Investment Opportunity or Money Pit

[Ryan Metcalf]

I am considering a 2 unit commercial property.  The roof has about 3 years of useful life left and the HVAC system has about 5 years left.  Additionally, one of the tenants has been there for over 35 years.  When they eventually move out I will have to update that space and bring it up to code.

This property is going to require constant investment for the next 5 years.  Is this an opportunity worth pursuing?  What should I be thinking about and considering?

This would be my first commercial property.

[Joe Villeneuve]

First, do any rehab that will need to be done within the next 5 years when you buy it and have it included in the original financing. Why? It will be pretty close to free if you do. If you pay for it later, it will come out of your pocket as cash...and the only cost to a REI is the cash that comes out of their pocket. EVerything else, as long as you have positive CR is paid for by the tenants, and spread out over time in very small increments.

Now this is a commercial property, but I will give you an example of a SFR one where the roof will need to be replaced within the next 5 years, and I will have the original financing pay for it now, and why. Here goes.

Property cost is irrelevant in this example and you'll see why as we go...keep in mind there is positive CF.

If you wait until needs replacement, it will dost you $5k to replace..out of pocket as cash.  This means you will be $5k out of pocket, and $5k negative and have to recover the full $5k before you are positive again.

If you bury that $5k in the original financing, it will cost you about $25/month (Added to your monthly mortgage payment), or $300/year.  That's money that comes out of cash flow, not out of pocket.  There's a huge difference.  Now here's where the fun part begins.  If after 5 years you were to take advantage of 5 years of appreciation and sell the property, that roof would have only subtracted $1500 in total out of cash flow.  Now, when you sold, do you think that if you listed the property as having a new roof that was replace just 5 years previous, you could sell that property for at least $1500 more?  Probably more than that.

See, what matters is not what the bill says something costs that tells you how much it costs you.  What matters his how you pay for it.

Now apply this to your commercial property with all those potential costs you mentioned that will be needed within the next 5 years of so, and see what the numbers are for you.  This may not make the property a goldmine, and it still may be a Money Pit, but this at least might be a way to make it worth buying now.