Thoughts on Cleveland Investing
Over the past three years, I have been imbibing information about the Cleveland residential income market, both as an active investor and a Realtor with clients interested in investing. My focus has narrowed to affordable housing in part because it delivers consistent, somewhat guaranteed returns, but also because there is a need for better quality housing in that space. Due to the financial crisis, the borderline
unscrupulous (and often illegal) promotion of Cleveland investing to foreign markets (low money in, no improvements, exit by abandonment), and the market-killing point-of-sale inspections, it's a market that cries out for even a moderate level of social responsibility to breathe life back into communities.
I thought I would share some of my criteria/analysis on investing in this market; it is information that I provide to potential investors and pretty much what I use to look at investable properties for them and myself. These are all my opinion, obviously not intended to be legal, financial, or other investing advice. In no particular order:
- Never analyze a rental property's potential ROI by adjusting the gross rent to "make" an attractive number. There are numerous websites with rental market data (like Rentometer) that provide a "spread" of values. I use the lower and average values for my numbers. If the ROI is within your target range, then it's an indication, it might be a viable investment. If you have to "bump" the income up for it to make sense, you're going to lose.
- In-depth inspections are critical. You could buy a property for a penny, then find that you have to put more money in than you can ever recover. A key inspection to make is having the drainage (storm and sewer) lines camera inspected. It's a $450 or so inspection that can save you $10,000 in repair costs. Lead-based paint is a fact of life, as is asbestos wraps on radiator pipes.
- The City of Cleveland passed an ordinance requiring all rental property to get a lead-based paint inspection and clearance certification starting in March of 2021. It's a rolling program over about 18 months. The base cost for inspections will be $250-$400 per unit, so factor that in. Mitigation can run as high as $5,000 per property. It is critical that you factor in dealing with LBP right after you close so that you can pass the inspection.
- Water and sewer costs here are high; I use $35 per bedroom with a minimum of $80 per month. You cannot submeter unless the tenant has free access to the meter, and you cannot apportion the water bill.
- The minimum cost for liability insurance is around $800 for an SFR. You can find cheaper coverage that will not protect you. Companies are getting very picky about homes with old roofs or with knob-and-tube wiring. They will ask what percentage of the house is KnT. If it's more than their minimum, the insurance cost will be significantly higher. If you misrepresent the percentage and something happens, you lose. If the home has significant KnT, consider factoring replacement into your costs, even if you spread it out between tenants.
- Purchase Worker's Compensation Coverage for each entity that owns a property. It costs $120 per year if you have no employees. If a worker is injured and it is determined they fall under the employee category, not having worker's comp will cost you thousands of dollars in penalties and claim matches.
- Use a vacancy percentage - 10% is typical - as an adjustment for lost rent. If the unit is vacant for a month, you don't collect for that month, so you have to account for that loss. However, most people do not include the cost of turning over the unit - cleaning, painting, etc., as an ongoing expense. If your tenant lasts 2 years, the cost to rehab a unit will be at least $1,500.
- Standardize everything - if you will own multiple units, standardize paint colors, flooring types, etc. You can bulk purchase if appropriate and so that you can quickly match/repair problems. I avoid carpet like the plague and use either sheet vinyl or vinyl plank flooring - after two tenants, it pays for itself. Be sure to purchase extra materials, as the manufacturers discontinue colors all the time.
- If you are buying a turnkey property, aside from inspecting with a microscope, assume double the maintenance percentage the first year - turnkey properties are not going to be paragons of quality rehab, and the hidden problems will kill your ROI.
All the time for now, but I'll be back.