0% cashflow for 3-4 years

31 Replies

I am working on a deal. 12 units in 2 buildings in northern NH for $380k with $60k coming back to me at closing, net price of $320k. I structured it that way to reduce my cash outlay to less than $25k. The property grosses $100,800 today after expenses, pm fee, vacancies, and debt service it should cashflow $25-$30k a year with +15% cap. It was looking like an incredible off market deal. However during inspection we found $100k worth of major repairs ($35k furnaces, $30k electrical, $15k roof, $10k fire escape, $10k sewer pump). If I put the $100k into the price it reduces the cap to 9.2%. I see mostly 5-8% caps on the market in the area. 

So it makes sense on paper but I don’t have $100k to do those repairs which is why the offer was the way it was. I’m thinking of spreading the repairs out over 3-4 years and reinvesting the rents into the repairs. So I’d have 0% return until year 5 but then get 100% of my Money ($25k) in 1 year and then profit from there. 

Does this make sense? I really like the property and this would bring me to 24 units in the area. I’m excited to see the benefits of scale. But I also see this as potentially writing checks my *** can’t cash... what do you think? 

Buy it, do some minor renovations and rehab. After 6 months, refi and using equity gained from adding value finish the rest

Im not sure the $$ will be there at the refi. The property / units are in good shape it’s just the BIG ticket items which don’t seem to get enough credit in the appraisal. Using the Income approach it’ll appraise over $500k as is. But nothing in the area has sold for over $425,000

just wondering, will this deal stop you from making other deals happen?  

if all my money is tied up on this one deal and losing out on +CF for 4yrs. will probably not work for me.

But if i am still able to fund another deal while this is happening, then I will buy.

@Jonathan Bombaci properties will oftentimes have upfront capital expenditures that need to be taken care of that don't necessarily add a substantial amount to the bottomline.  You should be measuring this property by a few different metrics.  For example, you've already analyzed the cap rate difference from $320,000 to $420,000 because of the capital items you have to spend money on... this has compressed your cap rate from 15% to 9%.  

What is the difference in your cash-on-cash return? If you were initially pulling a $25,000 annual profit from the property based off of a $95,000 downpayment (or a $35,000 downpayment + $10,000 closing costs so a $45,000 cash-in because of the credit) then you were looking at a ROI of 55%. That's a fantastic number! However, because you have $100K of capital items looming, assume you fund your capital reserve by $100,000 in year one (for simple math). That means your upfront cash-in is now $145,000 rather than $45,000. Comparing this to your $25,000 annual cash flow, that means your ROI is now 17%; which is certainly not a bad number.

You don't have the cash in your bank account to invest $100K upfront though. Which means your "cash-in" costs might be $45,000, and the $25,000 profit needs to be invested into your capital reserve fund every single year. So your ROI drops to 0% for 4 years. Assuming all of these pending repairs can actually wait for up to 4 years without penalty or failure, that puts your breakeven point at the end of Year 6... which translates to an IRR of 13%... a little low considering the amount of time you have to wait to get your money back, but not the end of the world.

The above assumptions are also independent of the fact that in addition to spend $100,000 in capital items over the next 4 years, you still have other capital items that will creep up during that time.  You still have to fund your capital reserve account at a normal rate so you don't get stuck in this situation again 10 years down the road.

In summary, does this make sense?  That depends.  

If your target exit date is 5 years, absolutely not... you're still in the red.  

If your target exit date is 10 years?  Maybe... since you have recouped your investment and have had a few years of good profit... but you have to be okay knowing that you're doing a bunch of work for NO money for 5 years

If your target exit date is 20 years?  Still maybe... because you haven't defined the condition of any other capital items that will come up and what your desired return is.

You can't rely upon appreciation in Northern NH, so you might be stuck holding onto this one for the long term if you want to try and sell it for more than you bought it for plus all of the money you spent on it.  

Originally posted by @Eric Lau :

just wondering, will this deal stop you from making other deals happen?  

if all my money is tied up on this one deal and losing out on +CF for 4yrs. will probably not work for me.

But if i am still able to fund another deal while this is happening, then I will buy.

 If I get this then that would be 24 units, across 3 properties, purchased in the last 8 months so I will probably coast for a year or 2 and let things shake out a bit before buying more. That being said I have other sources of income that will generate the funds for future deals. If I don't buy this I'll be looking for another deal or 2 this year, but buying it will not cripple my ability to buy more over the next few years. 

Originally posted by :

In summary, does this make sense?  That depends.  

If your target exit date is 5 years, absolutely not... you're still in the red.  

If your target exit date is 10 years?  Maybe... since you have recouped your investment and have had a few years of good profit... but you have to be okay knowing that you're doing a bunch of work for NO money for 5 years

If your target exit date is 20 years?  Still maybe... because you haven't defined the condition of any other capital items that will come up and what your desired return is.

