Would you buy this Section 8 deal in Detroit?

Question

Looking at this opportunity:

• Purchase: $75k
• Rehab: ~$10k
• Rent: $1,400/mo (Section 8)
• Est. taxes/ins: ~$250/mo

Roughly ~$1k/month before maintenance.

Curious — what return would you need to pull the trigger on something like this?

Tommy Reeves · Answer

I do Baltimore row houses so same general situation -- aging stock, urban market, tenant class decisions. The Section 8 HQS inspection is the piece missing from that math. On older housing in markets like Detroit or Baltimore, inspectors flag repair items every time they re-inspect, and you're on the hook. It's not always cosmetic -- I've had plumbing and electrical items come up that weren't part of my original scope. If the house has deferred maintenance that a $10k rehab doesn't catch, Section 8 will surface it. That changes the capex math pretty fast.

Drew Sygit · Answer

@Tommy Reeves and @Bo Smith, we've been heavily involved in City of Detroit rentals and S8 for 15+ years and have never had S8 require electrical or plumbing SYSTEMS to be replaced.

Running new romex to ground a GFCI or replacing a galvanized hot water supply line to a sink is about the extent of it.

Have even had S8 pass knob & tube systems.

All that can be done for $1k-$2k.

What you BOTH are missing is S8 doesn't care if a property is in a Class A or D Neighborhood, S8 pays the same amount of rent.

We have a TON of naive investors getting scammed into buying Class D rentals in Detroit in neighborhoods so bad, no S8 tenant wants to live there - unless you legally bribe them with new appliances and TVs😞 And there are several turnkey outfits here doing just that.

So, in our native experience, you are both missing the real issue.

NOTE: You both post some good stuff, just be cautious when it involves our home turf of Detroit😎

Tommy Reeves · Answer

Fair point and appreciate the correction on the Detroit side. I should've been clearer that my Section 8 inspection experience is all Baltimore, and Baltimore City inspectors can be a different animal. I've had them flag panel capacity and require upgrades on units that had been passing for years, and the plumbing items I mentioned were Baltimore-specific cast iron situations, not necessarily what you'd see in Detroit stock.

Good to know Detroit S8 is more reasonable on that front. The neighborhood class point is the one I should've hit harder anyway, that's the real make-or-break on these deals regardless of market.

Dan H. · Answer

I would not take that property for free if I had to hold it more than 5 years.   Here are some thoughts:

- property at $85k is likely class D.  Class d is a lot of work.

- 50% rule is very aggressive at that rent point.   50% rule would be $700/month, $8400/year.  Less than 10% return by cash flow.   a more likely expense ratio is over 60%.   60% expense ratio is. $560/month, $6720/year.  7.9% return from cash flow.  I do not invest in RE for 7.9% or even 10%.   There are passive options that provide better returns. Sp500 has lifetime return of near 10%.   I do not choose investing in RE unless the projected return can far exceed passive options.  - at $85k, this property has historical appreciation below the inflation rate.  The implication being this property is likely to decline in value in inflation adjusted value.

- rent at $1400/month has historical rent growth below the inflation rate. The implication being this property is likely to experience declining cash flow in inflation adjusted value.

In summary, this property today does not provide a return worth the owning of a class D property.  The return and value are likely to decline in inflation adjusted dollars.  Why would an investor choose to purchase this property unless they like pain?

Good luck

Bo Smith · Answer

That deal actually works and I'd pull the trigger on it. Here's why: you're getting $12k/year in cash flow on an $85k investment (purchase + rehab). That's 14% CoC return right out of the gate. Most Section 8 properties in decent markets are doing 8-10% at best, so you're ahead.

The real question is maintenance and tenant stability. Section 8 tenants are usually more stable than market-rate because their subsidy is reliable and they don't want to lose it. But you need to budget for maintenance -- Section 8 properties run harder than move-to-move rentals. I'd want to see what the property condition actually is (not just the inspector's report), and I'd want to know the Section 8 payment schedule in that market. Some programs are rock solid, others have payment delays that'll tie up your cash flow.

