In Contract! Should I close?

24 Replies

Hey biggerpockets family!

I was hoping to get some input on this deal I'm in contract with. This will be my first value-add property that I will be purchasing out of state. 

I am purchasing this for $78k.. The market shows that my ARV could be anywhere between $120- $135. Bellow is the breakdown of the property.

ARV: $120k

REPAIRS: $25k-- Contractor says he can do it for 25k but "nail on the head is 30k."  he told me to have a contingency of 5k which I don't know if its a good thing or bad thing for a contractor to tell me how much I should have in reserves. I planned on having a contingency of 10-15% extra on the 25K repairs but that kind of through me off when he gave me his input. Should I expect it to be 30k in repairs now? The work should be done in 2 months but I based the rest of my numbers on 3 months. 



Total Cost: $35,360 (assuming 30k in repairs)

I will be doing a cash out refi (80% LTV) into a 30 year fixed rate. Keeping this property as a rental.

Rents in the area are between $800-$975.

With my finishes I should be able to get around $850-$925 for rent...

Do you think it is a good deal for an out of state investor on his first deal?

Thank you for your feedback!! 

I don't like the metrics on the deal and my guess is that you might be leaving out a lot of costs. The contractor's 25-30k estimate includes more than labor? Does it include supplies, tile, countertops, appliances? If not, those are coming out of your pocket. Are your holding costs just the loan costs? What about electric, gas, and water, security? How did you find the contractor and who is going to manage the progress? Are you allowing the contractor to use all of his or her subs on the job? Do you have someone impartial in the area to look over the project while it is going on?

Your spread is way tighter than you think. Your closing costs are at less than 2%. Many states are between 3-4%. Are you also adding in about $1,000 for all of your inspections? Your value, based on your calculations, will be at around 110k and your rent will top out at $925/month. What is your cash flow going to look like, if any, since you will be under 1 percent rule and on a 78k buy-in, you should never be under the 1 percent rule.

@Jonathan Greene Thanks for the reply! I submitted a detailed scope of work that included appliances as well. Contractors estimated costs were with labor & materials. Closing costs on a cash purchase is about 1% of purchase price. My holding costs include utilities, taxes, and insurance. I have a private lender lending me the rehab at 10% return (3k off of 30k) that I will be paying full after refinancing.

I found this GC Through referrals online and he will be using his subs on the work. My Property management company is going to be over seeing the project and inspecting the work per draw periods. I will be around .8% off the 1% rule. If I were to spend 30k on rehab, with my ARV at $120k.. I should have no problem getting $850 for rent with my finishes. With variable and fixed expenses accounted for, Ill be making around $150 cash flow with a 10% ROI. Not the greatest numbers but those numbers are with me being conservative and for my first deal, the experience alone is worth it I believe.

It does not meet the 1% rule but the area I am investing in has a strong military presents with rising population and job growth. I am not banking on appreciation but I am taking that area in consideration. 

$30,000 in repairs on a $78,000 house usually means major work.

If homes are going for $120,000 in the area, fixed, all you are doing is buying at essentially market but undergoing all of the cost and hassle of a fix-up job.  Why not just buy a fixed up $120,000 house?  Seems like a safer bet.  

Unless the contractor is a close friend who is willing to guarantee a certain result for a certain sum or range, I would add 50% to the estimate (so, $45,000).  It's just the way of the world.  

How long is your lender going to wait for the 10%?  What if delays cause the work to go on for 6 months? (not unusual).  What happens to your investment? 

@Darius Ogloza Thanks for the reply! I did not account for a 6 month rehab period. It is major cosmetic work. I have an inspector going out there on Tuesday to inspect the ticketed items. You might be right on a safer bet to just purchase at a premium. I was looking at it from a perspective that I would be leaving around 10% down payment rather then 20%. Is it worth the the hassle and risk of going through the process of rehabbing to market value to gain the experience? Well, I don't know. that is why I am reaching out to me peers to get some input. I know nothing is guaranteed when investing so to assume that a contractor can guarantee anything would be foolish. But why would you add 50%? It went from him stating he could do it for 25k with 5k contingent in his eyes, to you stating I should account for 50% over that price? I am just curious how you came to that and if I should be accounting 50% contingency on all my future rehabs...That seems like a huge gap. My lender is aware of the risks involved and understands that the project could go on longer then expected and is willing to wait. 

Repair costs are notoriously unpredictable.  Many contractors in my experience incorporate this factor into their business models, finding reasons - often legitimate but sometimes not - to hit you with a barrage of change orders.  Once your walls are opened up there is nothing you can really do but pay.  I cannot recall a single instance in which someone came in under or at the initial estimate.  I have had projects that exceeded the initial budget by more than 50%.  Not that rare, really, in large projects involving many moving parts.        

You have guts. An OOS BRRR is likely the highest risk strategy for a first time purchase. I recommend a different strategy than using the PM to manage the project. It does not appear they are getting compensated and picking up one $900 rental is not worth their effort to properly manage a $30k rehab. With a new relationship, managing draws is insufficient...someone needs to be onsite every few days. I learned that the hard way.

Money aside, this property will cost you more headaches and time and energy than the several hundred dollar monthly rental income is worth .....

