Buying a new townhome in San Jose - good investment?

12 Replies

Hi everyone,

I am asking this question for a family member who is thinking of buying a new construction in Northern San Jose. The purpose would be to maybe have it for retirement in a few years (or at the very least have a good investment for the future) and to rent it out in the meantime. The issue is that obviously properties in SV are extremely expensive and they will be taking out about 300k to put for downpayment. On top of that, the rent wont cover the mortgage so it will be cash flow negative for some time. The question is will the appreciation outweight all of that and I don't know the answer to that. 

What do you all think? I guess the question is with that downpayment money are there better investment options? Being 2k cash flow negative every month seems hard to stomach but again I don't have a lot of experience in this area.

Thanks for all the insight!

@Sheeva R. I think you're mixing a couple of things which can be pretty dangerous. I could see the argument being made that you want to buy a townhome now because interest rates are low. You want to lock in those rates and you plan to move into the townhome in retirement. Maybe the tenant isn't going to cover PITI but you won't have massive cash-flow burn (relative to your W2) and your tenant is paying down some of the mortgage. Numbers aside, the logical theory makes sense. I've looked at doing it for a second home in a state with far less aggressive marginal income tax rates but that's another story.

However, in this particular case there are a few things that might skew against it.  

1.) Where are they taking the $300K out of? Is it out of their current home value in the form of a cash-out refinance?  Is it just money they have sitting in the bank?  The bottom line is that $300K could earn some kind of return over the coming years.  Let's be conservative and say 5% so that's $15,000 in opportunity cost.

2.) The real-world impact of being negative $2K per month is highly dependant on the person.  If you're making $200K per year it's not a big deal.  If you're making $80K per year it's a huge deal.  Since they have $300K sitting in the bank let's assume they are making enough money to save that...so I'm guessing they're doing well, can handle it, and it won't impact their life.  That's $24,000 in negative cash-flow per year.

3.) Properties are only new once.  You pay a premium because they're only...new...once.  Once you have a renter in there...they are no longer only new once.  You can get appreciation over time (I won't argue that) but I'd imagine that in an apples-to-apples market you pay some of premium that for new product.  The owners (sadly) won't get to enjoy that "newness" that they pay a premium for.  That's also assuming it's developed and ready to see now.  You might be able to get a "discount" (I hesitate to use that word) if you're first into a new development, put down a deposit, etc. and the developer raises prices in "Phase 2" of the project because of high demand.

4.) You would have to check with the budding HOA about renting, if units have already been bought by investors, etc. as that can impact financing and your ability to rent.

The net result is that your actual loss is probably $40K per year (rounded up for easy numbers).  If the SV market keeps growing like hotcakes, awesome, you make it up on appreciation.  But some of this also revolves around what else you'd do with the $40K.  You could blow that on a Bentley lease if you wanted to.  It's a better financial decision that buying a condo (in my opinion anyway) so in that juxtaposition...condo wins!

Anyway, enough rambling for now...

Originally posted by @Sheeva R. :

Hi everyone,

I am asking this question for a family member who is thinking of buying a new construction in Northern San Jose. The purpose would be to maybe have it for retirement in a few years (or at the very least have a good investment for the future) and to rent it out in the meantime. The issue is that obviously properties in SV are extremely expensive and they will be taking out about 300k to put for downpayment. On top of that, the rent wont cover the mortgage so it will be cash flow negative for some time. The question is will the appreciation outweight all of that and I don't know the answer to that. 

What do you all think? I guess the question is with that downpayment money are there better investment options? Being 2k cash flow negative every month seems hard to stomach but again I don't have a lot of experience in this area.

Thanks for all the insight!

The challenge here is mixing the investment mentality with needing a place to live. From an investment standpoint, the buy could go either way if you're betting on appreciation. No one knows whether appreciation will continue to rise, stay flat, or crash, but you'll need to live with the negative cash flow from day one. If you're buying for retirement in a few years and there's a strong geographic preference to stay such that it's worth the opportunity cost of negative cashflow, then it's worth it but for personal reasons and not business reasons.