If the bones are good, property condition is solid, and Section 8 in that area is reliable, that math works. $85k gets you $144k in gross rent over 12 years plus whatever appreciation you capture. Have you checked whether this specific Section 8 program has any payment delays or waiting periods before they start funding?

Denise Supplee · Answer

Hello @Jake Osborne, Investing in a city is tough enough with usually heavily tenant-friendly landlord tenant laws. And then dealing with the inspections, regulations and rules of the Section 8 program adds another level of challenge. I think it is great to offer affordable housing for those struggling but make sure you are very educated on the landlord tenant laws and all of the Section 8 housing requirements. Good luck, wish you the best of success!

Bo Smith · Answer

The math looks clean on the surface, and that's exactly why deals like this are tricky. Tommy hit on the real issue -- Section 8 HQS inspections are where these deals go sideways. A $10k rehab might actually be a $15-20k rehab once an inspector gets in there and flags things you didn't catch. Old electrical that doesn't meet code. Plumbing vents that need replacement. Handrails. Those add up fast.

Here's what I'd actually want to know: What's the property condition? Is this a turnkey flip, or is there deferred maintenance hiding? What year was it built? Detroit has a lot of older stock, and older houses have older systems. If this property was built before 1980, there's a good chance you're dealing with cast iron pipes or original electrical. Either of those fail inspection and now you're looking at $8-12k in remediation.

The return question is important too. At $75k buy, $10k rehab (best case), $1k/month net, you're looking at 16% annual return if nothing breaks. That's decent, but it's also not much cushion for the Section 8 inspection risk or tenant issues down the road. What's your risk tolerance if rehab balloons to $20k? How long are you planning to hold this?

Henry Lazerow · Answer

Sounds like the kind of garbage wholesalers like to pitch. Real life $10k does not get you anything in terms of actual rehab, maybe paint and some of the sec 8 required repairs.

Drew Sygit · Answer

What Neighborhood is it in?

Brightmoor? - I'd pass!!!

Also, do NOT assume you will get a S8 tenant!- Despite what the online scammers say, there are only so many S8 vouchers in ANY market - otherwise why wouldn't YOU have one and live "rent-free"?

Here's some copy & paste info to help you understand what your analysis is missing:

----------------------------------------------------------------------------------------------

You’re ALWAYS better off investing locally, where it’s easier to:

• Learn the market
• Network to find deals
• Network to find contractors
• Be more hands-on
• Driveby property to keep tabs on it
• Network to find a decent Property Management Company (PMC)

Next best location is somewhere else you lived, where you have an existing network of family & friends to help you as accomplish the above list as needed.

If you invest OOS, your biggest challenge won't be finding properties to meet your goals on paper, it’ll be successfully outsourcing all of the above.

The biggest mistake we see OOS investors making in our market, over and over again, is not fully understanding Neighborhood/Property/Tenant Classes and how they impact your probability of success!

They all run their ROI numbers assuming Class A results – when buying Class B, C & even D rentals.

Then they’re shocked when their performance expectations aren't met😞

If you choose to invest OOS, and have little to no landlord experience, we highly recommend targeting Class B Neighborhoods/Properties/Tenants. If you target Class C, you better be prepared emotionally & financially for plenty of challenges.

You can find Class B properties in the Midwest to BRRRR, but it will take more digging and YOU will need to understand how to analyze & identify them - because a lot of agents, wholesalers, PMCs, etc. will try to sell you Class C or D misrepresented as Class B:

• Many of them don't know/care what Class the properties are, so they're incompetent.
• Others know exactly what they are doing, so should be labeled as crooks!
EITHER WAY YOU LOSE!

Why is Property Class so important for investors to understand and apply in their investing strategies?

Because the Property Class dictates the Class of the tenant pool that the property will attract.

The Tenant Class greatly impacts rental income stability and property maintenance/damage by tenants.

Both Property Class and Tenant Class will affect what type of contractors, handymen and property management companies you should target and be willing to deal with a property.

The Property Class will also impact the maintenance & renovations you do to, “Maintain to the Neighborhood”.