You can't rely upon appreciation in Northern NH, so you might be stuck holding onto this one for the long term if you want to try and sell it for more than you bought it for plus all of the money you spent on it.  

Thank you Matt and yeah those are the questions I've been struggling with, even with the $100k cap ex most of the numbers still make sense. What was initially a slam dunk is requiring a bit more thought. CASH is king and we buy for cashflow, having no cashflow for 4 years is a tough pill to swallow.

I do have an additional $10k per year as a maintenance budget which I think is a a bit high. Once we get through this initial push we should be adequately accruing funds for future repair needs.   

My wife and I are 30 and we're planning to buy and hold. The idea is these will fund our retirement in 10 years so we're buying with the plan to hold 20+ years but you obviously never know what curve balls life could throw at us.  

Does the roof definitely need to be replaced asap? I always hear that, but usually a cheap patch will get you through a few years. Also the fire escape price seems too cheap. Welders are expensive and are in demand. Quotes I've received range from $25-$45k. 

Originally posted by @Syed H. :

Does the roof definitely need to be replaced asap? I always hear that, but usually a cheap patch will get you through a few years. Also the fire escape price seems too cheap. Welders are expensive and are in demand. Quotes I've received range from $25-$45k. 

The roof does need to be replaced but its a steep slope so we're going to try to ride it out a year or two and focus on the furnaces and electrical first.  We're not replacing the fire escape but one of the units does not have access to it. The $10k is to build a platform for that specific unit so they can get to the existing fire escape but you're right replacing the full fire escape would be much more. 

If you are going to hold onto it for the long term, then as painful as it may seem, doing all the big repairs upfront will cut down on those later (not that other repairs won't magically appear).  You're also paying down the loan over those 4 years.  Look at the average return over a period of 10 years, does it make sense?

Originally posted by @Theresa Harris :

If you are going to hold onto it for the long term, then as painful as it may seem, doing all the big repairs upfront will cut down on those later (not that other repairs won't magically appear).  You're also paying down the loan over those 4 years.  Look at the average return over a period of 10 years, does it make sense?

I typically do not include the equity or appreciation in my calculations since I'm investing for cashflow. But you're right. If I take the equity gained from paying off the loan into account then, on a 10 year average the numbers definitely makes sense. On a 5 year average it still makes sense it's just not as impressive :) 

Thanks!

@Jonathan Bombaci I think @Matt Lefebvre ’s reply is brilliant. Honestly, this is a decent deal for someone who has the cash to take care of these capital expense items immediately. For you, the down side risk is too high.  Unless you can get the price down another $50k I’d walk—or get someone to partner with you.

Sounds like a great long term investment, but not having CF for 3-4 years on top of having all your money invested in one deal makes this deal look less appealing. I'd do a little bit more negotiating on the deal before moving forward, if it can't get any better I'd just find a new deal.

Originally posted by @Larry T. :

@Jonathan Bombaci I think @Matt Lefebvre ’s reply is brilliant. Honestly, this is a decent deal for someone who has the cash to take care of these capital expense items immediately. For you, the down side risk is too high.  Unless you can get the price down another $50k I’d walk—or get someone to partner with you.

Thanks for the reply Larry, I was thinking about bringing a partner into the deal but I've been trying to avoid it... I've never partnered with someone on a real estate transaction but I have on other business ventures and it always seems to break down. 
Do you  think I could close on it and then try to bring a partner into the deal after the fact if I need a cash infusion or should it really need to be done upfront? 

What are your thoughts on partnering with Friends or Family? Is that something to be encourage or avoided? 

@Jonathan Bombaci

Try to scratch some more money for the safety issues such as electrical and fire escape from seller. Request another 100k and see where it lands. Do you have an agent? Even an as is contract as some room for substrate/safety issues sometimes. Cant hurt to try.

Originally posted by @Javier D. :

@Jonathan Bombaci

Try to scratch some more money for the safety issues such as electrical and fire escape from seller. Request another 100k and see where it lands. Do you have an agent? Even an as is contract as some room for substrate/safety issues sometimes. Cant hurt to try.

I already scratched $30k on the deal leveraging these items. It's an off market deal that was brought to me but it'll sell quickly, for more $, if they put it on MLS. Unfortunately this is the take it or leave it numbers.

Originally posted by @Javier D. :

@Jonathan Bombaci

Got it. Will lending institution be willing to roll capex into loan?

Thats a BIG maybe. It’ll be dependent on what the appraisal comes in at. I use the same institution for all deals and have a good relationship with them. My loan officer said if things go south after closing they’ll standby me and help with short-term loans as needed but that could change quickly when we go into a down market cycle. 

Originally posted by @Jonathan Bombaci :
Originally posted by @Javier D.:

@Jonathan Bombaci

Try to scratch some more money for the safety issues such as electrical and fire escape from seller. Request another 100k and see where it lands. Do you have an agent? Even an as is contract as some room for substrate/safety issues sometimes. Cant hurt to try.

