First duplex; loan just funded today!

[Joshua J Cawthorn]

Hey guys! Super happy to report: the loan on my first duplex just funded and I'm expecting to pick up the keys tomorrow evening. Paid $700,000 for a duplex: 3 bed/1 bath upstairs and 1 bed/1 bath downstairs in the North Park (92104) neighborhood of San Diego, CA. Funded using the VA loan and put about $14k down.

Bought it at the very bottom of the asking price because this baby definitely needs some work: the plumbing is questionable and there is some cosmetic stuff that needs to be rehabbed (kitchens and bathrooms and exterior of house especially). I can't WAIT to pour some money and love into this place, raise the rent and move renters in, get it appraised and do a cash-out refi.

This is my second property, my first being a single family home in the same zip code. It is currently rented out and cash flows at a generous, whopping $171/month. The current tenant that occupies that house is amazing, takes great care of the property, always pays on time, helps me with the repairs by coordinating with repairmen and/or just otherwise being available to help. He also lets me know when things need repair, which is so helpful!

My intention is to owner occupy this duplex for 12-months (as is a stipulation of using the VA loan) and use those 12 months to complete rehabs. I'll be funding those out of pocket, while paying a portion of the mortgage. In 12 months, ideally, I'll have the place reappraised and higher rents in place. At which point, I refinance out of the VA loan (into a conventional) and do it all over again!

Very excited about being able to do this and to share it with you guys!

[Justin R.]

Originally posted by @Joshua J Cawthorn:

Originally posted by @Dan H.:

That is a lot of negative cash flow.  If I use 50% rule and subtract 10% for self managed (so 40% rule) we have a rent of $3900 with costs other than mortgage service of $1560 (40% of $3900).  I suspect and hope that the $4078 includes escrow holding for insurance and tax.  If I allocate $1K of the payment for Escrow holding (probably a little high) the debt service is $3078.

$3900 - $3078 - $1560 (maintenance/cap ex, vacancy, insurance, Prop tax, Misc: 40% rule) = -$738/month.

Hopefully the value add provides a large return (and by the sound of it, there is good potential for it being able to provide a good return). I suspect you will find it real difficult, due to LTV limits and low refinance appraisals, to refinance it to pull money out. The value add will likely be trapped in the property, but it will be there. It will also result in higher rents that will help with that huge current negative cash flow (I suspect you could get it down to less than half of my current estimate after completing the value add). Without the value add, this property would take around a decade, at my forecasts, to be cash positive.

Good luck

Thanks, Dan. I was specifically looking forward to your response; I love following your analyses over the forums, I know you're quite active.

Your numbers are pretty close and you're right that the escrow is a little less. I bought this place knowing the cash flow would be negative- initially. I want to put some money into it and be able to raise the rent enough to maybe cash flow positively. At least break even. The market appreciation game seems to be the strategy of favor. Definitely hope it takes less than a decade to become cash positive!

Storytime:  In 2004, I purchased a nice little place in North Park.  Initially, it had negative cash flow, but my plan was to live there for a little while until my girlfriend and I got married, then maybe keep living there, maybe move up to something else.  We got married, moved out, and a great tenant moved in.

Fast forward to 2019 and I still own this place.  It's still in North Park.  And, it's still negative cash flowing.

Of all my real estate activity buy-and-holds in the ensuing 15 years, this is still my worst one.  Here's why:

1. I bought it with negative cash flow.  I still have my spreadsheet showing how great an investment it was going to be, assuming things appreciated at only 1/2 the rate they were at the time.  The market didn't obey my spreadsheet.

2. It was someone else'e flip.  That's not to say there was no more value to add (my spreadsheet proves it!), but someone else already squeezed the equity juice out of it and left me with the rind.

The only reason I still own it is that it was purchased in North Park ... in 2004.  It was the path of progress and that progress has been a tidal wave in that area.  You live there, so I'm sure you know.  That, and I just haven't dealt with selling it yet.

One may be asking, "How can it still be negative cash flowing?"  That's an ok question, but "cash flowing" is really a beginner investor concept and focusing on it is like spending time talking about the weather.  It's not substantive.  The question is really whether the overall return has been better or worse than the alternatives.  It's been worse (compared to other properties, and compared to SP500).

If you're going to enter a race amongst all available investments, it's better to start in pole position.  Starting elsewhere doesn't mean you can't make money or win, but it means you need to get lucky ... it's just making it harder on yourself.  I truly wish you the best and will root for you on this deal/strategy, but it's not a route I would recommend.

Incidentally, you do have the advantages of (A) very very low primary residence mortgage rates and (B) low down payment requirements.  Both HUGE assets when starting in the San Diego market - glad you're putting them to use!