Why is that important?

Well, if you buy & renovate a property in Class D area to Class A standards, what Tenant Class will actually rent it?

Or, if you put several Class D tenants in a Class A four-plex, what do you think will happen to the property?

So, if you fail to apply the correct assumptions to a property, your expectations won’t be met, and it may even be a financial disaster.

We use the following to rank Property Classes, in order of importance:

• Property Tenant      Pool: closely linked to location, but not always.
• Property      Location: closely linked to tenant pool, but not always.
• Property      Condition & Amenities: it’s important to, “Maintain to the      Neighborhood.”

Key metrics for each Property Class:

Class A Properties:
Tenant Pool: Majority of FICO scores 680+, no convictions/evictions in last 7 years.
Tenant Default: 0-5% probability of eviction or early lease termination.
Section 8: Class A rents are too high and won’t be approved.
Vacancies: 5-10%, depending on market conditions.
Cashflow vs Appreciation: Typically, 3-5 years for positive cashflow, but you get highest relative rent & value appreciation.

Class B Properties:
Tenant Pool: Majority of FICO scores 620-680, some blemishes, no convictions/evictions in last 5 years.
Tenant Default: 5-10% probability of eviction or early lease termination.
Vacancies: 10-15%, depending on market conditions.
Cashflow vs Appreciation: Typically, 1-3 years for positive cashflow, balanced amounts of relative rent & value appreciation.
Section 8: Class B rents are usually too high for the Section 8 program.

Class C Properties:
Tenant Pool: Majority of FICO scores 560-620, many blemishes, but should have no convictions/evictions in last 3 years. Verifying recent 2-years of rental history very important! Same for 2-years of job/income stability.
Tenant Default: 10-20% probability of eviction or early lease termination.
Section 8: Class C rents usually meet program requirements, proper screening still recommended.
Vacancies: 10-20%, depending on market conditions and tenant screening.
Cashflow vs Appreciation: Should cashflow immediately, at the lower end of relative rent & value appreciation.

Class D Properties:
Tenant Pool: Majority of FICO scores under 560, little to no good tradelines, lots of collections & chargeoffs, but should have no convictions/evictions in last 12 months. Verifying last 2-years of rental history and income/employment extremely important to find the “best of the worst”.
Tenant Default: 20-30% probability of eviction or early lease termination.
Section 8: Class D rents meet program requirements, often challenges to pass Section 8 inspection.
Vacancies: 20%+, depending on market conditions and tenant screening.
Cashflow vs Appreciation: Typically, all cashflow with little, maybe even negative, relative rent & value appreciation.

Where did we get our FICO credit score information from?

Check out this chart:

FICO Score

Pct of Population

Default Probability

800 or more

13.00%

1.00%

750-799

27.00%

1.00%

700-749

18.00%

4.40%

650-699

15.00%

8.90%

600-649

12.00%

15.80%

550-599

8.00%

22.50%

500-549

5.00%

28.40%

Less than 499

2.00%

41.00%

Source: Fair Isaac Company

Make sure you understand the Class of properties you are looking at and the corresponding results to expect.

Metro Detroit has 132 cities, the City of Detroit 183 Neighborhoods, which we’re analyzing and classifying. Check out the map on our website where we’ve made this all easy to follow.

We can also share numerous examples of properties & portfolios we’ve assisted investors with!

DM us if you’d like to discuss this logical approach in greater detail!

Horror Stories from those that did NOT Understand What they were Buying:

https://www.biggerpockets.com/forums/48/topics/1137397-baltimore-a-path-to-never-ending-pain

https://www.biggerpockets.com/forums/432/topics/1231840-sell-at-a-loss-or-rent-at-a-loss

https://www.biggerpockets.com/forums/311/topics/840134-memphis-turnkey-tenant-turnover-costs

https://www.biggerpockets.com/forums/963/topics/1195280-experience-of-oos-investing-in-cleveland-after-15-years

Chris Seveney · Answer

I would not buy anything in Detroit that is only $75,000

Would you buy this Section 8 deal in Detroit?

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