I already scratched $30k on the deal leveraging these items. It's an off market deal that was brought to me but it'll sell quickly, for more $, if they put it on MLS. Unfortunately this is the take it or leave it numbers.

Jonathan, I think you just solved your own problem. If it'll sell quickly and for more $ on the MLS, why don't you just do that? You'll pocket a %, still have cash, and can go find another deal. Otherwise you'd have to wait 3-4 years to see any return.

Originally posted by @Matthew Wolf :
Originally posted by @Jonathan Bombaci:
Originally posted by @Javier D.:

@Jonathan Bombaci

Try to scratch some more money for the safety issues such as electrical and fire escape from seller. Request another 100k and see where it lands. Do you have an agent? Even an as is contract as some room for substrate/safety issues sometimes. Cant hurt to try.

I already scratched $30k on the deal leveraging these items. It's an off market deal that was brought to me but it'll sell quickly, for more $, if they put it on MLS. Unfortunately this is the take it or leave it numbers.

Jonathan, I think you just solved your own problem. If it'll sell quickly and for more $ on the MLS, why don't you just do that? You'll pocket a %, still have cash, and can go find another deal. Otherwise you'd have to wait 3-4 years to see any return.

 That is funny... I guess sometimes the answer is right in front you. Thank you for pointing that out!

Originally posted by @Jonathan Bombaci :
Originally posted by @Larry T.:

@Jonathan Bombaci I think @Matt Lefebvre ’s reply is brilliant. Honestly, this is a decent deal for someone who has the cash to take care of these capital expense items immediately. For you, the down side risk is too high.  Unless you can get the price down another $50k I’d walk—or get someone to partner with you.

Thanks for the reply Larry, I was thinking about bringing a partner into the deal but I've been trying to avoid it... I've never partnered with someone on a real estate transaction but I have on other business ventures and it always seems to break down. 
Do you  think I could close on it and then try to bring a partner into the deal after the fact if I need a cash infusion or should it really need to be done upfront? 

What are your thoughts on partnering with Friends or Family? Is that something to be encourage or avoided? 

 Jonathan,

I agree with Larry. Bring in a partner and re-negotiate the deal.

You can either negotiate to get the price lowered or you can get a deferred maintenance credit/ repair credit at closing.  The latter is preferred so you get more cash at closing which you can then use to get the repairs started.

With regard to bringing in a partner, I would prefer to bring in a partner now so that you're assured you have someone committed to do the deal with you. As regards getting friends and family as partners, my personal preference is don't do it but I don't know your friends and family. I would rather partner with another real estate investor, specially someone with experience.

Another option is get a hard money loan to buy the property inclusive of the rehab and then refinance to get long term financing.

Last option is to do owner financing with the seller. You get a partner to provide the funding to renovate the property, then after that you can get long term bank financing to cash the seller out.

I say 'Buy It'. The seller has already made all these calculations which is why they are selling-regardless of whatever else they say. I would want to get the ask down some more(50k) to help pay for the capital outlay.

This capital expenditure does not have to be done all on day one. The deal cashflows very well except for these major expenditures. If you project the capital outlay as needed and over time there will be cashflow. Any building is going to act up whenever a new owner steps in-I think there may even be a law that applies.

Get more than one quote to fix the issue and you may find a better way.

You might also look at financing these items over time, although with all that cash coming in you will want the write off expenses against income. All the more reason to spread out the costs as much as you can.

All the best!

Since you mentioned "it would be 24 units" a couple times I get the feeling that part of the reason you are stuck on this is because you want more units.  Units may sound impressive to some people on here but more units does not equal more cash.  

You have to figure out your exit game and see if this project would hold you back in other areas.  I am not sure how you are swinging the seller kick-back but I am sure your bank wouldn't like hearing that.

Originally posted by @Jonathan Bombaci :
Originally posted by @Matthew Wolf:
Originally posted by @Jonathan Bombaci:
Originally posted by @Javier D.:

@Jonathan Bombaci

Try to scratch some more money for the safety issues such as electrical and fire escape from seller. Request another 100k and see where it lands. Do you have an agent? Even an as is contract as some room for substrate/safety issues sometimes. Cant hurt to try.

I already scratched $30k on the deal leveraging these items. It's an off market deal that was brought to me but it'll sell quickly, for more $, if they put it on MLS. Unfortunately this is the take it or leave it numbers.

Jonathan, I think you just solved your own problem. If it'll sell quickly and for more $ on the MLS, why don't you just do that? You'll pocket a %, still have cash, and can go find another deal. Otherwise you'd have to wait 3-4 years to see any return.

 That is funny... I guess sometimes the answer is right in front you. Thank you for pointing that out!

 Yup I thought the same thing  when you said that. Or see if you can assign the deal (wholesale it). 

In response to your previous question to me, I don’t like partnering either. 

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.

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