Thank you for all the informative replies. The money for downpayment would be taken out of stocks that have average yearly rate of return of 9%. What do you all think?

This is a terrible idea as a investment but he is buying it as a retirement home therefor it is not a investment but rather a life style choice. 

It really makes no differance what his choice is as long as he wants it and can afford the cost to carry. He obviously is not a investor.

You always can put in equity if he is astute with other types of investment. There are no tax benefit when selling a stock while RE has the possibility to defer the gain taxwise. I just got a brand new TH in Union City high 800s. Lease is on MLS since midnight Wed for 3200 I expect to lease it out this weekend. Have endless callers from high tech interested. The previous purchase was $1.4M lease in SC lease for $4200. Both owners did not hesitate. Both jumped on the opportunity owning a problem free new home. One even overpaid to get the new property.

The new Silicon Valley homes often one has to overbid as they are quickly gone and more than1 group is eyeing the property. West side has lotteries meaning when it out it is quickly gone same week. Some even flip it after 1 year with appreciable gain.

Sam Shueh

Campbell, CA

So are you saying you think its a good investment Sam?

Have you check your math? Just roughly, a town house in north San Jose is between 500K - 1M, equal about 2K - 4K payment every month. Minus out the rent, the big down payment ... how can you be 2K negative every month?

By the way, unless your relative have a high paid, very secure job, and a big reserve, 2K negative cash flow is quite risky.

@ albert 

@Albert Ng - $2K negative is sooooo easy these days... Buying in Sunnyvale these day, $5K negative per month... yes, that is right.

@Sheeva R. The Bay Area is a hard place to cash flow off unless you bought years ago. It's expensive, prices are climbing exponentially and buyers are paying a premium just to get into contract. I don't know your financial situation but at the rate the housing market is increasing, if you were able to hold onto the property in the short term and sell later on you may be able to make a chunk of money back. In the meantime, have you thought about renting the rooms out for $1000+ each instead of the entire place to a family?

Yes I did think about it. But on a 1.2 million place, with cost of mortgage taxes hoa fees total month to month cost will be about 6k. It’s a four bedroom. I’m thinking we can get maybe 4K in rent. That’s where the negative 2k per month comes in to play.

Maybe it’s just me, but I wouldn’t throw out 2K a month just for speculation. Have up look at SFH? I saw SFH going at about the same price, and easier to rent.

Nobody can know where prices will be in 3 years, ...you can think of buying the townhouse as insurance against future price gains, or it can be through of as a personal bet that bay area real estate will outperform the stock market. 

By taking out $300k from stocks (assuming approx 8%'ish per year growth) thats $24,000 per year not being earned, then adding the 2k/mo cash flow loss from owning the property they're looking at loosing $48,000 per year

On the gain side, assuming the property is currently valued at 1,200,000 and goes up in value by 5%/year for the next 3 years? it would increase by $60,000 per year, so net net, possibly doing better than keeping the money in stocks....but that being said; prices could flatten or go down, tenant could screw up the property, etc etc. There are so many variables. 

Personally I would not purchase the townhouse with the goal of moving into it in a few years

Free eBook from BiggerPockets!

Ultimate Beginner's Guide Book Cover

Join BiggerPockets and get The Ultimate Beginner's Guide to Real Estate Investing for FREE - read by more than 100,000 people - AND get exclusive real estate investing tips, tricks and techniques delivered straight to your inbox twice weekly!

  • Actionable advice for getting started,
  • Discover the 10 Most Lucrative Real Estate Niches,
  • Learn how to get started with or without money,
  • Explore Real-Life Strategies for Building Wealth,
  • And a LOT more.

Lock We hate spam just as much as you

Create Lasting Wealth Through Real Estate

Join the millions of people achieving financial freedom through the power of real estate investing

Start here