Thank you everyone for your input. Thankfully I have until the second to decide if I want to close. It seems as if the risk is outweighing the reward. I didn't account for a 50% contingency on the rehab nor a 6 month time frame for rehab. I would need to purchase this property $10-$20k less. 

@Josh Norell I spoke with a bank out there and their refi is 80%.

@Steve K.   If I were to account for 50% over budget and total 6 months rehab, I would be at 75K but I am still leaving in around 12k in the deal. I would have to come in significantly lower it seems since this strategy is way more risky for a beginner like me like @Mike Dymski stated. Maybe I am being to bullish and risky. @Darius Ogloza Thanks for your input. I sent out earnest money already. I will have to find a realistic reason why I am backing out of the deal after inspection. Maybe state that rehab costs is projected to reach around 38k after contingencies are placed.

@Diane G. You might be right but this location is sooooo nice! My plans are to build a rental portfolio out in this market. not just a one and done deal. I want to have at least 3-5 buy and holds before I branch out to other markets. 

Where I live does not make sense to invest in rental properties which is why I am investing out of state. I am doing my best to put the right people in place to make it work. I spent over 2 months just building a team out there. I will not let Risk defy me but I have to make sure it's the right decision and deal for me. Should I just be focusing on deals that meet the 70% rule? the market is so hot that I'll be waiting forever for that property to meet that criteria. 

@Alexander Reda you are doing what many new investors do, you are asking for input and then basically dismissing most of it based on your estimates. But you don't have the experience to make these judgments. If you decide to go for it, best of luck, I am sure we are pulling for you. But chances are you are going to come back to this forum and wish you dug a little deeper on what we were saying. Just because you spent two months building a team doesn't mean you have to buy one. Your team is built on excess costs that you can't verify. A GC from online and a PM company you hired online - not a good setup to reduce skimming on a flip and hold.

It sounds like you've made your decision. It will be a learning experience. I do suggest you do a worst case analysis...assume your contractor is over by 50% and your ARV comes in 10% low when you go to refinance. Are you still happy in 10 years you did the deal...or will the stress of that situation or financial impact be too much that you never do another deal?

@Alexander Reda My thoughts: Not enough meat on the bones. If purchase price plus renovations basically equal the ARV...why not just buy a turnkey property? I wouldn't touch this.

You should always have money for a contingency, so I'd take that as a good sign that he told you that. Based on your numbers, you are all in at $108K for a place that ARV is $120K. $25K is a lot for cosmetic work. Make sure what you are doing is necessary for a long term rental. How much rent would you get without renos?

I did a major rehab on one rental that ran about $25K.  It involved replacing the bathroom (down to the studs due to an old water tank that had since been replaced, but not before it leaked and the bathroom was a disaster-rusted tub-everything was new), replacing kitchen cabinets, counter and sink (again water damage-this we knew about), new flooring in some rooms, paint throughout and new drywall on the ceiling in two large rooms), 3 new windows and rebuilding that wall because...yup water damage). I bought it knowing I'd have to do work though I didn't expect $25K (we figured $15K as the bathroom and windows were unexpected).  We did what we could ourselves (bought cabinets, counters, painted, flooring) or the price would have been higher.  The contractor we had helping us figured we spent $35K (we didn't, but that speaks to how much we did).

Thank you everyone for you input. I am taking everyone's advice here. There is not enough meat on the bone especially a first go around with PM and GC. Even if 35k-40k rehab would work at a way lower purchase price, I should just pass up on this deal. Seems to be way to risky. You guys made me see it from your angles.... All I gotta say is thankkkkkkkk Godddd I decided to post this deal on these Forums. seems like I just dodged a potential money pit. 

Hey @Theresa Harris I did have money in contingency but not enough. I made some rookie mistakes but thankfully the investors in this thread stopped me from making a bad move. The house needs a new roof and HVac. the rest is mostly cosmetic. It needs to be rehabbed to get any type of Rent out of it. Unfortunately, I wouldn't be able to do any of the work myself. Knowing your figured 15k and it cost 25k,  cements what the other investors have been stating in this thread.... my contingency is way to low.  

@Alexander Reda I wouldn’t close. I don’t think you’re going to get any cash flow out of that house and you can’t build a rental portfolio out of house as you pay retail for. There are way better deals out there so Lose the Ernest money or maybe you’ll be able to save it but go hunting for a better deal

Hi Alexander, 

The numbers are a bit tight in my opinion. What will your monthly payments be to your lender? Compare your profits and subtract it from utilities, PM, and cash reserves. Also consider marketing and vacant costs. Just always expect for the worse and stack up on your cash reserves.

Additionally, there are some private money lenders out there that do 90% LTV and cash out refinance 60% to 75% of the ARV if you keep it as a rental. Continue to compare your options with lenders and what is best for your short and long term goals.

Good luck!

@Natisha Phouphayly After all expenses, I was going to cash flow $140 conservatively. Not high but my ROI was around 15% (this is going off my original estimations) and the property was in a really good area so my intentions were to hold for a long time. I have 2 private investors who are willing to lend to me. I also located a Bank out there that says they do 80% LTV on cash out refis with buy and holds. I am actually in the process of giving them the information they need. One less obstacle to cross for when I DO find the right deal!