uses different numbers and that's not to say that one is correct, the other incorrect.  I think that cap-ex and maintenance should be based on the property's value, not gross rent.  Furthermore, I think that you should try to find an asset that cash-flows at a reasonable level for the area.  Properties that cash-flow considerably more than others in the area indicates there's something wrong with the property, and that's why price is so low.  

    As well, and working on what James Wise says, small changes to almost any number shouldnt be a make or break.  But i should point out that certain areas of the country have very different taxes for identically priced homes.  Illinois is extremely expensive for property taxes whereas Michigan isnt.  Insurance is very low in the pacific northwest relative to the northeast.  Utilities in certain places are paid by the tenants, in other areas it's expected the owners bear that burden.   

    If your goal is long-term cash-flow with a little bit of appreciation (over 10 years) you will NEED to look out of state.  And to those who believe investing out of state is riskier, i ask, compared to what?  

    0Reply
  • Aaron NelsonBusiness Member
    Real Estate Agent · Seattle, WA · Member since 2016 · 307 posts · 191 votes
    8y

    Using a blanket percentage for CAPEX based on rental income is fine for your "first pass" analysis when you don't want to spend an hour analyzing each deal; but like every number in your computation, your CAPEX number should get more accurate the deeper you dive into your due diligence process.

    Realistically, CAPEX should be based on several factors including (a) property type, (b) age and condition of the property and (c) local construction costs in the area.

    Example: A 1980 duplex with two units under one roof is going to cost less to maintain than a 1905 "two for one" (two separate single family homes on one lot). While both may produce $1500 of cash flow each month, it's silly to budget the same $150/month (10% CapEx budget) for each property.

    Also, If you’re going to use a straight percentage of rental income, make sure you understand how much money that actually is and ask your self if it truely is enough to make the repairs you suspect will be needed. 

    Examples: Is that $60 per month ($720/year) really going to cover the CAPEX/repairs on that $600 income generating SFR in the Midwest? Do you really need $630/month ($7560 year) for the triplex that generates $6300/month in Seattle?

    [email protected]425-880-2580
    White Coat Realty535 Reviews
    WebsiteView Page
    1Reply
  • Oren K.
    Rental Property Investor · Toronto, Ontario · Member since 2012 · 538 posts · 298 votes
    8y

    Heather,

    Regarding CAPEX, I much more agree with @Aaron Nelson and not @Patrick Britton and will go even one step further and say it is independent of rents, or property value. Replacing a 2000 sq ft roof costs the same independent of how much rent you are getting or if the property is worth $100,000 or $1,000,000. Assuming a property is intended as a long term hold you need to distinguish between two categorizes;

    Immediate Repairs - Broken and needs to be fixed as part of purchase, setting its age to 0y

    Full & Lapsed life time - Will need to be replaced at some point

    Assuming you do not want to have a 'cash call' (as this will reduce your overall long term returns), for each item on a CAPEX list you need to go through the exercise of figuring out where it is in its life cycle and how much it will cost to replace / do. If its minimum end-of-life is inside your hold period, then you should put funds aside to cover the used up life and an annual reserve for its remaining life.

    A couple of simple examples;

                     Min   Max              Current    On Purchase

    Item         Life    Life    Age    Cost         Banked Funds   Annual Reserve

    Roof         15y     30y    10y    $7000     $2340 - $4670   $234 - $467

    Heating    10y    20y      7y     $2000     $  700 - $1400   $100 - $200

    Carpet        3y      6y      2y     $1000     $  333 - $   666   $166 - $333

    etc.

    Total                                                         $3373 - $6736    $500 - $1010

    Could the roof last 40y or even 50y? absolutely but it is not something that you count on.

    So if as part of a rehab, a HW tank is replaced, you do not need any banked funds and only need to put a reserve away based on its expected usable life time.

    In the above example, for these items, I would put ~$4500 in the reserve account and ~$750 away annually. Its not perfect (lemons happen) but should avoid $ surprises.

    On the other and, if you are doing a flip, none of this matters since you don't intend to hold the property long enough for any end-of-life issues to be your problem.

    Also, bonus points if you take inflation into account.

    1Reply
Join the conversationCreate a free account to reply, vote on answers and follow this thread.
Log InJoin for Free